Noah Smith has a very good post discussing MMT models on the economy. Here’s how he concludes:
I’m not confident in my ability to answer these and other important questions by reading L. Randall Wray blog posts, or long online explainers, or wordy MMT papers. I want to be able to read a concrete, formal, well-specified model like the Tcherneva model above, and answer these questions myself. And the rest of the non-MMT econ deserves this as well.
I can see some value in MMTers providing a mathematical model, given the large number of conventional economists who are confused by their ideas. On the other hand, I don’t really understand the Tcherneva model that Smith examines.
In ten years of blogging, I’ve sketched out a model of the economy that some people term “market monetarism”. I am currently working on a book that will explain my ideas without employing any complex mathematical models. (Just simple models such as M*V(i) =P*Y.) Milton Friedman often did the same. So my objection to MMT has nothing to do with their lack of a sophisticated mathematical model.
In my work, I rely heavily on the work of others. Market monetarism repackages basic ideas that you’d find in a standard economics textbook, such as Frederic Mishkin’s money textbook:
1. It is dangerous always to associate the easing or the tightening of monetary policy with a fall or a rise in short-term nominal interest rates.
2. Other asset prices besides those on short-term debt instruments contain important information about the stance of monetary policy because they are important elements in various monetary policy transmission mechanisms.
3. Monetary policy can be highly effective in reviving a weak economy even if short term rates are already near zero.
That textbook also has a chapter on efficient markets, the theory that underpins my views on using markets to guide policy. It also has a chapters on rational expectations, the demand for money, the natural rate hypothesis, and lots of other components of market monetarism. There’s no need for me to re-invent the wheel by writing down lots of equations.
To better understand the problem with articles advocating MMT, consider this quotation from Milton Friedman:
As I see it, we have advanced beyond Hume in two respects only; first, we now have a more secure grasp of the quantitative magnitudes involved; second, we have gone one derivative beyond Hume.
Friedman was referring to ideas such as the Fisher effect and the natural rate hypothesis, which improved on previous theory by incorporating changes in the expected rate of inflation (rather than changes in the price level.) MMTers often seem stuck in the era of Hume, with no sophistication in dealing with changes in the expected rate of inflation.
Thus MMTers seem to have a theory that inflation is caused by an overheating economy, which in my view was completely discredited in the 1970s by the theoretical work of Friedman and the empirical work of Robert Lucas (who found that countries with high inflation do not have lower unemployment than countries with low inflation.)
In fairness, even some non-MMTers seem confused on this point. Here’s The Economist:
Many people make fun of macroeconomics. But any theory that must explain both Argentina and Japan deserves sympathy. Why, in particular, is inflation so stubbornly high in one and low in the other? In Argentina, consumer prices were 50% higher in February than a year earlier, the fastest increase since 1991. In Japan over the same period, inflation was less than 0.2%, equalling the lowest rate since 2016.
The inertia in both countries is puzzling. Inflation has stayed low in Japan despite a drum-tight labour market (unemployment has remained at 2.5% or below for over a year) and high in Argentina despite a fast-shrinking economy: its gdp contracted by more than 6% year-on-year in the fourth quarter of 2018.
The two countries, of course, have long mystified economists.
There’s nothing odd about either case. I could name dozens of examples like Argentina—countries simultaneously experiencing high inflation and recession. High inflation is what you get in a country that print lots of money in a positive interest rate environment. It has nothing to do with producing beyond capacity. And like Japan, places such as Germany and Switzerland have near-zero inflation and low unemployment.
The biggest problem with articles advocating MMT is that they frequently make claims that:
1. Seem wrong.
2. Are not explained or justified.
Thus an MMTer might claim that monetizing a big budget deficit will drive interest rates to zero. I don’t see how one could make that claim, as the Fisher effect often dominates the liquidity effect. One way to address this confusion is with a mathematical model. But there is a much simpler solution. If you claim that injecting lots of money will drive interest rates to zero and you know the profession finds this claim to be hard to swallow, then you’d want to say something like the following:
“Monetizing the debt by printing lots of money will drive interest rates to zero, due to the liquidity effect. Some might argue that interest rates could actually increase, due to the Fisher effect. However we do not believe this would occur, due to X, Y and Z.”
Or:
“The theory that inflation results from an overheating economy might seem to rely on a primitive Phillips Curve model that was discredited during the late 1960s, but we still believe the claim to be true, because of X, Y and Z.”
They should provide at least a brief clarification, if only to acknowledge that their claim is heterodox. Instead, I see MMTers repeatedly making verbal claims that simply seem wrong, without any apparent self-awareness that the reader will find the claim to be highly unpersuasive. The reader is then left with two possible explanations, both unpalatable:
1. The person making the claims is not even aware of the fact that it will be seen as being wrong, and thus doesn’t see a need for a clarifying explanation.
