On MMT: An ideology wrapped in a strawman

NotePP on twitter asked for a post on MMT, and asked me to try to avoid making it technical.  I attempted to do that at much as I could – however, I was forced to use words like endogenous, as it was the cleanest way of trying to get across the point that by using supply and demand savings and investment are jointly determined … and the interest rate is set as the price.  The very idea that economists only think the causal chain goes only one way or the other is patently ridiculous – and does not represent economists, no matter how much people keep saying it does.  So try to keep that point in the back of your head until at least the end of the post if you read it 😉

I have nothing inherently against modern monetary theory, its proponents, or the value judgments involved.  But my impression is that MMT theorist view central bank independence and the framing of government policy as an ideological device to “shrink government” and so have decided to create a “strawman” mainstream economics to attack, rather than directly admitting they want a larger state (and the trade-offs involved in that).  For me this simply lacks transparency!

So how does MMT differ from mainstream economics.  Well in the words of Bill Mitchell (who I choose because he is clear, both here and on his blog – which is a good thing!) it comes from economists accepting three false premises:

  1. A government has to borrow to spend
  2. There is a fixed supply of savings at a point in time
  3. Governments crowd out investment for that fixed supply of savings, pushing up interest rates

Supposedly all three of these are in the core of economics, and they are all wrong.  Huzzah.

Ok, so if that is MMT then I’m not sure who in the world they are actually arguing with.  The government can print money, and this is in any graduate macro book, so that doesn’t hold as a premise.  Savings and investment are determined by supply and demand, they aren’t a “fixed thing”, so that isn’t a premise in mainstream economics (Sidenote:  Why do people keep saying “savings determines investment” or “investment determines savings” – I’ve never heard economists talk like this … remember the money multiplier is a ceteris paribus example, not a description of the causal device).   Crowding out is actually a premise – but it comes from government demand pushing up demand for underlying goods and services … because government demand for things is just like the demand of any institution.

Let me restate these premises in terms of what the mainstream actually has:

  1. A government can finance spending through taxation, selling bonds, or issuing money.  In the end, prices and expectations adjust such that someone pays for government consumption and investment.  More specifically the government has to match spending to taxes over time for a certain inflation target!
  2. Savings and investment are determined endogenously by demand and supply factors in the economy, where the “price” is the REAL interest rate (perhaps I should use the world natural/fundamental here) – as savings and investment are factors that are involved with transferring consumption (the thing we really want) over time due to technology, the rate of return on investment, our time preference, etc etc
  3. Additional government demand for goods and services will push up the price of those goods and services and push up the REAL interest rate in the economy … remember the real interest rate is a price, when the government is trying to push up investment of consumption this increases the demand for these given an underlying PRODUCTION FUNCTION, crowding out private investment and consumption … the real interest rate rises as investment/consumption demand has been pushed up and the lift in relative prices has to occur in a way that makes private agents defer consumption/investment in terms of the quantity of goods and services.  No amount of hammering the S=I identity in the face of fiat currency changes this 😉

These premises actually sound pretty good to me!

I remember my dad used to say “it isn’t money that matters when we think about people, it is the actual good and services that are made and consumed”.  He didn’t take the same point out of it I did, but I think on this statement he was right – we need to actually think about goods and services, capital, and labour here.

Now there are MMT people who claim they do (back to Bill again) – that they have a production function (which seemed to be a bit missing earlier) and they have a Phillips curve (tells us how this production function and prices pressures relate through time).  This is good, these two things are necessary!

But if that is what they are doing, then their inherent model IS the mainstream model.  The three “fallacies” that they mention don’t actually exist – and that third point they list down is WRONG … there is crowding out.  Instead their argument is that the “optimal size of government” is larger than they hear other people saying … which is both an empirical and subjective question that people have already written (and should continue writing) countless books on.

Yes, people should discuss this, and discuss trade-offs.  But misinterpreting mainstream economics and pretending to offer an alternative in order to sell your view as not being “subjective” (which all policy conclusions are) is both misleading and irritating for people who view themselves as part of the mainstream.  Personally I like the idea of “changing the frame” to think about issues – but to me that is just a good way of researching, rather than a sign of a militant revolution inside economics 🙂

A much better critique of MMT (albeit more technical) can be found here.

54 replies
  1. Eric Tymoigne
    Eric Tymoigne says:

    Hi Nolan,

    I would note that most of what you wrote is real more and Keynes vs. Classics debates rather than MMT. A lot of this can be found in a good intermediate macroeconomic textbook like Froyen’s (the only good one in my opinion) by looking at the chapter on classical economics and then following up with Keynes, but here we go for a critique the premises in the way you put them:

    1- Inflationary impact of spending is not dependent on how spending is funded,
    money, taxes, or borrowing (MMT of course would even have an issue with the
    idea that the economic purpose of taxes and bond issues is to fund the monetary
    sovereign federal governments). It depends on the speed of spending relative to
    the speed of growth of production.

    2- the interest rate in the classical approach is ultimately driven by the
    marginal product of capital and time preference. Keynes already critiqued all
    this and MMT is just using that: monetary conditions determine the nominal and
    real interest rate. There are several things here. a) one monetary conditions
    affect the nominal interest rate, b) second the nominal rate does not react
    much to inflation if left on its own (no Fisher effect, evidence is
    overwhelming across time and country, and there is a moderate correlation
    between interest and price only if the central bank gets in the business of
    moving its nominal policy rate with inflation) c) third the main drivers of
    nominal rates are present of future monetary policy as well as expected
    long-term rates d) fourth saving is no differed consumption.

    3- Most of the time, the economy is not at full employment so if government (or
    anybody else for that matters) spends more, we just produce more.

