Australian Fabians Review
The orthodox response to the emerging school of thought has largely been an intellectual failure.
Walk into any pet shop in Australia and the resident galah will be talking about modern monetary theory.
MMT has gained significant attention in the public debate as colossal sums of COVID stimulus have triggered fresh bouts of fretting over ‘how are we going to pay for it?’. Yet the latest outbreak of debate has merely galvanised an argument within the economics profession that had been bubbling away beneath the surface since at least January 2019, when newly-elected US Congresswoman Alexandria Ocasio-Cortez suggested MMT ‘absolutely’ needed to be ‘a larger part of our conversation.’
The astounding feature of this debate has not been the litany of attacks on the theory by orthodox economists, politicians and commentators, but rather the spectacular failure of most ‘critiques’ to even correctly define MMT to begin with, much less actually interrogate its propositions. Even esteemed economists clumsily mistake it for some sort of proposal to ‘start printing money’, or some form of ‘People’s Quantitative Easing’ (QE). The depth and breadth of error in these critiques has cheapened the public debate, needlessly held up vital discussions, and diminished the credibility of the economics profession. The widespread failure to correctly understand and represent, much less combat, controversial ideas has exposed a worrying—and baffling—institutional limitation within the professional and academic commentariat.
MMT is a positivist (descriptive) theory that claims currency issuing governments, such as Australia’s, Japan’s, and the United States’, finance their spending in practice by first creating new money at the central bank, rather than by taxing and borrowing money from external sources. Currency issuers spend first, tax second, and borrow third. Currency issuers’ spending is therefore always paid for by money creation. Governments spend by electronically crediting (marking up) reserve accounts at the central bank, and tax by debiting (marking down) reserve accounts. Every dollar the Commonwealth spends is a new dollar created by a keyboard at the central bank, and every dollar the Commonwealth taxes is an old dollar effectively deleted from existence. Federal spending comes from nowhere but a keyboard, and taxes go nowhere. Federal public finance is an endogenous (internally-sourced) rather than exogenous (externally- sourced) phenomenon.
Note these are empirical claims about the budgeting process that already exists, not a proposal for a new process or policy. Within the social sciences, including economics, theories are often grouped into two categories: positivism—or theories about the way the world is—and normativism—theories about the way the world should be. With the sole exception of the Job Guarantee, which would offer a guaranteed public sector job at a living wage to anyone who wants one, MMT is an example of positivist, rather than normative, theory.
It claims to be a description of the way the Commonwealth already spends, not a proposal for how the Commonwealth should spend. To illustrate this point, it is worth comparing two different understandings of the way the current federal budget system works: the old- school, orthodox theory that claims the federal budget is externally-funded from outside sources, like taxpayers and lenders (the dominant view within mainstream economics), with MMT’s new, unorthodox theory, which accurately explains that the federal budget is in fact always internally-funded, or self-funded, by new money created by the government, at the point of expenditure.
The commonly held exogenous (externally-sourced) theories of public finance are familiar to all of us. We assume the story of federal public finance begins with a quantity of dollars existing outside the government, in the private sector and overseas, and the federal government comes along and taxes and borrows other people’s (existing) money, which is then spent on social services, various forms of discretionary spending, and paying back the principal and interest on the federal debt.
The sequence, supposedly, is ‘tax-and-spend’, with federal spending ‘reusing’ or ‘recycling’ existing dollars back into the economy. We assume this is the way the currency-issuing federal government spends, because that’s exactly how we spend as households: we don’t ‘create’ new dollars, someone else creates them, so we have to go out and get dollars from external sources; employers if you’re a wage-earning worker, customers if you’re a business. If we can’t earn as many dollars as we want to spend, we procure the rest by borrowing.
However, the currency-issuing government is nothing like a household or a business, or even a state or local government. Not because it’s ‘really big’ and can borrow at cheaper rates, or because the government never dies (unlike an individual consumer) so it can always roll over its debt, but in fact because the government’s spending process is entirely the opposite of a household’s. The common assumption that government spending is externally-funded is wrong.