2. The person making the claim is aware that the claim will be seen as being unpersuasive, and doesn’t care enough to try to address the reader’s reservations with some sort of clarifying explanation. Some sort of, “To be sure, it might seem as if . . . ” statement.
Please note that the point I am making here is a big problem for MMTers, even if their entire theory is 100% correct. At least it’s a problem if they hope to persuade people who have already well-informed views on a wide variety of macro issues.
PS. In fairness, I sometimes skim over explanations in blog posts that are aimed at frequent readers, but I would certainly try to avoid doing so in a mainstream media article aimed at explaining market monetarism to a general audience.
READER COMMENTS
Benjamin Cole
Apr 4 2019 at 8:13pm
Unfortunately, the present-day MMT crowd, and their critics, have hopelessly muddied the macroeconomics waters ( although a curiosity is that MMT critics appear more interested in bashing left-wing and powerless academic proponents of MMT rather than the powerful and effective GOP -MMT crowd now running Washington).
Scott Sumner posits that monetary policy alone is enough to defeat a recession; just do enough QE and go deep enough on negative interest rates. The experience of Japan and Europe in this regard is not entirely convincing, nor the very sluggish recovery from the Great Recession in the US, which left the US economy on a long-term trajectory below that which had previously existed. Indeed, the recovery from the Great Recession was so feeble that conventional macroeconomists began to imagine that unexplained structural factors had changed everything overnight. Tyler Cowen has since retreated from that nightmare.
Unfortunately, both MMT’ers and orthodox macroeconomists never seem to clarify if there is a difference between deficit spending coupled with QE, and money-financed fiscal programs. Michael Woodford seems to say that QE coupled with federal deficit is a helicopter drop. And from MMT’ers I can never seem to get clarity on whether they mean to borrow and spend, or simply print money ( the much better option).
Given globalized capital markets, I wonder if the actions of any particular central-bank are losing effectiveness, in globalized economies.
An obvious and extreme example would be if the People’s Bank of China, the Bank of Japan, and the ECB decided to go to extremely contractionary policies. The US would be plunged into a recession, regardless of what the Federal Reserve did, unless the Fed or the Treasury simply printed money and did helicopter drops. Indeed this is what Japan did in the Great Depression to great effect.
In smaller doses, simple helicopter drops are probably the best way to stimulate a national economy at any particular occasion.
Why the success of Japan in the Great Depression is not a chapter in macroeconomics textbooks is beyond me. Western macroeconomists appear wedded to this claptrap of the Federal Reserve and somehow using an unstable commercial banking system to stimulate economic growth.
I think the MMT crowd is onto something, whether they are running the GOP or minting left-wing tracts.
The orthodox macroeconomics profession is responding to MMT the way shamans do to witch doctors.
Scott Sumner
Apr 4 2019 at 8:32pm
Ben, Any comments on this post?
Benjamin Cole
Apr 4 2019 at 10:23pm
Scott-
Well, I thought I did comment on your excellent post, but I did not want to be directly contentious.
I agree with you, and said so in my comment, that MMT needs much more clarity in their vision. (The MMT’ers—excluding Galbraith—oddly allowed the non-ideological idea of MMT to become conflated with a Green New Deal and permanent employment for everybody. In contrast, the Reagan-Bush-Trump-McConnell GOP-MMT crowd has, in real life, effected trillions of dollars of MMT through tax cuts, a better idea).
I think I disagree with you in this sense: I think the MMT’ers need to drop all the mumbo-jumbo and just say they prefer money-financed fiscal programs (of the kind Ben Bernanke advised for Japan).
MMT’ers could even advocate a smaller trimmer federal government, but financed by a varying ratio of money-financed fiscal programs, implemented when the economy nears recession, or unemployment gets above 3%-4%.
I don’t understand or agree with the borrow-and-spend MMT vision, the issuing of bonds, and the running up of national debts and working through the claptrap of the Federal Reserve and commercial banking system, and even the international financial system.
I wish you would clarify if you believe borrow-and-spend is actually only borrow-and-spend, when a central bank simultaneously buys back national bonds, and holds them (ala Japan).
Michael Woodford says borrow-and-spend in concert with QE is just a helicopter drop.
Do you agree with Michael Woodford?
I gather you advocate only QE and lower interest rates, or even negative interest rates as the best forms of macroeconomic stimulus, and not federal deficit-spending or money-financed fiscal programs.
But then the Fed says QE only lowered long-term interest rates by some pitiful amount, 20 basis points. etc. QE is a feeble brew, no? What does QE really do? Stuffing banks full of reserves when they won’t lend anyway? Banks can only lend if they think loans will be profitable. The decline of endogenous money-lending and creation is often a snowball rolling downhill.