    • Matt Nolan
      Matt Nolan says:

      Hi Eric,

      Cheers for your comment. I’ll be sure to give it some consideration 🙂

      Four things that pop out to me at first brush though are:

      1) The causality when it comes to nominal interest rates is pretty poorly defined most generally – the key attribute is that the interest rate provides a price which combined with other prices is symptomatic of true monetary conditions. Active monetary policy can influence real rates for small periods of time, but these prices are determined by underlying primitives over the medium term.
      2) If savings is not deferred consumption in the MMT view then there is indeed a significant gap between that view and mainstream economics.
      3) I accept the idea that markets are monopolistically competitive, that has been accepted in both theory and practical policy for some time. However, even with that there are limits, especially when the economy is running “normally”.
      4) The “inflationary impact” does depend on how the choice of funding is dealt with by monetary authorities – if we do it by having a one-off jump in the price level, we are taxing savers – if we do it by taxing income, we are taxing income etc etc. I don’t disagree we can score some seniorage by such actions the first time we do it – but once monetary policy loses credibility, expectations in financial markets change, and we’d struggle to do it again.

      • Eric Tymoigne
        Eric Tymoigne says:

        here is a quick response on each

        1) Nominal rates are really ultimately all anchored on the central rate (FFR target in the US). Long-term rate also depends on expectation of long-term rate. There is no equilibrium real rate that is driven by productivity and preference. That is the loanable funds vs liquidity preference theory of interest rates debate (MMT sides with the liquidity preference theory)

        2) That relates again to the interest rate theory. Indeed as Keynes noted “An act of individual saving means,so to speak, a decision not to have dinner to-day. But it does notnecessitate a decision to have dinner or to buy a pair of boots a week hence or a year hence or to consume any specified thing at any specified date. Thus it depresses the business of preparing to-day’s dinner without stimulating the business of making ready for some future act of consumption. It is not asubstitution of future consumption-demand for present consumption-demand,it is a net diminution of such demand.” The essential idea here is that, in the classical approach (mostly followed today) the conceptualization of the choice between Cnow and Cfuture assumes that income is independent of that decision. Income is fixed (at full employment). This can be assumed at the individual level it can’t be the case at the macro (income depends on spending). Here MMT sides with Keynes again.

        3) This is again a Keynes vs. Classics debates and the way “Keynesianism” is interpreted today: Keynes is all about sticky wages and sticky prices. Keynes was pretty clear that unemployment was not a labor market structure problem (lack of perfect competition). It is a problem of too low expectations about the future regarding aggregate demand. Lower wages depress the economy by reducing income. Again the classical approach that lower wage raise demand for labor by raising profit assumes that sales are not affected negatively by lower wages: substitution effect dominates income effect. In case the demand for labor curve is upward slopping: income effect
        dominates. That one of the key insides of keynes: account for income effects. Then it is an empirical question about which effect dominates (wage-led economy vs profit-led economy: huge literature here). Again MMT sides with keynes.

        4) This is more an MMT position here: taxes are needed indeed to prevent inflationary pressures. But the funding is really of expenditures always involves monetary creation (credits balance sheets). Given institutional factors and institutional constraints this is today hidden (no possibility for fed to fund treasury directly, everything goes through banks).

        PS: This is annoying that ones needs to sign in to post. Can’t you remove that?

        • Eric Tymoigne
          Eric Tymoigne says:

          Whoops! small typo on 2) at the end, should read: “This can be assumed at the individual level it can’t be the case at the macro”

        • Matt Nolan
          Matt Nolan says:

          Hey Eric,

          1) And the FFR is determined by their flexible inflation target (flexible in the sense that they account for short run variability in output as well). So the long-term track is not exogenous – it is determined endogenously by the structure of the economy. Now, one area where the mainstream has likely erred is in terms of shocks to the natural rate of interest – shocks are likely to be largely and more prevalent than we account for, and there may be a way to understand these more fully. This seems like a fruitful area.

          2) As long as we have “appropriate” demand management through a flexible inflation target, then income does near potential. I do recognise the paradox of thrift and how both consumption and savings could be higher under a specific circumstance – but it is just that, it is specific. We need resources to be significantly underutilised, which in the mainstream view involves a failure of monetary policy.

          3) Sticky wages and prices are incorporated as well – both are generally in DSGE models, although the price side is given dominance in order to get the empirically seen shift in margins. The adjustment of the labour market is a sticky issue – and one that gets a huge huge amount of research in the mainstream … effectively it is a large part of the adjustment towards the “output gap” closing in modern models.

          4) I wouldn’t mind reading more about this issue – but the idea behind current policy seems to be that we separate in order to allow sufficient central bank independence to ensure they can commit to an inflation target … where that target acts as a “no monetization” commitment on govt debt. The is the very nature of the medium term inflation target as a product, and the impact of that on expectations is pretty cool IMO.

          The PS. Sorry we can’t! If we did we would immediately get buried in spam, and that would flood my work email. Spam bots just seem to love NZ blogs, and so a whole bunch of us have had to move to sign in comments over the last year.

          • Eric Tymoigne
            Eric Tymoigne says:

            Yes points 1 to 3 is the standard macro approach that relies on classical work of the pre-depression era. No argument about that. All I was saying was that the post was more a Keynes vs classics post instead of a post about mmt.

            • Matt Nolan
              Matt Nolan says:

              This post took three points that were said to be the difference between mainstream economics and MMT, and said that they were unfair. My points were also oversimplifications – but they were there to illustrate that the prior points were grossly misrepresentative of the discipline.

              Now, your comments are not about the post itself – but about my simplified points. That is cool. The post isn’t Keynesian vs Classical, but your critique of my points is.

              In terms of the distinction that is often given between “Keynesian” and “Classical” ideas at university, this isn’t true. However, compared to the actual writing of both schools I would say there is more truth here. The full premises of mainstream economics, and mainstream monetary economics, take into account principles from all these authors. And trying to put all these down in a set of three bullet points, when my goal was solely to show that the criticisms being put against the mainstream were wrong seems excessive.

