MMT: What it Means for Canada
Arun Dubois’ blog post yesterday on Modern Monetary Theory has prompted me to write my own take on the subject. For those interested, an interesting thumbnail sketch of MMT, essentially functional finance augmented by a full understanding of monetary operations, is explained here.
While MMT deals with the details of monetary and fiscal matters, the implications of its analysis are much broader, especially in current political times. MMT shows that if we have the resources, money is no obstacle to a government that issues its own flexible exchange-rate fiat currency. It is not saying that creating money magically creates goods and services. It is saying that it is nonsense to think affordability for such a government could be about money rather than resources1. It shows that assertions questioning the capacity of the FEDERAL government to pay for programs, usually prefaced with the call for ‘‘adult conversations’’, and couched in terms such as fiscal sustainability, solvency, and unfunded liabilities, are red-herrings that will lead to needless reductions and privatizations of public programs in health care, elder care, pensions and so on.
For example, in the debate over how to address the aging population, it should be obvious that the only way to address this issue is to increase future productive capacity. This involves the application of real resources now to research, infrastructure development, education (including in areas relevant to servicing an aging population), etc. So while more resources will probably be needed in the future to attend to a larger cohort of elderly people, it does not follow that if the government “saves†money now, this will somehow help to address the needs of the aging population in twenty years time, say.2 Indeed, why on earth would cutting spending now increase the availability of the real resources required in the future: workers, buildings, energy, or metals and plastics for joint replacements? Similarly, how will privatizing services make more available to the elderly? It WILL make access to them more unfair as those with a greater ability to pay will be able to buy a larger share of what’s available.
And then, what of the great waste of our most precious resource – our people? According to Statistics Canada in July 2011 there were 1.4 million people unemployed who were ready and able to work. When the more comprehensive R8 measure is used, one that includes the under-employed and others, the number rises to 1.7 million. All these people and so much for them to do: improve public transportation, infrastructure, daycare, homecare, etc, etc. For MMT full employment is a priority to be addressed by increasing growth and devising targeted non-inflationary employment programs. The mainstream long ago abandoned the notion of full employment, believing that some non-inflationary level of unemployment is the best we can manage.
Interestingly, central MMT points regarding interest rates and solvency made over many years have been confirmed very publicly by the US debate over the extension of the debt ceiling. High profile people such as Alan Greenspan and Warren Buffett have noted that solvency cannot be at risk for a country that controls its own free-floating fiat currency. The dark view that bond vigilantes are imminently threatening to cause a steep rise in US interest rates was exploded by the precipitous DROP in US interest rates immediately after the US debt downgrade by Standard and Poors. Of course, Japan has had 0-2% interest rates for twenty years despite deficits and debt far higher than most other countries but, being on the other side of the world, it could be ignored.
So then why reduce deficits in the face of high unemployment as so many governments, including ours, say is so imperative? There is no risk of insolvency or high interest rates. Deficit hawks now say, as one did to me a month or so ago, the danger is inflation. Well, perhaps, one day, but not now – maybe not for many years. Why prepare for inflation now when the current danger is unemployment and deflation? A possible explanation comes from Paul Krugman (a non-MMTer) in a recent blog post: ‘‘what we’re seeing in practice is that defending the interests of a small wealthy slice of the population takes priority over a possible recovery strategy’’. While this may help explain why the Harper Conservatives and their corporate backers are not interested it does not explain lack of interest by others.
One difficulty of gaining greater acceptance of MMT is that some of its conclusions are quite jarring and counter-intuitive, since they do not agree with our everyday experience. For example, the fact is that government of Canada bonds are not issued to fund expenditures but rather to help establish the overnight interest rate … meaning that the federal government does not borrow to spend and could dispense with issuing bonds entirely! When I explain this3 the reaction of most people is: no that just can’t be, or, it is just printing money, or, it’s too hard to understand, or, even if true it’ll just confuse people because it doesn’t apply to the provinces, or, simple stares of disbelief. There is no doubt that explanations of monetary operations are complicated and ways to get many of the MMT ideas across need to be developed.
An interesting point, alluded to by Arun, is that in the midst of the confusion about the ongoing economic crisis the main MMT practitioners have shown remarkable clarity of understanding and made repeated correct calls on economic developments, especially with respect to monetary operations. This has resulted in Warren Mosler and Marshall Auerback, and others, becoming advisers to some of the largest financial trading companies in North America. Clearly, some of the people responsible for investing hundreds of billions of dollars in financial markets have adopted MMT due to its analytical track record.
MMT provides a way to run the economy at near full capacity without triggering much additional inflation, although the inflation rate could rise somewhat if the economy boomed. MMT is not just theoretical. In effect its greatest practitioner, without admitting to it, has been the Republican Party in the U.S., but only when in power: it cuts taxes to the wealthy and increases spending on prisons, the military, and war, and lets the deficit increase. And it works. When the economy is depressed economic growth, job creation and deficits increase, and inflation and interest rates remain low. Progressives would not want to use MMT that way. We would want more jobs, producing civilian goods and services, fairly distributed, while subject to the constraint of potential output. And we would have the federal government spend tens of billions more annually on the programs and infrastructure we so desperately lack.