So to comment directly on your post, you are correct to ask for more clarity from MMT, and they need simplify their message.
But I suspect your faith in QE and negative interest rates may be too large.
BTW, the highly-regarded Larry Summers has now bashed MMT, but then says Western nations need to accept chronic and larger budget deficits and that austerity doesn’t really work, given zero bound.
As a layman reading leading macroeconomists, I say, “Who’s on first?”
Scott Sumner
Apr 5 2019 at 3:34pm
Ben, You said:
“But I suspect your faith in QE and negative interest rates may be too large.”
That’s like saying I have “faith” in steering wheels.
Ahmed Fares
Apr 4 2019 at 9:41pm
I posted this earlier today on Arnold Kling’s blog:
Having acknowledged that there are real limits to budget deficits (it was never denied), MMT nevertheless makes clear that budget deficits are the norm, not the exception. This does not mean that budget deficits of any size are okay. They must be consistent with private-sector net-saving intentions. It simply means that ongoing budget deficits of some size will be the appropriate policy under normal circumstances. The reason for this is that the non-government sector typically desires to net save. This means, as a matter of accounting, that the government sector must be in deficit.
———————————-
Whenever the non-government sector net saves, it is spending less of the monetary unit than it earns. The result is unsold output and a signal to firms to cut back output unless the government fills the demand gap through deficit expenditure. By doing so, the government is in a position to ensure all output is sold at current prices and the non-government sector satisfies its net saving desires. If, instead, the government allows the demand shortfall to persist by not injecting sufficient expenditure of its own, firms will respond by cutting back production. There will be a contraction in output and income, thwarting non-government net saving intentions. If the non-government sector responds by redoubling its efforts to net save, the result is a further shortfall in demand, further contraction of income (as well as tax revenue), more frustration of non-government saving plans, etc. There is no end to the process until either the non-government sector accepts a smaller net-saving position or the government accepts a bigger deficit. —heteconomist (Dr. Peter Cooper)
Here is the accounting identity (absent the external sector):
(S – I) = (G – T)
If the private sector desires to net save, i.e., save net of investment, the government must run the corresponding deficit, or watch the economy contract. It is better to run the economy at full capacity then to worry whether a portion of private sector saving isn’t real because the private sector may actually try to spend it. In point of fact, it is that small portion of “fake saving” that allows you to have a greater “real saving” because the economy grows to a larger size over time, something that MMT makes mention of.
As for formulas as requested by Dr. Sumner in his article today, MMT makes great use of Wynne Godley’s sectoral balances approach to economics:
(G – T) = (S – I) – (X – M)
Which in English says for income to be stable, the fiscal deficit will equal the excess of saving over investment (which drains domestic demand) minus the excess of exports over imports (which adds to demand). —Bill Mitchell
So basically, the government deficit must cover the domestic private sector’s desire to net save and the trade deficit. The latter for the US being a function of the US dollar’s role as the reserve currency, i.e., the Triffin Dilemma.
Matthias Görgens
Apr 5 2019 at 2:46am
Indeed the private sector can only net-save if the rest of the economy does the opposite.
The private sector just reacts to public sector providing opportunities for saving.
But the private sector could cope very well, if those opportunities weren’t around.
Eg households could invest even more in widely diversified company equity. Companies wouldn’t mind too much having more equity outstanding, and having a negative balance.
Ahmed Fares
Apr 5 2019 at 3:38pm
Eg households could invest even more in widely diversified company equity.
When households “invest” in equity, that is not investment as defined in the national accounts. That is just a change of ownership of a portion of the outstanding capital stock.
Companies wouldn’t mind too much having more equity outstanding
Again, companies are not going to add more investment than what is required. If by your comment you meant more widespread equity ownership, it just means the same equity is spread over a larger part of the population. That doesn’t change the numbers in the aggregate, which is where the problem lies.
Warren Platts
Apr 8 2019 at 4:12pm
When households “invest” in equity, that is not investment as defined in the national accounts. That is just a change of ownership of a portion of the outstanding capital stock.
I was just reading Mankiw’s textbook on this subject. He is kind of ambiguous on the topic. “Investment” is, on the one hand, supposed to be construction of new buildings and machines; yet Savings is by definition simply what is left over after consumption and taxes.
In a closed economy–and Planet Earth is a closed economy–Savings by definition equals Investment. So if a household saves some cash and invests in the stock market, yes, this is a mere transfer of asset ownership. Technically, the household invests in the stocks, but that is offset by the former owner disinvesting in those stocks.
I guess whether that household’s savings counts toward the national account depends on what the former owner does with the proceeds of the sale of stock. If he spends it on consumption, then the household’s earnings that were invested in the stock market wind up in the C column.