              Neither classical economists, or the following Keynesian critique which added explicit shifts in preferences, sticky wages and prices, and a more direct call to monopolistic competition (although note all these things were mentioned as relevant to such things before Keynes), provided a general model – which is why mainstream economics has focused on generalisation, and taking the principles to create a toolbox economists can use to analyse the world. I toolbox that is far more varied, and less based in ideology, than a lot of MMT writers appear to be telling the public – hence the points in the post.

              So, by simply arguing about the full validity of my alternative premises, are you stating that you agree that MMT discussion of mainstream economics in public is generally unfair and misrepresentative of how mainstream economics actually is and what it assumes?

              • Eric Tymoigne
                Eric Tymoigne says:

                No, I am saying that MMT is basically saying that current macroeconomics as its foundations in classical theory: Fixed income, crowding out, saving drives investment, microfoundations, etc. MMT rejects all this in favors of Keynes (where keynes is not interpreted as a sticky-price theory but a theory where income effects dominate substitution effects).

                • Matt Nolan
                  Matt Nolan says:

                  Current macroeconomics doesn’t say “savings determines investment” though – it doesn’t do that. Woodfords interest and prices doesn’t do that, Obstfeld and Rogoff (Foundation of international macro) doesn’t do that. It is a more general model than either classical or keynesian model – savings and investment are endogenously determined, output gaps exist and are linked to inflation and output, firms are monopolistically competitive, credit constraints are binding.

                  Yes, there is crowding out – but that is insofar as the government is treated as a large agent, and the imposition of an inflation target creates a binding non-monetization commitment. The “crowding out” occurs through the interest rate, in the same way that if a large private agent started to invest it would “crowd out”. The key question for public agents to ask is about the rate of return of their investment – and to recognise that a lift in the size of the government deficit leads to a lift in the eqm interest rate and the real exchange rate.

                  Now if we are at full employment (that priviso exists in mainstream economics) the government was instead to fund deficits by having monetary authorities accommodate it, then it will act as a defacto tax on private agents – by bidding up prices. The impact on future funding then also depends on how this influences agents expectations – and the last 40 years of modern macro have been thinking about expectations, how to understand them, and how to measure them. Making fields like neuroeconomics and behavioural economics pretty damned exciting.

                  Undeniably, MMT authors and many of the individuals in the mainstream they are arguing with have different views about how preferences/expectations are shifted – which is a good debate. But the same inherent trade-offs exist, and constantly attacking an unrealistic straw man version of economic theory is disconcerting.

                  And seriously, savings drives investment? I cannot get over how often this point is stated like I am supposed to take it seriously. This is in no way representative of mainstream economics – where investment and savings are determined in a market, where the interest rate is the price, the level of (expected) income is a shift factor. Indeed savings and investment are equal in the macroeconomy, but condition is not sufficient to tell us what output or interest rates (the price) are.

                  Yes there is a natural rate of interest, and output is “constrained upwards” (with the output gap estimated through the size of the unemployment rate – such as Gali recently did), but my impression is that MMT authors still had this fundamental point in them … and if they don’t then yes, I fundamentally disagree with what must be effectively a “partial” analysis of macro issues.

                  Also, I’ve read the general theory – and I wouldn’t want to base a full macro model on useful, but at times muddled, thinking around what an “interest rate” is in that. I found Interest and Prices provided the most compelling book for helping me understand interest rates – and understanding that many debates boil down to concerns about shifts in preferences and thereby the fundamental natural interest rate.

                  Appeals to authority only go so far here, we also have to make sure we have logical consistency – what mainstream economics does tries to achieve that, and attacking an unrealistic strawman version of it doesn’t help.

                • Eric Tymoigne
                  Eric Tymoigne says:

                  I see what you mean in terms of saving: there is an upward sloping saving curve so higher interest rate leads to higher saving.

                  maybe if one said that higher thriftiness leads to more investment that would be a way to put it in a way that you prefer. Growth models also emphasize the saving rate as crucial for growth. Textbooks usually only present the solow growth model.
                  Usually one simplify by just saying that for investment to rise saving as to occur so saving drives investment.

                • Matt Nolan
                  Matt Nolan says:

                  I have a sneaking suspicion that maybe the emphasis on things in different in NZ (being a small open economy) and so this is likely all a matter of interpretation 🙂

                  In NZ we tend to talk about how investment is determined by the expected ROR on investment, and so the higher the interest rate the more projects are “ruled out” in a sense. The higher interest rate also attacts generalised savings – both domestic and international, and shows up in our current account deficit. They are linked by the ROR and interest rate (who are fundamentally connected), but neither “causes” the other.

                  When we have a shock like “thriftiness” we are saying both that consumers are unwilling to spend and firms are unwilling to invest. Both these “shocks” are really a change in preferences – but they both lead to the same change in “price” … so the natural interest rate falls sharply. Given this, we can have the central bank adjust monetary policy to push market rates towards the natural rate – or we could have a boost in govt investment in order to push up the natural rate. These are all ways of closing that “output gap”, but once the interest rate is at its natural rate outside of accounting for monopolistic competition and price stickiness there is little we can do.

                  Like I said at the start of the post – in terms of value judgments I have no problem with MMT here. For example, I personally feel that central banks are “too quick” to say that potential has fallen, and I personally find multiple eqm arguments pretty compelling. But even given all this, I find the “savings causes investment” and “government spending doesn’t crowd out” chants – which from what I can tell are conditional statements in MMT not absolutes – are meme’s that are getting screamed at the mainstream in a way that is patently unfair.

                  I think Nick Rowe (and Miguel above) put it well when they’ve both stated that many heterodox thinkers are closer to the post-1990 mainstream than they think!

                • Eric Tymoigne
                  Eric Tymoigne says:

                  Regarding the last point, I would say actually that mainstream models have incorporated some aspects of alternative macro model over time (without acknowledging it!): interest rate targeting and money supply endogeneity are two of them.

