Here are the answers with discussion for yesterday’s quiz. The information provided should help you understand the reasoning behind the answers. If you haven’t already done the Quiz from yesterday then have a go at it before you read the answers. I hope this helps you develop an understanding of Modern Monetary Theory (MMT) and its application to macroeconomic thinking. Comments as usual welcome, especially if I have made an error.
Sometimes I wonder how it is that a bright person can stick to a story for so long when the evidential record is so contrary to the predictions that their story keeps forcing them to make. Then again the predictions are often couched in terms of “might” and “We don’t know what will trigger such a wave of selling” (don’t know!) and “interest rates would shoot up” (would!) and “if the number of people trying to sell them surges” (if) and “inflation would erode” (would! again). So nothing concrete – just a series of assertions. So such a person is never really confronted with the reality that they know “shite” (a word I read in a book by an Irish author I have just finished – In the Woods by Tana French – recommended). This sort of denial is an overwhelming characteristic of the mainstream of my profession. I would love to be proved wrong if private households and firms do turn out to be Ricardian and fiscal austerity leads to a boom with full employment. I would abandon my MMT leanings within a flash and get on the prosperity bandwagon. Why is it that the mainstream, which has the dominant influence on policy makers – and therefore get to see their theories applied in the real world – not adopt a similar position. The predictive capacity of their paradigm is next to zero!
I haven’t a lot of time today (travel) but I thought the latest offering of the IMF was interesting. In their latest World Economic Outlook (April 2012 – which will be released in full next week) they provided two advance chapters – one – Chapter 3 – Dealing with Household Debt – demonstrates just how schizoid this organisation has become. They are clearly realising that their economic model is deeply flawed and has failed to predict or explain what has been going on over the last five years. That tension has led to research which starts to get to the nub of the problem – in this case that large build-ups of debt in the private domestic sector (especially households) is unsustainable and leads to “significantly larger contractions in economic activity” when the bust comes. They also acknowledge that sustained fiscal support is required to allow the process of private deleveraging to occur in a growth environment. But then their ideological blinkers prevent them from seeing the obvious – that sustained fiscal deficits are typically required and that in fiat monetary systems this is entirely appropriate when . Which then leads to the next conclusion that they cannot bring themselves to make – the Eurozone is a deeply flawed monetary system that prevents such fiscal support and should not be considered an example of what happens in fiat monetary systems. Some progress though!
Another relatively short blog coming up today – it is still holidays here and very sunny. There was an interesting Bloomberg article the other day (April 5, 2011) – Don’t Worry About Deficit That Will Heal Itself – which although containing some conceptual flaws arrives at the correct conclusion. That governments would be far better pursuing real goals – such as ensuring there is adequate infrastructure investment, putting into place appropriate climate change initiatives and maintaining high levels of bio-security – that becoming obsessed with fiscal horizons that they have very little control over. Further, in attempting to control these horizons, governments tend to err on too much austerity (for example, the UK and the Eurozone), which not only undermines growth but also thwarts their deficit reduction goals (via the automatic stabilisers). The lesson to be drawn from all of this is that – Governments should not worry about deficits.
It is a holiday in Australia today and the sun is shining and so this blog will be very short. There are so many issues going on at present that it is hard to know which one to prioritise. Anyway …
Yes, and more. There was an article in the EU Observer this week (April 3, 2012) – EU ‘surprised’ by Portugal’s unemployment rate – which I had to re-read a few times to check that I was actually reading the words correctly. The dialogue presented was so shocking that it raises fundamental questions about how one is interact with the economics debate. Then I read some more articles this week which investigated why mainstream economics retains its dominance in the face of its catastrophic failure to explain anything of importance to humanity. Closed minds are very resistant to change especially when socio-pathological dimensions are present. Which led me to investigate Mayan cosmology after being accused of being a practitioner of the art! Overall, another week in the life of a Modern Monetary Theorist (MMTist) – par for the course really.
The Australian Treasurer wrote an Op Ed in the Melbourne Age today (April 4, 2012) – Return to surplus is the right move at the right time – trying to defend his obsessive pursuit of a budget surplus in the next financial year. It was in direct response to an article yesterday (April 3, 2012) from the Melbourne Age economics editor Tim Colebatch – Budget cuts will bring on recession. Tim Colebatch’s commentary was a followup to his article last week (March 30, 2012) – Swan’s foolish surplus fetish – which I considered in this blog – A seriously reckless act. The pressure is mounting on the Government to abandon their reckless pursuit of the surplus. Even the conservative State premiers have expressed concern (States warn Wayne Swan over budget cuts. It is clear that the forecasts that the surplus were based on have no hope of being realised over the relevant horizon. The Australian economy is performing well below what the Treasury expected and deteriorating. The surplus obsession is based on these overly optimistic forecasts. The Government would be advised to assume the worst case scenario at present and calibrate its May Budget accordingly, rather than persist with the myth that the Treasury has it right.