But if the former owner instead withdraws the proceeds in the form of $100 bills and stuffs them in his mattress, those $100 bills represent an Investment in the American economy, and thus go into the I column. (I think.)
Ahmed Fares
Apr 9 2019 at 6:39pm
But if the former owner instead withdraws the proceeds in the form of $100 bills and stuffs them in his mattress, those $100 bills represent an Investment in the American economy, and thus go into the I column. (I think.)
All income is by definition saving. Until it is spent, it is undesired saving. When it is spent according to the marginal propensity to consume, the remainder represents desired saving. The portion that is spent into the community is undesired saving by the community and this process continues until all undesired saving becomes desired saving. At every instant, saving equals investment.
While it’s true those hundred dollar bills under the mattress are saving, they may end up being the counterpart to inventory, another type of investment. And not the good kind because that leads to unemployment. The economy then contracts.
Mark Z
Apr 5 2019 at 3:30am
You argue that the government running a deficit is a response to the private sector’s desire to net save. I’d suggest that perhaps it’s the opposite: the private sector net saves because the government creates the opportunity by selling it bonds. I very much doubt Bill Mitchell’s vicious cycle would happen if the government ran chronically balanced budgets.
Ahmed Fares
Apr 5 2019 at 3:20pm
Better yet, why not a surplus and pay down the debt…
Since 1776 there have been exactly seven periods of substantial budget surpluses and significant reduction of the debt. From 1817 to 1821 the national debt fell by 29 percent; from 1823 to 1836 it was eliminated (Jackson’s efforts); from 1852 to 1857 it fell by 59 percent, from 1867 to 1873 by 27 percent, from 1880 to 1893 by more than 50 percent, and from 1920 to 1930 by about a third. Of course, the last time we ran a budget surplus was during the Clinton years. I do not know any household that has been able to run budget deficits for approximately 190 out of the past 230-odd years, and to accumulate debt virtually nonstop since 1837.
The United States has also experienced six periods of depression. The depressions began in 1819, 1837, 1857, 1873, 1893, and 1929. (Do you see any pattern? Take a look at the dates listed above.) —L. Randall Wray
Scott Sumner
Apr 5 2019 at 3:37pm
When you look at budget deficits in real terms you’ll find they are more common, occurring often in the post-WWII decades.
The government does not need to run deficits and the public doesn’t desire net saving.
Ahmed Fares
Apr 5 2019 at 4:32pm
If you look at the graph on Stephanie Kelton’s page linked below, you will see that the domestic private sector balance (the blue part) is almost always in surplus, i.e., net saving.
http://www.realitybytes-blog.dreamhosters.com/2014/12/27/a-better-annotated-sectoral-balances-graph/
Mark Z
Apr 5 2019 at 7:13pm
I just looked at the data since 1949 (that’s how far back the first CBO page I found went) and budget surplus (/deficit) had a slight positive correlation with GDP growth (real and nominal). I think specifically growth the following year, since the surplus data is dated January 1st for each year), and a significant negative relationship with unemployment. I tried 2 and 3 year lags, and found that the association between budget surplus and GDP growth (2 or 3 years later) became statistically insignificant, while the (negative) correlation with unemployment rate persisted and remained significant.
Suffice it to say I remain unconvinced that surpluses are conducive to contraction.
Justin Rietz
Apr 5 2019 at 8:53pm
Though, assuming causation, it’s likely that surpluses ended BECAUSE there was a recession (and a subsequent drop in tax revenues), not the other way around.
Trevor Adcock
Apr 5 2019 at 3:36am
So is desired net savings totally interest inelastic? That both desired savings and investments don’t budge at all if interest rates change?
That is a ludicrous assumption. In standard Keynesian models you can just adjust the interest rate to make desired net savings zero. Explain why you can’t do that.
Ahmed Fares
Apr 5 2019 at 3:33pm
In Keynesian economics, investment is based on the marginal efficiency of capital. Here is Keynes in his own words.
“The marginal efficiency of capital is equal to that rate of discount which would make the present value of the series of annuities given by the returns expected from the capital asset during its life just equal to its supply price.” – J.M.Keynes, General Theory, Chapter 11
In other words, the spread between the cost of funds and what you can earn on those funds. Low interest rates are not enough.
As for saving, classical economists said that people save first and spending was the residual, Keynes said that people spend first and saving was the residual, i.e., saving is not really affected by interest rates.
Trevor Adcock
Apr 6 2019 at 3:01am
“The marginal efficiency of capital is equal to that rate of discount which would make the present value of the series of annuities given by the returns expected from the capital asset during its life just equal to its supply price.”
