Amol Agrawal
After Thomas Piketty’s works on inequality, if there is something that has stormed the economic world, it is Modern Monetary Theory (MMT). Just like Piketty, MMT has achieved both a rock star appeal and invited criticism from economists. The social media is rife with discussions on MMT.
What is MMT? Actually, it is not a modern theory of money as its term suggests but a combination of several historical ideas on evolution of money. There are broadly two thoughts on the advent of money. The first is that money evolved naturally (or spontaneously) as humans figured money as a better way for exchanging goods and services compared to barter. The second is that money evolved due to the State which via its system of taxation and expenditure led to money. The state by its authority prescribed only a certain form of money as legal tender and accepted its taxes only in that legal tender, leading to certain forms of money having precedence over others.
MMT takes its origins from the second thought and takes the idea forward. The core of MMT is that as the State has monopoly over currency (via the central bank), it can run its deficits without bothering about any constraints to finance the deficit. We usually think that government receives taxes first and then spends but MMTers say it is the opposite: government spends first and then receives the taxes. In fact, its adherents say that government borrowing is a “misnomer” as the government is getting its own issued currency notes and nobody can borrow its own notes. The MMTers further argue that based on this reasoning, the government can finance infrastructure projects and even fund job guarantee schemes to remove involuntary unemployment.
For many economists, MMT reads like the often criticised policy in economics called debt monetisation. Under debt monetisation, the government monetises its debt by issuing bonds and asks the central bank to buy those bonds. This is what was happening in India too. In the 1950s, the government initially asked RBI to monetise its debt which became automatic as the debt was financed continuously. This resulted in the government not caring about its widening fiscal deficit, resulting in high inflation. The 1991 crisis is often seen as a fiscal deficit crisis first before it became a balance of payments problem. As part of the 1991 reforms, RBI and government phased out this practice, ending it in 1997. In fact, this problem of deficit financing was not limited to India alone but has been a bane of many countries. Most episodes of hyperinflation also go back to similar linkages between debt and money.
Given this broad sweep, why would MMT folks support these ideas? The answer is conditions in developed countries have surprised the economists. As the global financial crisis hit world economies and central banks cut rates to zero levels and infused liquidity like never before, there was a feeling that inflation would soon hit these economies. After all before MMT took centre stage, the quantity theory of money held that too much money leads to more inflation in the economy. However, this has hardly been the case with most developed economies struggling with low inflation. The economists are debating whether the Phillips curve has flattened, which means that a large change in unemployment will only bring about a marginal change in inflation. This is quite surprising as it was felt central banks could easily create inflation but it has not been the case despite large scale monetary infusions by these institutions.
Another variable which has surprised is the low interest rates on bonds. It was widely felt that with rising debt and deficit levels in developed economies, interest rates on bonds will increase sharply. However, this has also been missing with the yield curve remaining much lower than expected.
Both missing inflation and lower than expected interest rates have led to the emergence of MMT. The supporters say that as inflation has been absent despite high debt and monetary stimulus, it shows MMT has been working. They also draw inspiration from the Japanese case where despite years of monetary easing and high debt levels, inflation levels have barely increased. Thus, they argue the US could also take advantage of similar conditions and its government could spend without worrying about inflation.
In fact, what MMTers have been saying is not very different from mainstream economists such as Lawrence Summers and Olivier Blanchard. Both have been arguing that the US government should take advantage of lower interest rates and issue more debt to finance the next generation infrastructure, education demands and so on. Hence, both camps believe that the US should take advantage of this situation but the modes of financing are different. The MMT camp believes that spending can be financed by the central bank whereas the mainstream camp believes it can be financed by financial markets.
The supporters of MMT draw their inspiration from JM Keynes, Abba Lerner and Hyman Minsky, whose works have become popular during the financial crisis. Currently MMT ideas are led by economists such as Stephanie Kelton (Stony Brook University, also an adviser to US presidential candidate Bernie Sanders) and L Randall Wray (Levy Economics Institute at Bard College). Their ideas have got even more criticism as they represent mainly heterodox schools. Summers recently dubbed MMT as fallacious and remarked that “these new ideas are being oversimplified and exaggerated by fringe economists.” They also criticise that MMT would lead to hyperinflation. This is unduly harsh and mean as Summers himself has similar ideas as shown above. Second, ideas can come from anywhere and history tells us fringe ideas eventually go onto rule the world. Third by naming them fringe economists, we are again seeing the mainstream economists make the same mistake of hubris and arrogance they showed before 2008 crisis.
In my view, MMT is neither modern nor a monetary theory really. It is more like this special case which can be applied to certain economies given their existing economic conditions. These conditions exist in the US, Japan and some of the European conditions. Neil Irwin recently commented in the New York Times that MMT should first be tried in a small country as applying it in the US would be risky given its size. But then it is difficult to find any such country. The small emerging markets are unlikely to try it as most have suffered inflation due to similar fiscal ideas. Even some of the European countries are likely to reject it given their history of hyperinflation. Japan could be interesting but it is going through its own problems and has already done many policy experiments to get out of the situation. Thus, it is only US where these ideas can be applied and that is also the place where it is being widely discussed as well.
Amol Agrawal is faculty at Ahmedabad University. Views are personal.
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