                  Still crucial differences. To name a few: reliance on marginal product of capital and time preference to explain interest rates, neutrality of money in the long-run at least, thinking in terms of a peasant economy (given endowment, real terms thinking and incentives, emphasis on substitution effects), absence of stock-flow consistency.

                • Matt Nolan
                  Matt Nolan says:

                  “Regarding the last point, I would say actually that mainstream models
                  have incorporated some aspects of alternative macro model over time
                  (without acknowledging it!): interest rate targeting and money supply
                  endogeneity are two of them.”

                  Mainstream in terms of the 1950s, potentially – I would note that even then, there was a hatred for fractional reserve banking among economists because of a fear of the endogeniety of the money supply! Of course, I am defending the economic hard core as it is now – which accepts this, and as a result has monetary policy that focuses on following around the “price” in terms of interest rates.

                  “Still crucial differences. To name a few: reliance on marginal product
                  of capital and time preference to explain interest rates, neutrality of
                  money in the long-run at least, thinking in terms of a peasant economy
                  (given endowment, real terms thinking and incentives, emphasis on
                  substitution effects), absence of stock-flow consistency.”

                  MPK and time preferences are an essential element of interest rates – as long as we keep in mind that there are “three interest rates” (real, nominal, natural), and that each of this has a long time path. There are other important elements which are treated as shocks – and I don’t disagree that research around the CP assumptions is important, but the mainstream model actually tends to encourage that.

                  Long-run neutrality of money is important – and again the key assumption here is one of hysteresis. Disagreeing with that is heterodox, and is completely cool, but of course this is a very specific area of debate that is unrelated to the three points I was trying to rule out earlier! It is through this that you get long-run income effects.

                  I feel that the critiques of mainstream economics with regards to stock-flow consistency are unfair. Given that direct accounting constraints on these are taught and put in DSGE models! This is an area where “poor” economics does happen (unbounded growth in debt etc), where communication may be poor, but it is in models in both a theoretical and applied sense. Hell the existence of a government budget constraint is one example of consistency here!

                • Eric Tymoigne
                  Eric Tymoigne says:

                  One more thing all these models are also real model where saving is done in real terms: you save an apple today to get an apple tree in the future. So in that sense the potential quantity of saving is given: it is determined ultimately by quantity of output available (either you consume it or save it for latter).
                  There is not such thing in Keynes, post keynesian and all recent development in demand-driven growth model. Saving/thriftiness depresses economic activity, lowers investment and so depresses economic activity and productive capacities.
                  It really is a difference in premises and methodology.

                • Matt Nolan
                  Matt Nolan says:

                  These debates are two-fold we have:

                  1) Deviations from potential .. which both sides agree on.

                  2) Hysteresis. This is significantly, significantly, more contensious. It doesn’t mean it doesn’t happen – it just means that any specific push for government investment in this area needs to be well costed and modeled.

                  In either case, the monetary policy rule is simply providing certainty around expectations – and as a result, has little to do with the question the mainstream is trying to answer.

                  If you are suggesting that MMT is infact trying to answer different questions, that is sweet – different questions require different models. The theoretical “hard-core” of economics is a lot less restrictive than the applied “hard-core” – and should ultimately inform it!

  2. Miguel Sanchez
    Miguel Sanchez says:

    Interesting… I had my suspicions about MMT but in that Bill Mitchell piece he states it outright: MMT is not so much a theory but a description (and endorsement) of the way that monetary policy has been conducted over the last 40 years. The challenge then is to explain why this is not simply a recipe for rolling waves of asset price bubbles, as it has been for the last 40 years.

    • Matt Nolan
      Matt Nolan says:

      While I can see where you are coming from with regards to the increasing amount monetary aggregates have been ignored – I still think the inflation target in of itself provides more of a constraint than the type of policy MMT is looking for.

      If these asset price bubbles are all shifts in credit demand, then understanding them goes beyond what seems reasonable – if we accept that they happen and place systemic risk on the financial system, the best thing to do is to insure the entire system … and ensure that financial institutions are paying for that insurance. The constraint here is of course the scope for unregulated lending.

      I have to admit, my concern about bubbles themselves is still pretty low – it is really just a transfer – it is only the stability of the financial system with regards to these that I have any concern about.

          • Vilhelmo De Okcidento
            Vilhelmo De Okcidento says:

            Banks do NOT lend out savings. Loans create deposits. When a bank lends it creates both a deposit (bank’s liability) & a corresponding IOU (bank’s asset) in the borrows name the sum of which must be zero.

            For this reason bank credit creation can both increase & decrease the money supply depending on the rate of new bank lending (credit creation) & the rate at which loans are paid down (credit destruction).
            If the rate of new credit creation is greater than the rate of loan repayment the money supply increases. If the rate of loan repayment (or default) is greater than credit creation the money supply decreases (debt deflation)

            This is the reason that, although bank credit creation nets to zero, it can still comprise the vast majority of the money supply at any one time.

            • Matt Nolan
              Matt Nolan says:

              No-one, anywhere, is saying banks lend out savings – or that the money supply is determined exogenously.

              However, assets have to equal liabilities. Both lending, and the stock of potential bank liabilities used to fund that, are due to supply and demand – and the interest rate is the price in those “markets”. “Loans create deposits” is only part of the story.

              • Vilhelmo De Okcidento
                Vilhelmo De Okcidento says:

                I apologize.
                I misread your post.

                The key element in almost every asset bubble is Fraud.

                • Matt Nolan
                  Matt Nolan says:

                  All good, thanks for the apology 🙂

                  I think fraud is a bit strong – there are issues in the institutional structure, and it does act as a transfer, but people pay asset prices willingly with all available information (which means they have significant uncertainty about the future).