Here Keynes is just assuming a supply price. The supply price depends on the interest rate, by his definition. So a different interest rate means a different supply price, means a different marginal efficiency of capital. Everyone agrees the interest rate will equal the marginal efficiency of capital, the question is whether that marginal efficiency can be changed by monetary policy. I say yes.
“As for saving, classical economists said that people save first and spending was the residual, Keynes said that people spend first and saving was the residual, i.e., saving is not really affected by interest rates.”
No, no, no, people don’t save first or spend first. It is all simultaneous, you can’t talk about savings, investments, spending or interest rates happening “before” each other. It is a system of simultaneous equations. It doesn’t make sense to talk about things happening first or last.
Jerry Brown
Apr 5 2019 at 1:04am
Scott, MMT economists are very much aware that their ideas conflict with what most other economists believe to be true. So I do not think that a lack of ‘self awareness’ is a problem here. And they have written plenty and anyone interested can go and read what they wrote for themselves. I’m pretty sure they have given up most hope on convincing most other economists to agree with them- and with good reason at this point. And I don’t think that they really should spend any more time trying to convince the Brad Delongs and Noah Smiths or Scott Sumners anymore. Their arguments are out there in print and on line and anyone, including economists, can read them and make their own judgements. But other economists maybe should read them- even if it takes more than a few days- before critiquing them.
P.S.- everything that Ahmed Fares said about MMT is totally consistent with my understanding of MMT.
Mark Z
Apr 5 2019 at 3:34am
I don’t think anyone doubts that their arguments are out there. You seem to think MMTers are right. What specific answers do you have in mind for the issues raised by critics?
Scott Sumner
Apr 5 2019 at 3:47pm
Jerry, You have not addressed the points I made in the post. If they understand that their ideas are contrarian, then why not try to justify them in an article that is intended to explain the ideas to others? They make controversial claims with no justification, no explanation—just sort of charging blindly ahead.
When they suggest that huge budget deficits push rates to zero, they need to explain why the Fisher effect does not prevent that. Simply ignoring that problem makes them look bad. They may understand the Fisher effect and think it doesn’t apply for some reason—but tell us why!
Here’s an analogy. Imagine trying to sell a controversial idea in physics, say cold fusion. Any proponent of cold fusion presumably knows why conventional physicists believe the theory to be wrong. Thus if you were trying to convince people that cold fusion could occur, you’d want to explain why those conventional objections are not applicable.
But the MMTers are just silent on these points, at least in all the articles I have read over the past decade. Do they have some paper that explains why they think inflation is caused by an overheating economy? Or why they think flooding the economy with money will drive rates down to zero?
Ahmed Fares
Apr 5 2019 at 4:45pm
When they suggest that huge budget deficits push rates to zero,
Or why they think flooding the economy with money will drive rates down to zero?
What MMT actually says is that absent bond sales, huge budget deficits, i.e., flooding the economy with money, will drive interest rates to zero. This from Bill Mitchell’s blog:
So what would happen if a sovereign, currency-issuing government (with a flexible exchange rate) ran a budget deficit without issuing debt?
Like all government spending, the Treasury would credit the reserve accounts held by the commercial bank at the central bank. The commercial bank in question would be where the target of the spending had an account. So the commercial bank’s assets rise and its liabilities also increase because a deposit would be made.
The transactions are clear: The commercial bank’s assets rise and its liabilities also increase because a new deposit has been made. Further, the target of the fiscal initiative enjoys increased assets (bank deposit) and net worth (a liability/equity entry on their balance sheet). Taxation does the opposite and so a deficit (spending greater than taxation) means that reserves increase and private net worth increases.
This means that there are likely to be excess reserves in the “cash system” which then raises issues for the central bank about its liquidity management. The aim of the central bank is to “hit” a target interest rate and so it has to ensure that competitive forces in the interbank market do not compromise that target.
When there are excess reserves there is downward pressure on the overnight interest rate (as banks scurry to seek interest-earning opportunities), the central bank then has to sell government bonds to the banks to soak the excess up and maintain liquidity at a level consistent with the target. Some central banks offer a return on overnight reserves which reduces the need to sell debt as a liquidity management operation. —Bill Mitchell
Justin Rietz
Apr 5 2019 at 9:09pm
“This means that there are likely to be excess reserves in the “cash system” which then raises issues for the central bank about its liquidity management. “
If I understand MMT correctly, the assumption here is that the banks aren’t increasing lending in response to having extra reserves, and thus wider measures of the money supply (e.g. M2) aren’t increasing. That is, the money supply is endogenous. This also leads to the believe that an increase in bank reserves doesn’t directly result in inflation.