The basic operations of the fiscal and monetary system, in the case of a currency-issuing government, are, in reality, internally-sourced. The federal government spends new money—central bank reserves—into existence, and into the private sector. Taxes simply withdraw and delete reserves after spending has already occurred. A federal surplus simply means the government has taxed and deleted more dollars from the economy than it has created and spent into the economy. Conversely, a deficit simply means the government has created and injected more reserves into the economy than it has taxed and removed. As MMT co-founder and economist Professor Randall Wray says, ‘there is no such thing as ‘deficit spending’, as a special type of spending. There is just spending, and then there is taxing, as two separate activities. The government spends, and pays for its spending, the exact same way [by creating new reserves] whether the budget is in deficit or surplus.’v
A currency issuing government can then choose to ‘borrow’ back a sum of money equal to the excess number of dollars (reserves) it created and spent, minus what it taxed and deleted, misleadingly called ‘borrowing to cover the deficit’. Or it could choose not to. Federal ‘borrowing’ (or the issuing of bonds, to be precise), just like taxation, takes place after spending, not before. Issuing or auctioning off bonds (sometimes called treasury securities), is financially unnecessary, not because the government could instead ‘just print money’, but because by the time the Australian Office of Financial Management (AOFM) goes to the primary bond market to auction off bonds, the government’s spending has already been paid for by the creation of new money at the central bank. Federal ‘borrowing’ simply converts the excess currency created by the deficit into higher interest-bearing bonds, rather than actually financing government spending in any real sense.
From these empirical observations, MMT economists such as Adelaide University’s Dr. Steven Hail draw two axioms.
Firstly, a monetary sovereign government faces no purely financial constraints, in that it cannot run out of its own currency and cannot be forced to default on debts recorded in its own currency. Secondly, that all economies, including those with currency-issuing governments, are limited by the scarcity of real resources. Any government which tries to spend beyond the productive capacity of the economy will cause inflation.
To these they add a third point in the form of a simple accounting identity, developed by the late Wynne Godley: the government sector surplus is the non-government sector’s deficit. When we include MMT’s only core policy proposal—the aforementioned Job Guarantee—we might regroup MMT economists’ core claims into a new list of three:
- Currency issuers already spend by creating money, and are therefore constrained by real resource scarcity and inflation, not bankruptcy; and
- The public surplus equals the non-government deficit; and lastly that
- The government can maintain low and steady inflation, alongside true full employment, through an employment buffer stock (the Job Guarantee).
Yet virtually none of the intense criticism MMT has attracted bothers to address any of these points, nor the empirical observations behind them. Instead, what usually happens is critics dust off some high school history essay about Weimar Germany and hyperinflation, and lay into the idea of ‘printing money’. Not only does this mean most ‘take downs’ of MMT completely miss the point, it also renders many of them useless for the purposes of properly interrogating MMT.
Even the most esteemed economists have fallen victim to this mistake. Reserve Bank Governor Phil Lowe told the House Standing Committee the RBA would not ‘implement’ MMT (which is technically impossible in a country that already has it), mis-defining it as ‘direct money financing’. MMT in fact points out bonds don’t finance federal spending, whether bought by the RBA or anybody else.
Andrew Leigh recently wrote ‘adherents to Modern Monetary Theory claim that the gap between revenue and expenditure can be bridged by printing money, a strategy they claim will have no adverse consequences’. MMT adherents actually claim all currency issuing government expenditure is already financed by money creation, meaning the suggestion we ‘should’ begin ‘printing money’ to pay for ‘the gap between revenue and expenditure’ is an oxymoron. Adam Triggs’ recent critique of Stephanie Kelton’s The Deficit Myth (2020) exemplifies this error:
‘Normally when the federal government spends money, it either increases taxes, cuts spending elsewhere, or borrows money from the public by selling bonds. MMT argues for a fourth option. Instead of taxing, borrowing or offsetting spending, the government should rely on the Reserve Bank to print money’
No, it doesn’t. Nowhere in Kelton’s book does she ‘argue for a fourth option’ of ‘printing money’ in place of taxes, borrowing or spending cuts. There’s no evidence of such an argument anywhere else in the MMT academic literature spanning 25 years, either. Not only does no such ‘MMT money printing proposal’ exist, but from the MMT perspective, this mysterious ‘proposal’ is an oxymoron. What Kelton actually writes is:
‘In truth, there is only one way to pay for anything. All federal spending is carried out in exactly the same way—that is, the Federal Reserve [or the RBA in Australia] credits the appropriate bank account(s).’