                  Should banks bear more risk? I believe so. But in this post I was more trying to note that the version of economics being criticised is one that doesn’t exist among economists, and one that economists try to disagree with if people do use it 🙂

                • Vilhelmo De Okcidento
                  Vilhelmo De Okcidento says:

                  The crisis was caused in large part by massive Accounting Control Fraud.

                  The fraud recipe has four ingredients.
                  1) Grow extremely rapidly by
                  2) Making or purchasing crappy loans or derivatives at a premium yield while
                  3) Employing extreme leverage and
                  4) Providing only trivial allowances for the inevitable eventual losses

                  The fraud recipe produces three sure things.
                  1) It guarantees that the firm that follows the recipe will report enormous (albeit fictional) income in the near term. (If many firms in the same industry follow the same recipe and use the same ingredients they will hyper-inflate financial bubbles. This can greatly extend the life of the fraud because losses on the bad loans will be hidden by refinancing. The saying in the trade is that “a rolling loan gathers no loss.”)
                  2) Modern executive compensation, which the CEO typically determines, guarantees that the record reported income will promptly make the CEO wealthy.
                  3) The fraud recipe also guarantees that the firms will suffer massive losses, (particularly if the frauds hyper-inflate a financial bubble.)

                  “No government official, law, or rule required any mortgage lender to make liar’s loans or any entity (and that includes Fannie and Freddie) to purchase liar’s loans or CDOs.”

                  See: William K Black.

                • Matt Nolan
                  Matt Nolan says:

                  I don’t disagree with that in itself – my main additional point is that, even without firms committing fraud the structure of regulation pushes excessive risk taking.

                  In NZ we don’t face the fraud, but the regulatory structure is still an issue of interest – this is probably why my focus goes more down those lines!

                • Vilhelmo De Okcidento
                  Vilhelmo De Okcidento says:

                  “my main additional point is that, even without firms committing fraud the structure of regulation pushes excessive risk taking.”

                  I completely disagree.

                  No government policy or regulation can force any bank to make a risky or otherwise loan nor can it force any bank into taking higher risks.

                  Banks decide to make a loans based on whether or not it thinks it can make a profit.

                  Governments cannot set the quantity of bank lending only the price.

                  The crisis could have been prevented if the authorities had simply enforced the law.

                  They had the advantage of having an example of a successful regulatory response, the S&Ls, to exactly the same sort of crisis but they instead fell victim to regulatory capture.
                  The S&L crisis demonstrated how regulation could be effective.
                  Fraudulent institutions were identified & put into receivership, the criminals indicted, prosecuted & convicted.
                  Over a thousand high ranking execs were prosecuted, convicted & jailed with a conviction rate of ~93%.

                • Matt Nolan
                  Matt Nolan says:

                  “No government policy or regulation can force any bank to make a risky or
                  otherwise loan nor can it force any bank into taking higher risks.”

                  If the government is implicitly subsidising risk, by stating it won’t let institutions fail, then this is what they are doing.

  3. Jeff Reisberg
    Jeff Reisberg says:

    Matt Nolan MMT’s main contributions, as I see it, has been to investigate and report the legal and accounting relationships that cover financial assets, and these descriptions focus largely on the interactions between the sovereign currency issuer(s) and the non-sovereign currency users. They call it the vertical relationship. They focus on the vertical aspect of the payment system because it is the least well described and understood. Many economists understand the horizontal aspect (between currency users) quite well so MMTers don’t need to focus on it as much. Mainstream economists get the vertical aspect wrong constantly and from flawed understandings come flawed policy proposals. MMTers see these flawed analyses published regularly from the most influential places which gets me to the the second contribution of MMT.

    Only with an accurate understanding of the relevant issues, can we have an honest debate about policy proposals. The second contribution is laying out a set of policies which could hypothetically bring us to true full employment and price stability. The MMT developers are few in number, but they are active in developing proposals to what they view as capitalism’s inherent flaws, primarily its inability to achieve true full employment (as defined as everyone who wants to work has the opportunity) and its crisis prone nature. They don’t limit themselves to these problems, but they are front and center in every MMTers mind.

    I’ve heard numerous times from them that they stand on the backs of giants. They are quite good at informing us which giant’s backs they are standing on, be it Lerner, Godley, Kalecki, Innes, Keynes, Knapp, Veblen, G. Gardner, Graeber and so on. Half these names I never heard of until MMTers referred me to their work.

    In the end, MMTers wish that they didn’t have a label. It would be nice if everyone understood fiat money, understood self-imposed legal restrictions, understood the insights of the Giants and were in favor of policies consistent with full employment and price stability. That’s not the world we live in, so for now MMT is a useful flag people can throw up to quickly identify which particular path they are on. From my own perspective as a MMT autodidact, I just wish non-MMT economists would focus their criticism of MMT on the academic literature (not blogs, which inevitably will be of lower quality), and they would join the effort to debunk all the junk economic charlatans and fools put out at the highest levels that can and have done real harm to society. We, the non-economists, put our life in your hands, please, please, don’t turn your backs on us.

    • Matt Nolan
      Matt Nolan says:

      Hi Jeff,

      My impression is that, when it comes to using the term MMT in public it is done so in order to give a false impression of what mainstream economics actually is … this is reinforced by the set of “differences” listed in that article by a prominent MMT author.

      My post was simply defending mainstream economics from these criticisms.

      Now if MMT authors are deep down debating the process with which monetary policy influences economic variables and inflation, this is cool – this is a discussion that should and is going on within economics. One thing I find encouraging from some MMT literature is the willingness to describe shiftin preferences – but this is something we have to be transparent about, including with the fact that it is something we cannot forsee or react to ex-ante.

      But the constant inference that the mainstream are effectively morons is tiresome.

      • Jeff Reisberg
        Jeff Reisberg says:

        Hi Matt,
        I think you make a valid point, MMTers should narrow their critiques to specific papers rather than all those who self-identify as New Keynesian, Monetarist (Neo-Classical) or whatever.