Inflation thus occurs when the economy is at full capacity and the government spending therefore competes for already employed resources. As Jeff Hummel has pointed out (https://www.econlib.org/library/Columns/y2019/Hummelmonetarytheory.html), MMT seems to see inflation as a knife-edge case: as long as there are unemployed resources, increased government spending doesn’t increase the price level, but this abruptly changes at the full-employment level.
Ahmed Fares
Apr 6 2019 at 4:19pm
Justin,
MMT seems to see inflation as a knife-edge case: as long as there are unemployed resources, increased government spending doesn’t increase the price level, but this abruptly changes at the full-employment level.
This is correct as long as you understand that you typically cannot hit that full-employment level without government deficits, again because the private domestic sector desires to net save. Remove the deficit and you remove full employment.
Writing against Paul Krugman’s position, Bill Mitchell writes the following:
On-going fiscal deficits at full employment do not “crowd out” private investment.
Again, as I said above, it’s because the deficit is the cause of that full employment. Those deficits were required because that private investment was not at the level that satisfied the saving desire of the private sector. The government deficit fills that gap. Or the foreign sector, if US trade is in surplus, which it isn’t for the US. So in addition, the government deficit has to cover that also.
Jerry Brown
Apr 5 2019 at 11:11pm
This is a long comment but you didn’t ask an easy question. So here is my answer.
MMT is generally classified as a ‘Post Keynesian’ school of economics. As such, they hold most of what Keynes argued as being true. One of Keynes’ arguments was that the economies we live in are ‘monetary production’ economies where the goal of economic production is mainly ‘money’ almost in and of itself. Which you can distinguish from a theory of money as an aid for barter where I might grow apples with the goal of trading them for the bananas that you grow. So money is different at a fundamental level from any commodity type thing and it should not be considered ‘neutral’ or as a ‘veil’ over the real economy.
Also MMT like other post Keynesians holds that money is ‘endogenous’ to the economy meaning that money is created as part of the workings of the economy in the system we have rather than being something whose supply is determined by an authority like the Central Bank or limited by the amount of a commodity like gold. Which MMT takes very seriously as you know if you read any of their extensive writings about how the banking system and finance and debt issuance by governments actually work.
The ideas that Keynes is credited for have been argued about for like 80+ years now or more and are obviously still controversial. I would suppose that if you truly disagree with what Keynes said on these topics then you will by default disagree with what MMT says also. And Keynes is difficult enough to just read let alone figure out what the heck he is saying.
So what’s the point of this comment? MMT is a theory about the nature of money and what gives it value and how it can be created and used by those that are the ultimate issuers of it. If you can accept the foundations of the theory then the rest of it makes a lot of sense. But maybe you have to start at the foundations rather than jumping in somewhere in the middle if you want to understand what and why MMT says specific things that you find controversial. As a chain of logic and description MMT makes a lot of sense to me. And as a chain of logic and description it should be fairly easy to discredit if you can point out where the logic fails or the description is wrong. Or you could just point out that the chain is anchored to the wrong foundations. But it has been surprisingly resilient to such attempts so far.
So on your specific question about why MMTers wouldn’t automatically mention the ‘Fisher Effect’ in their arguments. Well first off I don’t know that they haven’t and would suggest asking one of them rather than me. I mean Bill Mitchell has an email address there at his blog and a comment section and he has answered more than a few of my questions- maybe he would answer yours. And there is a search function at that site. I mean you could at least try that. But assuming you already tried the obvious routes- you could try this blog post from Bill Mitchell bilbo.economicoutlook.net/blog/?p=12473
I personally, am no expert on Irving Fisher’s ideas. But I do know that MMT considers the nominal interest rate on risk free loans like Treasury bonds to be a policy variable determined by monetary policy rather than in a market for ‘loanable funds’. And MMT has good arguments as to why that is true. Aside from that, I would guess that the ‘Fisher effect’ is not really compatible with the idea that the economy is of a ‘monetary production’ nature- and that has already been extensively argued about in the past. Even if it may not have been settled to your satisfaction. At some point you have to decide what you are basing your arguments on and unless there is good evidence that shows your basis is wrong then you continue. And just how often do you have to go into detail about arguments you have already dealt with in the past? The arguments are still there to be read in case someone missed the boat the first time. But they need to be read to be understood. Is there good new evidence about this unobserved ‘real’ interest rate that can be pointed to? I’m skeptical as Russ Roberts likes to say.
Scott Sumner
Apr 6 2019 at 2:40pm
I have lots of problems with what you say. First of all, economics has made a lot of progress since Keynes’s General Theory of 1936, which also ignored the Fisher effect and the role of inflation expectations in the Phillips Curve. Significant parts of that model have been discredited. So if you are going to go back and say “we’re just going to assume that what Keynes said in 1936 is true”, you won’t convince modern economists—not even new Keynesians—you need to respond to their objections. Would a modern physicist rely on Newton, and ignore Einstein’s contributions?