Here are the answers with discussion for yesterday’s quiz. The information provided should help you understand the reasoning behind the answers. If you haven’t already done the Quiz from yesterday then have a go at it before you read the answers. I hope this helps you develop an understanding of Modern Monetary Theory (MMT) and its application to macroeconomic thinking. Comments as usual welcome, especially if I have made an error.
I read this morning that there were riots in Spain overnight – Arrests, clashes amid general strike in Spain. I thought that, ultimately, this may be the only way that the neo-liberal economic madness that has beset the world, amidst the worst economic crisis in 80 odd years, will be curtailed. By people power. It is a pity that we have allowed the political class to move so far beyond what is required to introduce policies that enhance the well-being of the citizens. How that happened is a separate question which I hope the political scientists and other experts shed some light on soon. It seems totally bizarre that popular support is given to political parties that introduce policies which undermine the prosperity of the supporters. In Australia, the Treasurer delivered a speech yesterday that confirms that even though we are a long way from the European maelstrom, our intellectual underpinnings are the same. Our Government is currently about to walk the plank because it is engaging in a “seriously reckless” act – trying to cut public spending by around 2.6 per cent of GDP when the economy is already in decline.
I have had very little time today (worse than usual). I gave a 3 hour lecture today on Modern Monetary Theory (MMT) and unemployment to a final-year class in the Social Work program at the University of Newcastle. It was interesting trying to work out how to explain all these concepts, which are intrinsically hard, to a group that has no background in economics. Just the language we use is not universal and so I spent quite a bit of time working out how to communicate. Anyway, the following blog is short as a consequence. But knowing I didn’t have much time, and the blog I am thinking about will require some more digging, I decided to take the chance today to write an Op Ed that was requested from a newspaper in Buenos Aires and which I am late in delivering. They only wanted 5,000 odd characters so it forced me to be disciplined. It is about fiscal austerity and will be translated into Spanish for their readers.
I was examining the latest US Federal Reserve Flow of Funds data the other day. This data comes out on a quarterly basis with the latest publication being March 8, 2012. Other related data from the US Treasury (noted below) fills out the picture. The data reveals some interesting trends in terms of US federal government debt issuance over the last 12 months. It shows that the dominant majority of federal debt issued in 2011 was purchased by the US Federal Reserve. Some conservative commentators have expressed horror about this trend. As a proponent of Modern Monetary Theory (MMT) I simply note that the trend demonstrates the nearly infinite capacity of the US government to spend.
In yesterday’s blog – A nation cannot grow without spending – I challenged a view that dominates the European debate which says that fiscal austerity (choking discretionary net public spending) supplemented with vigorous so-called “structural reforms” (aka ransacking wages and working conditions) will promote growth. The corollary of this view is that fiscal austerity alone will fail and the reason Europe is going backwards is not because of the austerity but rather, because the structural reforms process has not been implemented quickly or deeply enough. In all of this there is a basic denial of the fundamental macroeconomic insight – spending equals output which equals income. An economy can only growth if there is spending (aggregate demand) growth. That requires a demand-side solution irrespective of the state of the supply side. Supply improvements might reduce the danger of inflation or improve the quality of output but people still have to purchase the output for growth and innovation to persist. A related argument is that fiscal stimulus aimed at fostering growth will cause inflation and be self-defeating. This view prevails in mainstream macroeconomics as taught in the universities of the world. Some mainstream economists do qualify this view and give conditional support to the fiscal stimulus solution by appealing to what they term the “liquidity trap”. This blog is about that argument.
On Saturday (March 24, 2012), the Sydney Morning Herald published an article by University of Chicago economist John Cochrane – Austerity or stimulus? What’s needed in the US is structural reform. Earlier, on Thursday (March 22, 2012), Bloomberg published an Op Ed by Cochrane – Austerity or Stimulus? What We Need Is Growth. Different title but same article. However, the title, in each case, conveys a very different message to the reader. In either case, though, the content is the problem. A nation cannot grow without spending.