        That said Palley’s critique of MMT commits the exact offence you charge Bill Mitchell of, that of attacking straw men, BIG TIME. There are so many half-truths, omissions and outright lies, that had I not been so busy, I would have wrote a post called Palley is a hack, and used direct quotes from MMT papers that directly contradict what he says time and time again.

        • Matt Nolan
          Matt Nolan says:

          Fair call – if you see anything that says that flick it this way and I will update link.

          Similarily, I’ll keep that in mind, and if I see anything in my travels I will update links myself 🙂

            • Matt Nolan
              Matt Nolan says:

              Hmm, I’ve already seen that – but I couldn’t access any of the papers linked for some reason.

              It also never defended again what seemed to be the fundamental criticism in the Palley paper – that the entire debate boils down to the inflation process. This needs to be clearly defined, that was one of the clearest things that came out of Friedman, and then Lucas – we need a structural and dynamic process.

              I’m cool if MMT is aiming to join in and help develop understanding on this – but I guess the problem with mainly reading things on blogs, and seeing papers linked to by blogs (when I can access them) is that I get exposed to the more polemical and ideological side of what is going on, rather than the process of developing ideas.

              Furthermore, if the issue is truly concern about the long-term unemployed, the key area of study should be labour markets – rather than fiat currency. Money illusion only takes you so far. And the key idea from labour markets is matching problems, which government should be more involved in!

              Also, for short term variation the mainstream puts emphasis on monetary (and in the case of monetary incompetence fiscal) policy helping out – we just state that it is an empirical question, and try to use empirical estimates to inform judgements.

              At the moment, I’m not sure how MMT is separate from the mainstream in terms of theory (unless the first comment here about savings not being deferred consumption is true – in which case I have problems). And that is why I was saying in the post that it was coming off as being different “as an ideology” and using a “straw man” (a very untrue straw man) to beat other economists.

              Trust me – a lot of economists out there that I talk to are into demand management, matching schemes for the unemployed, and minimum incomes as part of society. And they are pretty open to debates about things like the inflation process, and innovations in the economy, and in preferences, that may have an impact on that … and thereby the trade-offs faced when looking at “demand management”. A lot of them just get frustrated when we are yelled at about people starving in an emotive sense when we are trying to understand to help … and the is especially grating for people in a country like NZ where unemployment benefits don’t have a time limit and we effectively enforce a minimum standard for people.

              • Jeff Reisberg
                Jeff Reisberg says:

                MMTers are ideological (see http://www.huffingtonpost.com/warren-mosler/modern-monetary-theory-th_b_872449.html ), just as the rest of economists who think their insights lend themselves to policy advice. There is nothing wrong with being ideological, just be up front about it.

                Many of my econ profs pretended to be value-free by defending their fatally flawed models such as the representative agent in perfectly competitive markets. We have to be very careful about which simplifying assumptions we adopt. Our models generate a world view, a macro-view of aggregate behavior. Every day economists reveal themselves as political scientists and can be found advocating flexible labor markets, free trade, deregulation, lower taxes, and less government spending to boost unemployment and overall wealth (because
                that’s what their models predict will happen, the track record of these models are highly suspect). These policies are
                consistent with a neo-liberal political agenda. Their analyses make it into the non-editorial pages of newspapers with sentences innocuously inserted like “dangerous government debt to GDP levels” or “large budget deficits would reduce national saving, thereby curtailing investment.” Heterodox economists are notably absent from any top political advisory position, most popular economics journals, billionaire funded think tanks, and there is usually but one heterodox
                professor in the university economics department. Their views are notably absent. The mainstream didn’t see the crisis coming, they were guilty of championing many of the contributing policies, and cannot say afterward why it happened. Wynne Godley (and many MMTers http://www.lrb.co.uk/v14/n19/wynne-godley/maastricht-and-all-that) not only predicted the crisis in advance but explained why. Your civil engagement with us heretics is rare and sets you apart from so many of your counterparts I’ve encountered.

                The focus on fiat currency is important when it comes to understanding long term unemployment. To begin don’t assume
                the velocity of money is constant (assuming you have the right definition of money), don’t assume we’re at full productive capacity. Do assume that the employment rate and investment is significantly determined by entrepreneurs’ best guesses regarding how much they can sell at a profit in the future. Don’t assume the unemployed or those making a subsistence wage can ever contribute enough demand that it results in a decrease of unemployment at current prices. Don’t assume net exports can lead a recovery (it’s a logical impossibility for every country to run trade surpluses, there must at a minimum be one running trade deficits of equal size). What do you end up with? A world that can produce Irving Fischer style debt deflations. A world where the private sector alone is typically unable to create adequate demand therefore full employment is the exception, not the norm. The only option left to stabilize overall levels of spending i.e. prevent depressions (insufficient spending) and hyperinflations (too much spending) is fiscal policy. However if a country is implementing a fixed rate or similar regime it greatly reduces the policy space a government has for macroeconomic stabilization (See Bell and Henry 2003 http://www.cfeps.org/pubs/wp/wp26.html ). Unemployment in my country (the US) doubled during the last recession and never recovered. This was not a sudden technological “shock.” This wasn’t a sudden influx of regulations, or taxes. There was no loss of productive capacity (although now long term unemployment serves as a barrier to re-entry to the labor force). What happened was a global financial crisis, businesses saw a sharp drop in sales. They laid off workers to avoid further losses, and so on. The monetary system, something we use to facilitate our social relationships became very dysfunctional. For MMTers the nature of money is important.