1 Peter Popper, http://heteconomist.com/?p=1637
2 ibid
3 A short technical explanation is as follows: If federal government deficit spending is not offset by bond issuance deposits accumulate in peoples’ and firms’ bank accounts and are booked as excess settlement balances in the overnight market. This would drive the overnight rate to the floor set by the Bank of Canada. If the Bank sets the floor at a low number, possibly zero, the banks would not like this at all as they would be forced to hold a zero or low earning asset, totaling potentially the full amount of the deficit. This was partially done (to the tune of $3 billion) for about a year by the Bank of Canada during the depths of the economic crisis, is partial practice in the US due to ‘’quantitative easing’’ and has been partial practice in Japan for many years and accounts in part for their very low interest rates.
Does this mean that the government could dispense with bond issuance entirely by setting the overnight rate at zero?
Regarding ways to get MMT ideas accross, I think it is better to leave aside the notion that “bonds of a currency issuer government are not there to fund anything” for two reasons. First, it is just too counter-intuitive a statement. Second, and more fundamentaly, I am not convinced this is technically correct as, after all, there is an inflow of cash into the Receiver General Account when the GoC issues bonds (just like there is an inflow of cash in my checking account when I get a loan from my bank). Moreover, the debt issuance operation is usually done prior to the actual spending contrary to a widely held MMT belief. In the case of Canada, if the actual spending comes a week after the debt issuance, then the additionnal Receiver General account balance will be “loaned” back to private banks to ensure that the overnight rate is not affected (note: guys in charge of operations at the Bank of Canada detest when we say “that the Receiver General cash balance is loaned back to private banks”, they prefer to say that “the GoC invests the cash balance of the Receiver General using term deposits at private
banks”.
All to say that the best way to convey the MMT message is perhaps to say that a currency issuer has two very special powers vis-Ã -vis private banks that non-currency governments (or normal households for that matter) do not possess:
1) the power to dictate the interest rate on its debt irrespective of what private banks think or does not think;
2) the power to impose holding of its debt on private banks irrespective of the desire of these banks. This is done simply by crediting private banks account at the central bank using a computer (remember that deposits at the Central Bank is a government liability just like T-Bills).
So in a nutshell, it is the private banking sector that reports to the Government for a country that is a currency issuer. For a non currency issuer country, it is the Government that reports to the private banking sector.
In the fiat currency paradigm, it appears that bond issuance is nothing more than a vestigial construct and essentially a private banking subsidy.
Kabuki Boys:
The issue of the interest rate on excess settlement balances and bond issuance are related but different. In the case of deficit spending, if the the Bank of Canada provides the Government of Canada with the financial assets it needs in exchange for Government of Canada bonds excess settlement balances will accumulate in the overnight market unless they are drained (“sterilized”). When the Bank of Canada sells those bonds it drains excess settlement balances from the overnight market. If the bonds are not sold and the excess settlement balances in the overnight market are not sterilized, the overnight rate will drop to the floor rate of the corridor set by the Bank of Canada. This is whatever rate the Bank wishes to set. Right now it’s 0.75%. It could be more or less, but no bonds need be involved. Why do things this way? Believers in austerity cite outstanding bonds as a terrible burden on our grand-children, etc. It could be useful to remove this “scary” target by not issuing bonds and just letting the banking system hold the excess balances. But perhaps this is too confusing as Qc suggests. Take a look at his/her comment.
An additional point: while some MMTers recommend setting the overnight rate at zero because it constitutes a risk-free subsidy to rentiers, others don’t agree. Not issuing bonds does have the downside of reducing the options households and firms have for parking their excess financial asssts in a totally risk free place. Fewer government of Canada bonds would mean more dependence on private sector savings instruments. In addition it would force the financial system to hold low return assets and would reduce its profits somewhat. Its response might be to increase fees, lowwer the interest it pays on deposits, and/or squeeze the wages of workers. In any event MMT analysis does not depend on a zero overnight interest rate. What is significant is that the Bank of Canada that can set the rate at whatever it wants (see Qc comment).
Qc:
True enough re the order of sterilization. MMTers typically prefer to discuss the sterilization of the excess settlement balances in the more intuitve order of government spends first then the central bank sterilizes. In fact it doesn’t matter because the excess settlement balances originate with federal government (deficit) spending and creating net new financial assets whatever the timing and precise nature of the sterilization process (issuance of bonds, repos, shifting Government of Canada deposits in banks).
I like your points 1 and 2. I think that ultimately MMT-type arguments need to be made and subjected to the full heat of skeptics in order to figure out the best way to get the ideas across as intuitively as possible. My experience is skeptics fall back on household finance arguments which are inapplicable for the currency issuer or invoke demand-side inflation which, while potentially a real problem, is not an issue now. All we need is a few million dollars (!) to do focus groups and some time to work out the best arguments. It did take the right lots of thinking and many years to get the public to care about the debt/deficit issue after all.