Endogenous money is a basically meaningless idea, anything can be either exogenous or endogenous depending on one’s perspective. And it has no bearing on whether there is a Fisher effect from money creation.
Ahmed Fares gave me some quotes from Bill Mitchell. Why would I want to spend time reading more of his work after looking at those quotes? Do they make you think “Hmmm, those are really interesting ideas”?
You said:
“At some point you have to decide what you are basing your arguments on and unless there is good evidence that shows your basis is wrong then you continue.”
Well there is certainly very strong evidence in favor of the Fisher effect, and very strong evidence against the claim that inflation is caused by “overheating”.
Ahmed Fares
Apr 6 2019 at 4:38pm
Endogenous money is a basically meaningless idea
Jerry was writing about endogenous money creation, the idea that the private sector determines the money supply, not the central bank.
I know that these are new ideas because when I studied economics, I learned things like “deposits create loans”, fractional reserve banking, the money multiplier, etc. All these turned out to be nonsense.
The sad thing is that they’re still teaching this stuff in the universities.
Jerry Brown
Apr 7 2019 at 2:59am
Scott, I want you to know that I really do appreciate your reply. But you know I just don’t agree with all of it- but hopefully it is ok for someone to disagree.
Einstein’s contributions to physics have been backed up by empirical evidence. No one would ignore them. And even before the empirical evidence was possible to collect, the theories were such that most accepted them. I think- I’m not a physicist. Evidence in economic debates is much more controversial- I think you would agree.
MMT doesn’t agree with everything Keynes said. I mean Keynes was mostly writing in a ‘gold standard’ type world when he wrote and MMT takes great pains to differentiate between fiat floating currencies and those fixed by gold standards or fixed exchange rates. And MMT doesn’t necessarily disregard more recent economists. Abba Lerner and Hyman Minsky and Wynne Godley are generally acknowledged by MMT as very important to their ideas. That MMT doesn’t agree with some of the things Milton Friedman said or Paul Samuelson said (or Paul Krugman or Scott Sumner) doesn’t mean it is automatically off the wall crazy and should be dismissed by pronouncements that it ‘is just wrong’.
The ‘endogenous money’ thing actually is very important to MMT- in my view. I probably mangled what I was trying to say but Ahmed explained it better than I did. It is far from a “meaningless idea” if you are at all concerned about understanding why MMT says what it says. I guess you don’t have to agree with the idea of it or its importance, but you will find that central bankers themselves describe the monetary creation process this way.
My final point is one I was trying to make in my first comment. You say “you won’t convince modern economists—not even new Keynesians—you need to respond to their objections.” I’m not sure just how important it actually is to convince economists anymore. What’s the point of trying past a certain extent? I’ve been reading about MMT for about as long as I have followed your blog “TheMoneyIllusion”. So maybe eight plus years or so. All that time ‘modern economists’ mostly ridiculed any mention of MMT if they even talked about it. No engagement with MMT ideas or arguments. No willingness to even read the arguments before dismissing them. Yet MMT is in the news now and all of a sudden ‘modern economists’ feel they have to address it.
Point is- MMT doesn’t have to do anything different than it has been doing because it is doing just fine without convincing skeptical economists who won’t even read about it.
Warren Platts
Apr 9 2019 at 7:56am
Einstein’s contributions to physics have been backed up by empirical evidence. No one would ignore them.
Not exactly. Galaxies apparently rotate much faster than Einstein’s General Theory of Relativity predicts. Thus there is in a fact a theory that tweaks Newton’s old theories–Modified Newtonian Dynamics (MOND). The other main theory is of course the positing of Dark Matter–the evidence for which is otherwise zero, despite the fact that it must make up most of the matter in the universe. There are other theories like Mike McCulloch’s theory of Quantized Inertia that does a good job predicting the rotation rates; yet most mainstream physicists call it nonsense.
The other main problem with Einstein is he predicts that the expansion rate of the universe should be decelerating, yet it is apparently accelerating. Nobody has a real clue as to why that is.
Bottom line: Nothing in science is written in stone–not even Einstein–let alone economics.
Mark Z
Apr 10 2019 at 1:35am
Ahmed, I find the dismissal of deposits creating loans – indeed, the entirety of MMT thinking about how finance works – to be pretty inconsistent with how banking actually works in practice. I thought this was a good piece by Julien Noizet at Alt-M on the problematic assumptions MMT makes about bank behavior: https://www.alt-m.org/2019/03/15/friday-flashback-the-problems-with-mmt-derived-banking-theory/
Would it be correct to say that MMTers belief in the endogeneity of money creation is based on (or that their main evidence for it is) some empirical studies finding that various countries’ money supplies appear invariant to the central bank’s activities? I’ve found some studies positing this about Egypt, Iraq, and Australia before 1993.
