By Haanbi Kim
In an introductory macroeconomics class, students are taught this sequence of events: as the central bank prints more currency, money supply increases, interest rates decrease, spending increases, and aggregate demand increases which raises prices. Through this sequence of events, students of economics have been taught early on to be wary about the government excessively printing more currency to sustain their debt, which has been the norm for economic policy. However, this notion may be transitioning into anachronism.
Modern Monetary Theory, otherwise known as MMT, emerged in the 1970s as a branch of Keynesian theory, but has garnered significant discussion only in recent times. According to Harvard economist Gregory Mankiw, this is due to the rise of progressive politicians like Alexandria Orcasio-Cortez pushing for large spending policies (Mankiw 2020). The Deficit Myth, a book by economist Stephanie Kelton further draws on the relevance of MMT and defends concerns with the theory’s principles such as crowding out and deficits disadvantaging future generations (Despain, 2020). The rise of MMT’s popularity may be due to the aforementioned political reasons, but more importantly because it seeks to debunk the orthodoxies of modern macroeconomic thought and some of the most vocal counterpoints against progressive policies.
The basics of MMT are this: any government spending or accrued government debt can be financed by printing money as long as that government has direct authority over issuing currency, which makes issuing any new debt or raising taxes unnecessary. The idea that a government can become insolvent over its debt or that a deficit is burdensome and must be avoided is, thus, misleading. Following this, MMT economists argue that progressive big spending policies like universal health care, student debt cancellation, and a federally funded job market to eliminate involuntary unemployment can be realized and ultimately create a “people’s economy.”
To some extent, MMT economists may be correct. Over the past few years, economic policy has shown that enduring a deficit has not necessarily wrought economic havoc, and is necessary in times of distraught. The United States has consistently racked up budget deficits for the past 18 years, yet the American GDP has consistently grown, with the exception of the Great Recession (Edwards, 2019). More notably, Former President Donald Trump’s major economic policy to lower income and corporate tax rates has increased the federal deficit yet the Trump administration has boasted some of the lowest unemployment rates in the past few decades prior to the pandemic without runaway inflation (Irwin, 2021). The majority of economists have agreed that deficit spending during the current recession is necessary, not only for short term but for long term growth as well. This suggests that a government debt’s effect on the economy is more nuanced than what deficit hawks may propose.
The case made by MMT economists is compelling, and a rather refreshing one to individuals who have been proponents of large-government spending policies. However, even disregarding the political difficulties surrounding Congress to pass large stimulus bills, MMR still has its detractors. For example, Mankiw has stated that under a “monetary system with interest paid on reserves,” money creation would lead to an increase in aggregate demand and inflation, which is further substantiated by the strong correlation between inflation and money growth prevalent across many countries, along with Kelton’s concession to the constraints of inflation (Mankiw, 2020; Dowd, 2020). There are also political concerns with how MMT policies can be abused regardless of political agenda; under MMT, politicians would no longer need to worry about the unpopularity of tax hikes when financing a major project (Dowd, 2020). Another concern with MMT is the extent to which currency creation translates into real revenue. Patrick Horan of George Mason University’s Mercatus Center refers to a study that concludes that “the maximum sustainable amount of revenue from money creation is roughly four percent of GDP” (Horan, 2019). Assuming that US GDP is around $20 trillion dollars, this figure would be $800 billion, which is not enough to finance the aforementioned large spending projects. Despite its ideological loftiness, MMT still has to overcome some concerning logistical hurdles before being put into practice.
Perhaps the most compelling concern, however, is the historical precedent set by governments that have adopted MMT-like policies and endured devastating economic outcomes as a consequence. According to a study conducted by Sebastian Edwards (2019) of the University of California, Los Angeles, the populist governments of Chile, Peru, Argentina, and Venezuela have funded populist projects using money created by the central banks. The result was “rampant inflation … and rising debt as governments struggled to maintain living standards” (Edwards, 2019). Kelton, nevertheless, argues that the possibility of the US defaulting on its debt is unlikely due to its “monetary sovereignty,” citing Greece as an antithesis (Tavlas, 2020). However, to determine that MMT is unproblematic just because it doesn’t result in the worst case scenario is highly misleading. Overspending during the Vietnam War and the Great Society led to distraught in the 70s and 80s, showing that the United States is not exempt (Dowd, 2020). Thus, MMT needs to be considered in light of what it can do to benefit the general American economy while also improving equity, rather than just avoiding worst case scenarios.
A pure form of MMT policies is unlikely to enter American politics when considering both political and economic factors. That doesn’t mean, however, that it cannot be incorporated partially. As more policies towards universal health care, minimum wage hikes, and cheaper education are realized in one way or another, the national debt will increase, and the national debt will not be canceled any time soon. Better alternative ways to finance MMT policies other than money creation along with inflation-targeting monetary policy may ensure more desirable economic outcomes (Dowd, 2020). However, for MMT to take a stronger hold in economic thought, it must substantiate its advantages against its most important downsides. Although somewhat compelling, MMT still has a long way to go to become a dominant school of thought in American and world economics.
- Image source
- 5 Problems with MMT. (2020, April 17). Retrieved from https://www.mercatus.org/bridge/commentary/5-problems-mmt
- Despain, Hans G. “Book Review: The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy by Stephanie Kelton.” LSE Review of Books, 20 Aug. 2020, https://www.blogs.lse.ac.uk/lsereviewofbooks/2020/06/22/book-review-the-deficit-myth-modern-monetary-theory-and-the-birth-of-the-peoples-economy-by-stephanie-kelton/.
- Dowd, K., (2020). The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy. Retrieved from https://www.cato.org/cato-journal/fall-2020/deficit-myth-modern-monetary-theory-birth-peoples-economy
- Hutchens, G. (2020, July 20). Why everything you’ve been told about debt and deficits could be wrong. Retrieved from https://www.abc.net.au/news/2020-07-17/what-is-modern-monetary-theory/12455806
- Irwin, N. (2021, January 11). The Most Important Thing Biden Can Learn From the Trump Economy. Retrieved from https://www.nytimes.com/2021/01/11/upshot/trump-economy-lessons-biden.html
- Mankiw, N. G. (2020). A Skeptic’s Guide to Modern Monetary Theory. doi:10.3386/w26650
- Modern Monetary Theory: Fiasco in Latin America, Option in U.S.? (2020, November 14). Retrieved from https://anderson-review.ucla.edu/mmt-consequences/
- Tavlas, George S. (2020). Modern Monetary Theory Meets Greece and Chicago. Retrieved from https://www.hoover.org/sites/default/files/research/docs/20122-tavlas_1.pdf
The progressive left which has overtaken most of the Democratic Party has fully embraced MMT. This is evident in their policy agenda. It may seem conspiratorial, but we have seen MMT implemented with every “crisis” that has faced the U.S. since 2008. Conspiracy theory intersects with conspiracy fact when you look at individual policies since then. The 2008 bailout, the three COVID-19 stimulus packages, and the push for more and more spending to combat climate change/invest in infrastructure. Every administration since G.W. Bush has been complicit in it. Deficits are clearly not seen as a limiting factor in government spending. The progressives use taxation merely as a way to curb inflation and redistribute wealth. To say that it is to increase revenue is simply lip service if deficits don’t truly matter. MMT is a house of cards that will crumble when the world finds that the U.S. dollar is no longer suitable as a global currency.