How can we explain this confusion? Either mainstream expert critics are failing to bother reading anything before attacking new ideas, or they do read the material and somehow misunderstand plain English, or they do understand the material yet choose to explicitly misrepresent it, hoping you, the layperson, will be simply too gullible to notice.
Laziness, incompetence and deceit are not attractive options, but here we are. There are some critiques of MMT which address the core point (that all federal spending is already money-financed, not that it should be), which is to say respectable and competent critiques, but they are shockingly few.
Incompetence aside, orthodox critiques struggle with consistency too: in merely a few months, former Gillard Government adviser Stephen Koukoulas has swung from comparing The Deficit Myth to Harry Potter, to sombrely declaring it ‘a very good read certainly covering a lot of important ground… [but] unfortunately it adds little to nothing to what most sober thinking economists already know,’ and all the way back to comparisons with ‘the theory of turning lead into gold.’ Orthodox critics don’t seem to understand what MMT argues—but then, they don’t seem to know what they’re arguing either. Is it ‘important ground we already knew’? Is it alchemy? Or is it an accurate description of a monetary system orthodox economists didn’t really understand, and are now, out of embarrassment, desperately trying to downplay to preserve their influence?
What then of MMT’s supporters? On the political left, growing awareness of MMT has raised the possibility of an end to austerity, insecure work, unemployment, wage stagnation, attacks on welfare and health and education, and the realisation that radical action on climate change is entirely achievable and affordable so long as we have the real resources to do it.
Alliances between progressive activists and thinkers span the likes of inspirational young US Congresswoman Alexandria Ocasio-Cortez, Senator Bernie Sanders, American and Australian unions and union activists, and MMT-friendly, pro-Job Guarantee economists from Joseph Stiglitz to Yanis Varoufakis to John Quiggin to Keynes’ legendary biographer Robert Skidelsky. Job Guarantee motions have passed the Tasmanian Parliament, the annual conference of the ACT branch of the ALP, and the Young Labor branches of Victoria, South Australia, Tasmania, and the Northern Territory. Versions have been endorsed by Unions NSW, Unions Tasmania, and the United Workers Union. After an extraordinary rise in MMT’s profile in the past 12 months, momentum is building and heading in one direction. The pandemic has destroyed the old surplus shibboleths. The Costello era is over. Only time will tell whether they rise again, zombie-like, when this bastard of a virus is defeated.
On the ‘right’ of the business community, unencumbered by ivory tower scorn and intellectual security, MMT has found a warm reception in a strange place. The finance sector has emerged as the site of MMT’s strongest support outside the political left, motivated not by any particular allegiance to climate action, full employment or the end of austerity, but by the simple fact its members want to better understand the economy in order to avoid mistakes and maximise profits. Orthodox economists told them quantitative easing would either spark inflation or increase growth. They were wrong. 27
Goldman Sachs Chief Economist Jan Hatzius opined ‘I don’t look at labels in terms of what’s left or right… I try to look at what makes me have a better chance of getting the forecast right, and I do find some of the ideas useful.’ Hedge fund strategist James Montier once bullishly wrote, ‘for me, an economic approach must help me understand the world, and provide me with useful insights (preferably about my day job—investing). On those measures, let me assure you that MMT thrashes neoclassical economics, hands down.’ Not for nothing has Hatzius declared ‘MMT proponents make a number of points that are both important and correct. One being that a government with its own currency cannot become insolvent… This should have been obvious, but that did not stop a number of commentators from fretting about a possible US Government default after the 2008 crisis… The main constraint on deficits is the risk of inflation…’
We are going to have to come to terms with a radical reconception of deficit politics and economics, and the very nature of the compact between the individual taxpayer and the state. But it is safe to say the genie is not going back in the bottle.
Lachlan McCall is an economist and convener of the Fabian Society ACT, previously serving in the Economic Division of the Department of the Prime Minister and Cabinet. He is currently studying a Masters in International and Development Economics at ANU, and monetary theory and policy at the University of Missouri-Kansas City as a visiting student
Series: Australian Fabians Review - Issue 1
Author: Lachlan McCall