What troubles me a bit about this is the discourse surrounding it. Rather than being seen as an improvement over alternative macroeconomic theories within a debate, it is presented as a sort of new religion that the believers use to rail against the mainstream. That is, many of the proponents will suggest that believing a mainstream view is a moral fault rather than a disagreement. Beyond that, I think most of the support comes from the fact it tells social-democrats they get to do what they wanted to do all along – spend a lot and wipe out unemployment. So I think the discursive element is central here, bracketing the possible “truth” of MMT. So the point about Republicans inadvertently being MMTers seems appropriate because I think that if the theory had been presented in a necessarily conservative fashion it would have a completely different group of people supporting it. Which is obvious, but yeah.
Donald: I have to leave right now for a place with no computers. I’ll respond to your comment on Thursday or Friday.
You can listen to lectures from the leading lights of MMT at this link: http://www.netrootsmass.net/fiscal-sustainability-teach-in-and-counter-conference/. In April 2010 they had the “1st Fiscal Sustainability Teach-In and Counter-Conference”, to address the issue of “what is fiscal sustainability”, aimed at countering the right-wing Peterson Foundation’s conference on the same topic.
Donald:
A small number of MMters are admittedly very fervent in their language. My guess is it’s because the real world issues of high unemployment and its associated social pathologies, as well as inadequate public infrastructure and services are very serious matters yet mainstream proponents won’t really engage. They refuse to seriously consider the opportunities of a free floating fiat currency but focus instead on inapplicable issues such as insolvency, fiscal sustainability, the government budget constraint, etc. They do deal with inflation as a potentially real problem, which it is, but as a consequence of changes in monetary aggregates or private portfolio choices, rather than excess demand which is not on the horizon currently.
Politically MMT should be an easy sell: it opens up opportunities beyond the more conventional trade-offs. When unemployment is high, it’s not only about the trade-off between F-35 jets and daycare, it’s about having the F-35s AND spending on daycare. I don’t disagree with the validity of the trade-off argument but it should not limit our thinking on how much more is actually possible. It is all about the use of available resources. When resources lie idle and there are so many things to do they should be put to good use. In Canada the call for a balanced budget is made by the Conservatives and their friends who wish to reduce spending on social programs and environmental protection.
With respect to the US Republicans being INADVERTENT MMTers, you’ll note I actually wrote they didn’t ADMIT to it. I actually think the top levels of the Republicans are fully aware of what they are doing and that Dick Cheney’s famous comment that “budget deficits don’t matter” is a reflection of that. Please note I am NOT saying that budget deficits don’t matter. They do matter when the economy is at, or close to, full capacity
Where has the theory of MMT been put to the test? Is there a country that used it’s principals. If so can you tell me which one (s) and the dates.
Mick:
Modern Monetary Theory is misnamed. What it describes is not a theory but the real world monetary system we live in. There is plenty of evidence of this and consequently a number of MMT practitioners are now being solicited for advice from very large financial operators that have lost big time relying on mainstream analysis.
The MMT monetary insights are in fact apolitical. As I noted above, when in power and unemployment is high, the US Republicans spend freely on prisons and the military and reduce taxes on the wealthy and corporations and their concern about deficits and debt conveniently melts away. This is an MMT-type policy. I disagree entirely with its focus but it does produce economic growth, reduce unemployment, all without significant inflation or explosion in interest rates.
Most MMTers would advocate spending to create jobs for the unemployed more directly and in more constructive ways. A policy that is targeted to those who most need it through job creation would greatly increase their well-being and that of their families. It is very unfair that unemployment is currently the main tool used to control inflation.
So the Republicans are really MMT’ers? Could you point me to more evidence of success.
“What it describes is not a theory but the real world monetary system we live in.”
The definition of a theory is something that explains the real world. I’m pretty sure theory is the correct term.
The Republicans dramatically increased government spending and debt without causing inflation. I think that is supposed to be the evidence.
That can’t be all the evidence.
Mick:
I recommend you look at Bill Mitchell’s blog at http://bilbo.economicoutlook.net/blog/ for further information. Other sources were listed by Arun Dubois.
Qc – “Moreover, the debt issuance operation is usually done prior to the actual spending contrary to a widely held MMT belief.”
I think that would fall under voluntary constraints.
The government voluntarily imposes the requirement that it have a positive balance in its CB account before it may engage in spending.
Even so the government must have first either spent the money into existence or granted another entity the power to issue currency and had it issue currency before it is possible to borrow (exchange interest bearing debt – bonds – for non-interest bearing debt – money).
This entire process is pointless.
What is the point in permitting the government to issue interest bearing debt but not non-interest bearing?
Either way the government MUST somehow issue currency before taxing or borrowing.
On March 2019 a Canadian government economist told the Canadian Broadcasting Corporation (CBC) that Canada applies MMT: https://www.cbc.ca/news/opinion/debt-retirement-1.5061948