Because I think there is an important (maybe market monetarist) response to this. Suppose a central bank targets interest rates at some value over some time period; and suppose it usually misses its target by a little, overshooting here and undershooting there, but in the long run, averages about whatever the target value is. Because the market knows what the target is, and knows what it will be on average, the market’s behavior is invariant to fluctuations about the target. MMTers would be mistaken to see this as evidence of true endogenous money though, because if the central bank were to suddenly increase it’s target by a significant amount (and accordingly, interest rates started fluctuating about the new value) then the market would respond and money supply would change accordingly.
So, variation about the central bank’s targeted value is one thing; variation in the value itself is another. Invariance with respect to the former occurs because market expectations are based on what the central bank says its target is (and assessments of how credible the central bank is). As far as empirical evidence goes, I wonder what MMTers say about Christopher Sims’s empirical finding that (contrary to contemporary Keynesians’ assertions) Milton Friedman was right about income being determined by money supply rather than vice versa.
Scott, does what I just wrote at all resemble the market monetarist criticism of endogenous money? Or am I writing nonsense?
Ahmed Fares
Apr 11 2019 at 2:26am
@Mark,
Cullen Roche wrote an article in which he clarified the position of banks as regards deposits. Banks pay a competitive rate of interest, not to attract deposits but to retain deposits. It’s a distinction with a difference.
The rest of the article infers that deposits must be very important if banks are trying to attract them, which they aren’t.
Lorenzo from Oz
Apr 5 2019 at 9:42pm
This seems an odd comment from the Economist, because I have read lots of pieces over the years making sense of both countries with pretty bog-standard economics. It is only if you are hung up on the Philips Curve that there is a problem.
Scott Sumner
Apr 6 2019 at 2:41pm
Good point.
Bill Woolsey
Apr 6 2019 at 6:58pm
It is simply false to claim that the government must run budget deficits to allow for anything important, though I suppose “net saving” might be defined in MMT in such a way that it is the opposite of the government’s budget deficit. But that must means that net saving is of no economic importance.
It is true, of course, that equilibrium requires desired investment to equal desired saving. The proper role of interest rates is to coordinate saving and investment. It is conceivable that given some target growth path for the price level, the nominal interest rate necessary to coordinate saving and investment is negative. Households can accumulate private money, such as bank deposits, private bonds, or equity claims to business to accomplish whatever desire they have for saving. While households might want to accumulate government bonds or government-issued money, it is not necessary to save. (I might want to buy stock issued by a privately held company, but my inability to accomplish that does not prevent me from saving. Again, equilibrium requires that desired investment–spending by firms on capital goods–match desired saving.
It is also true that if the government monopolizes the issue of money then if there is an increase in the demand for nominal money balances given some target for the growth path of the price level, then the government must issue more money for the target trajectory for the price level to be feasible. While it is possible to issue such money to fund a budget deficit, that is not the only way to expand the quantity of money. If there is an outstanding national debt, then it is possible to increase the quantity of money by purchasing outstanding government bonds even if the budget deficit is less than the needed increase in the quantity of money–including a balanced budget or a budget surplus. That approach requires that there must have been budget deficits funded by bonds in the past and a growing nominal quantity of money would eventually result in the entire national debt being monetized if it didn’t grow through bond-financed budget deficits. Neither of those considerations is very relevant to the United States today. We have a large outstanding stock of government bonds and even if the government ran modest budget surpluses, the day it would fully monetized would be in the distant future. Of course, it is also possible for a central bank to purchase private securities and create “government” money without there being any national debt or budget deficit at all. Alternatively, loosening the government’s restriction on privately-issued money can reduce can the demand for government issued money substantially, and perhaps to an arbitrarily small amount. Of course, ceasing to pay interest on bank reserve balances at the Fed would reduce the demand to hold money somewhat, and if that is not enough, imposing charges would do the same.
If some growth path for the price level (like a stable one) is not a concern, then more deflation could generate more rapid increases in the real quantity of government issued money if necessary to meet a growing demand for real money balances. On the other hand more inflation would allow for a more negative real interest rate consistent with a zero nominal interest rate on hand-to-hand currency, allowing real interest rates to become more negative if necessary to coordinate planned saving and investment.
Jeff Hummel
Apr 7 2019 at 3:34pm
Scott,
The most sophisticated presentation of MMT views on interest rates and on the Fisher effect that I have found is this post from Eric Tymoigne: http://neweconomicperspectives.org/2017/10/money-banking-post-21-interest-rate.html. It also provides links to his related posts. I think Tymoigne is wrong, but he does make a serious effort, including some empirical analysis, to critique the mainstream approach.
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