                MMTers reject the usefulness of monetary policy for restoring employment. Open market operations are financial asset
                swaps (not Freidman helicopter drops). They don’t typically end
                up increasing the financial net worth of the private sector (fiscal policy is a helicopter drop). To the contrary, interest income going to the central bank (instead of those in the private sector), act as a fiscal drag. Those who hold a bank balances rather than treasury securities don’t go out and buy new cars. There is no hot potato effect. MMTers correctly predicted QE wouldn’t be inflationary beyond increasing behaviors to hedge against inflation (like buying the Goldman Sachs Commodity Index or gold, ironically causing the inflation they fear). Low interest rates might be mildly deflationary due to the lower borrowing costs for capital expenditures. Negative nominal interest rates on reserves as a way to stimulate consumer spending and bank lending is an interesting thought experiment but ultimately rejected http://neweconomicperspectives.org/2009/07/why-negative-nominal-interest-rates1.html
                Saving in MMT is deferred consumption in a closed economy with no government, however there is an important difference I believe. Following Kalecki and Keynes investment is not determined by saving (e.g. through interest rate adjustments), but rather investment determines saving through income adjustments. Using the flow of funds, MMTers are able to visualize ( http://www.creditwritedowns.com/2011/02/government-deficits-and-the-financial-sectors-balances.html ) the net saving of financial assets for a sector as a whole, they always equal the deficits (expenditure>income) of the other sectors. Just as one country is free to run a trade surplus with another or vise versa, world exports always equal world imports. The paradox of thrift tells us if thriftiness increases, available saving is unaffected. Increased thriftiness leads can lead to a fall in income.The government sector can run deficits (if their monetary system allows it), to counter what Keynes called the Paradox of Thrift, it increases income from which people can consume and spend from without increasing private indebtedness. With higher incomes people will predictably consume more, and businesses will chose to invest and expand their workforce. The big questions then become one of how sustainable are government deficits which MMTer Scott Fullwiler answers here ( http://www.cfeps.org/pubs/wp-pdf/WP53-Fullwiler.pdf
                and of inflation which many economists have researched, which is a complex beast and my comment is already too long. You can see MMTers publishing papers on production bottlenecks, monopolies, price rigidities, exchange rates and more.

                They conclude that for most countries a job guarantee is a better way to do fiscal stimulus. In the simulations a public job guarantee (JG) that pays a minimum wage would not be inflationary if the wage is set low enough, yet would provide TRUE full employment plus whatever benefit to society the workers contribute. When the private sector expands again, they’ll not have to chose from the long term unemployed. It is always the right right size to provide full employment as it automatically expands and contracts, taking the need for politicians to get that number correct off their shoulders, as well as many of the opportunities for cronyism. The JG can be as decentralized as wanted, with the federal government doing as little as cutting the checks. When I talk to conservatives about it, they think it’s appropriate that people should contribute to society in order to get a check, and dislike the (perceived) incentive unemployment benefits give not to work. Liberals like it because it puts an end to involuntary unemployment, something they view as a cruel consequence of capitalism. Of course the extreme right hates it for being more government and the extreme left hates it for perpetuating evil capitalism. Policy proposals are always ideological. 🙂

                • Matt Nolan
                  Matt Nolan says:

                  “MMTers are ideological (see http://www.huffingtonpost.com/
                  ), just as the rest of economists who think their insights lend
                  themselves to policy advice. There is nothing wrong with being
                  ideological, just be up front about it.”


                  However, I am defending the mainstream description – which in itself does not define a level of government or a specific set of policies – from what looks like a straw man attack. I don’t disagree with many of your points, in fact some of them are things I do believe need to be reiterated more loudly. What I have been disagreeing with in the post and comments was the version of mainstream economics that has been put in the public and attacked by MMT – it is not what economists believe, or what applied economists have been using!

              • Scott Fullwiler
                Scott Fullwiler says:

                Bill Mitchell has published a ton on labor markets. Lots of econometrics studies (http://e1.newcastle.edu.au/coffee/publications.cfm and there’s also a 300 page report there on creating more effective labor markets in Australia). I was a reader for one of his Ph.D. student dissertations that did a very comprehensive study of labor mkts in Taiwan. Bill also responded to Palley on inflation/unemployment, since he’s also published a ton on that (which Palley ignored). Randy’s also done a lot on labor from a more historical perspective.

                • Matt Nolan
                  Matt Nolan says:

                  Cheers for the papers, I will have a look.

                  If you don’t mind me asking, do you know where I can find the response on the inflation/unemployment thing – as far as I can tell it is the main area of contention 🙂

  4. Maxamillian Shields
    Maxamillian Shields says:

    All I can say is that if you’re referring to Palley’s paper as a “much better critique of MMT”, then you are seriously discrediting your own post!

    • Matt Nolan
      Matt Nolan says:

      LOL, I’ve seen the counters – and many of them still miss what I think his central point is. The two communities are talking past each other, rather than recognising their similarities.

        • Matt Nolan
          Matt Nolan says:

          That we are talking past each other – and that many of the types of “conclusions” that are made by some people calling themselves MMT theorists are fallacies.

          The comments here are useful from MMT related guys – they tend to point out the areas of research they do, and in many cases I view much of it as within the “mainstream”. It is self-identifying MMT columnists saying things like “governments can spend all they want, no problems” that are misrepresenting all economics including what actual MMT researchers are trying to describe.

          • Maxamillian Shields
            Maxamillian Shields says:

            So both you and Palley are being critical of a misunderstanding of MMT then? Because you’re post doesn’t suggest that – it suggests things wrong with MMT itself. And is Bill Mitchell one of those who don’t understand MMT? Because you come out and say number 3) is wrong – but he’s talked about this loads before! He does a good thorough piece on all of the above here: http://bilbo.economicoutlook.net/blog/?p=22701

            • Matt Nolan
              Matt Nolan says:

              My post is saying that, if the gap between MMT is what Bill is saying, then it is wrong. He is attacking a version of economics that doesn’t exist – and making disingenious claims that higher government spending doesn’t lift real interest rates … when a whole lot of empircial literature suggests it does.