This is the Q&A (Part 4) blog where I try to catch up on all the E-mails (and contact form enquiries) I receive from readers who want to know more about Modern Monetary Theory (MMT) or challenge a view expressed here. It is also a chance to address some of the comments that have been posted in more detail to clarify matters that seem to be causing confusion. So if you send me a query by any of the means above and don’t immediately see a response look out for the blogs under this category (Q&A) because it is likely it will be addressed in some form here. It is virtually impossible to reply to all the E-mails I get although I try to. While I would like to be able to respond to queries immediately I run out of time each day and I am sorry for that. I plan to make this a regular Friday exercise.
The British government brought down their 2012 Budget yesterday. I haven’t had time to fully digest all the detail yet and I am not yet fully conversant with all the discussion papers that underpinned the official budget documents. My experience tells me that one usually finds some really interesting points that are hidden in the fine print of some of the less obvious government documents. Sometimes these points are “game makers”, which really expose the ideological slant of the budget. Not that you have to do much digging in this budget to determine what agenda the British government is now pursuing. The “bond markets are about to close us down” rhetoric is giving way now to Thatcherite “trickle down” stories. This budget is trying to sell the “puppy” that if more real income is transferred to the rich then they will ensure, through their enhanced enterprise, that the poor (which cedes real income) will eventually be better off. That is a variant on the “fiscal contraction expansion” myth.
I get a lot of queries about the difference between fixed and flexible exchange rates in terms of the options that each present a sovereign, currency-issuing government. I considered this question several times in the past. Many of those questions are pitched in terms of the basic macroeconomic framework for an open economy that appears in most mainstream macroeconomics textbooks, particularly those written in the 1970s, 1980s and 1990s. I am referring here to the Mundell-Fleming model which has been the mainstream staple for many years. The modern textbooks still teach these models but the exposition has evolved although remains deeply flawed. It seems that this conceptual framework is still used to make public comments along the lines that the US government is facing insolvency and that the euro remains the best monetary organisation for Europe. Those conclusions are as flawed as the model that spawns them. Flawed macroeconomic models lead to erroneous conclusions.
I keep reading news reports that claim that Apple (the company) has more cash to spend than the US government. For example, this ABC News report today (March 20, 2012) – Apple goes on massive spending spree – perpetuates this myth. I noticed a similar report was spread throughout the Internet overnight. Apple might have 90 odd billion US dollars in cash reserves at present which it could draw on at its leisure. But once its reserves were gone that would be it. Notwithstanding, the labyrinthine accounting arrangements, which obfuscate its true capacity, the US government could spend 90 billion tomorrow, 90 the next day, and 90 the day after that if it wanted to. I am not advocating that just noting the capacity. This example highlights how poorly we are served by the financial press which reinforces the ideologically-motivated lies the government’s and the corporate elites use to maintain their hegemony. Inflexible governments undermine our standards of living.
Yesterday (March 18, 2012), the Cleveland branch of the US Federal Reserve Bank released their latest estimates of US inflationary expectations. This data estimates what the “public currently expects the inflation rate to be” over various time horizons up to 30 years. The data shows that the US public “currently expects the inflation rate to be less than 2 percent on average over the next decade”. The ten-year expectation is in fact 1.38 per cent per annum. In the light of the massive expansion of the US Federal Reserve’s balance sheet and all the mainstream macroeconomic theory is predicting that such an expansion would be highly inflationary, how can the public expect inflation to be so low over the next decade? Answer: the mainstream macroeconomic theory is deeply flawed and should be disregarded. Modern Monetary Theory (MMT) correctly depicts the relationship between the monetary base and the broader measures of money and explains why movements in the former are no inflationary.
Here are the answers with discussion for yesterday’s quiz. The information provided should help you understand the reasoning behind the answers. If you haven’t already done the Quiz from yesterday then have a go at it before you read the answers. I hope this helps you develop an understanding of Modern Monetary Theory (MMT) and its application to macroeconomic thinking. Comments as usual welcome, especially if I have made an error.
There was a Wall Street Journal article (March 14, 2012) – Default and the Nature of Government – which demonstrates how a recall to history can be misused if key additional (contextual) information is left out of the discussion. The article in fact tells us nothing meaningful about the likelihood of sovereign debt default. The sub-title relates to the latest news from the Netherlands which suggests that the strident rhetoric of their leadership about the failure of the “southern” states to meet their obligations to the Eurozone might now be coming back to haunt them. If they are not, then they should. If the Dutch are to be consistent then massive and destructive penalties should now be imposed on them by Brussels. They won’t be – but that just tells you how dysfunctional the Eurozone is!