Modern Monetary Theory, Milton Friedman turn over in your grave

April 15, 2019

 

 

This is some kind of crazy economics. According to an Economist Magazine summary of this theory, currently a darling of some politicians way left of center, Modern Monetary Theory says 

 

 

"A government that prints and borrows in its own currency cannot be forced to default, since it can always create money to pay creditors. New money can also pay for government spending; tax revenues are unnecessary. Governments, furthermore, should use their budgets to manage demand and maintain full employment (tasks now assigned to monetary policy, set by central banks). The main constraint on government spending is not the mood of the bond market, but the availability of underused resources, like jobless workers. Raising spending when the economy is already at capacity can lead to rapid inflation. The purpose of taxes, then, is to keep inflation in check. Spending is the accelerator, taxation the brakes. Fiscal deficits are irrelevant as long as unemployment is low and prices are stable." [Economist Magazine, March 14, 2019]

 

Actually not all the statements in the Economist Magazine summary are totally outrageous. Government deficit spending during recessions is for the most part accepted by main stream macro economists as is the statement that 'raising government spending when the economy is already at capacity can lead to inflation.' But that tax revenues are unnecessary, totally unnecessary is definitely unorthodox.

 

Nirvana! We've got our free lunch! Turn over in your grave Milton. That is Milton Friedman. I think even John Maynard Keynes would be turning over in his grave as well. And so would Paul Samuelson, I believe.

 

To this MMT theory (calling it a theory is being generous because after all there is no formal model of the economy that MMT advocates have put forward), I say if a government administration adopts such a theory and puts it into practice "God help us."  Super inflation will do us all in. And if government ever wanted to boost the prospects of a take over of the economy by a digital currency a la Bitcoin, following MMT policy might just do it.

 

Here's the reality. Government spending should be based on decisions about how much of the output or real income that the economy can produce at full employment should be public goods, i.e., government provided goods and services, and how much should be left to the the private market system. That should determine taxes needed to support that government spending. Monetary policy should be used to guide aggregate demand so the economy does not veer too far off of full employment output. Government tax revenue need not match government spending in every year but instead it should assist monetary policy goals by running deficits when the economy is operating significantly below the full employment level, but balance these times with government surpluses during times when the economy is humming at full employment levels.

 

That is orthodox Macroeconomics and it's the best we've got at the moment. And a voodoo economic theory promising a free lunch just won't work, no matter how much we wish it would. After all economics is not called the dismal science for nothing. It's dismal in the sense we cannot have all we wish for, we never can. If we could there would be no need for economics at all. 

 

 

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