Does MMT need a mathematical model? Or greater self-awareness?
By Scott Sumner
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.”
“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.