              I don’t have too many problems with Bill’s post – but I see at the end he is complaining about people criticising MMT without reading all their literature. Has he considered this be because MMT people seem to ignore the mainstream literature and attack a version that does not exist.

              However, if the “gap” is actually what is established in these comments – namely the existence of the supply side, and trying to flesh out its quantification from a different perspective (as well as a discussion around the types of demand side shocks we should consider and their forecastability) – then it sits within mainstream economics, and some of the more violent debates stem from people talking past each other.

              In the post I’m stating that Bill’s description of mainstream economics is a false strawman – it is. I’m usually unwilling to start a debate based on those premises, as it is not the position of the economics discipline, and is not where our conclusions come from 😉

              Also, I think you may be misinterpreting Bill’s point – he is talking about government spending to fill an “output gap”. The post in of itself doesn’t go into much on interest rate determination, or where the real interest rate comes from (I don’t see any investment demand or time preference in his description) – which is somewhere that needs to be central to any of this, but not to worry. Either way, the mainstream states that if we have an activist central bank this problem is solved – MMT people use activitist monetary policy in this scope instead. In both case there is a supply/full employment constraint.

              The people that are misinterpreting this are the ones that can’t see this constraint and merely call for more government spending using this as evidence!

              • Maxamillian Shields
                Maxamillian Shields says:

                I’m dubious about that empirical evidence. Another of Bill’s posts here talks about it http://bilbo.economicoutlook.net/blog/?p=11627. Again, to me it seems like neoclassical models being applied that don’t reflect reality even closely – eg loanable funds theory. Coming from a banking and finance background it makes no sense.

                • Matt Nolan
                  Matt Nolan says:

                  There is a lot of more recent literature that separates out the impact between “consumption” and “investment” from government – consumption tends to bump up real interest rates, while the net impact of investment is unclear. Not separating the two can be problematic 🙂

                  Remember also that monetary policy is “active” – so that when ex-post govt deficits appear we are usually in a situation where the natural rate of interest, and central bank rate setting, is low. As a result, unless we correct for the cycle the empirical relationship looks backwards – that doesn’t change the fact that outside of the cycle a lift in government consumption lifts the natural interest rate! Missing this point is actually fairly poor on Bill’s part – I didn’t expect to see anything that off.

                  We have to be clear about our counterfactuals to discuss policy. The fact is that there is a underlying “bound” on what can be produced and how highly labour and capital can be utilised. When there is “full utilisation” government spending crowds other activity out – and this is a point MMT takes onboard, they just differ on how they describe this specific boundary. That is fine.

                  If we have a central bank that is setting policy to keep the economy at this level (demand side stuff), by printing money to fund works instead of borrowing the government is essentially taxing activity now instead of stating that they will have to tax activity again in the future. The distributional consequences and consequences on activity through expectations come through that – economists all recognise this, and current policy is based on this recognition. And the recognition of how much uncertainty we have.

                  Hey, I’m all pro economists launching into each other and debating these points – but there isn’t any free lunch where we just magically create value by running deficits in of itself.

                • Maxamillian Shields
                  Maxamillian Shields says:

                  “The fact is that there is a underlying “bound” on what can be produced and how highly labour and capital can be utilised. When there is “full utilisation” government spending crowds other activity out – and this is a point MMT takes onboard, they just differ on how they describe this specific boundary. That is fine.” – Yes! I would argue (with no qualifications) that that boundary is far off. But that’s leave it there 😉

                  “Hey, I’m all pro economists launching into each other and debating these points – but there isn’t any free lunch where we just magically create value by running deficits in of itself.” – don’t reckon this was necessary; neither you, I or Bill is saying anything along these lines.

                • Matt Nolan
                  Matt Nolan says:

                  “Yes! I would argue (with no qualifications) that that boundary is far off. But that’s leave it there ;)”

                  The UR does suggset there is scope – that is why economists have been arguing about whether there is structural unemployment! The debates are already there, which is why I feel there may be a lot of talking past each other.

                  “don’t reckon this was necessary; neither you, I or Bill is saying anything along these lines.”

                  Sorry that this wasn’t clear, I didn’t mean it to be an attack – within the context of the broader comment I meant that the concepts are used “as if” this was the case by some commentators. I wasn’t meaning to attack MMT people with that – that would be contradicting the rest of my comment 🙂

                  I did put it in because that is home the ideas are being taken. And to be honest, it is this strawman version that you see mainstream economists yell at – at the same time as MMT guys yell at a strawman of mainstream economics.

                  One thing I think both sides can learn is the limits of knowledge – we all know a lot less than we think we do, and what we all “know” we should more obviously state we argree on 🙂

              • Vilhelmo De Okcidento
                Vilhelmo De Okcidento says:

                What he’s basically saying is that Monetarily Sovereign nations don’t have to issue interest bearing debt at any rate. But if it does decide to issue debt it can do so at the rate of its choosing.

                • Matt Nolan
                  Matt Nolan says:

                  That is fine, but we can only make sense of what that means if we view the choice of funding through the lens of taxation! It is indeed a distributional issue.

                • Vilhelmo De Okcidento
                  Vilhelmo De Okcidento says:

                  In Monetarily Sovereign nations taxation does NOT fund federal spending.

                  Taxes regulate aggregate demand & ensure currency demand.
                  The Federal Government spends, issuing new currency, simply by crediting accounts.

                • Matt Nolan
                  Matt Nolan says:

                  That isn’t quite what I’m getting at, it is through the lens of taxation – as in through the idea of the redistribution of goods and services!

                  The “demand” issue is one of co-ordination, and one which (outside of the ZLB) a central bank deals with through adjustments to the cash rate.

                  I suspect there is a lot more agreement about much of this between all the sides than there often sounds like there is – when I say “lens of taxation” I am not trying to say anything is good or bad, just that the method we use to analyse taxation is a useful framework for understanding broad govt financing and spending decisions.

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