By Emmanuel Maggiori
Modern Monetary Theory—or MMT—was dismissed by traditional economists right away. But I didn’t want to do that. I wanted to learn as much as I could about it before drawing conclusions. So I approached MMT with an open mind and read the academic work by its theorists and critics. I then wrote a book that presents my conclusions.
I think we all need to understand what MMT says, as it’s a deeply seductive theory with the potential to change how people discuss policy. Unfortunately, it isn’t a sound economic theory. In this article, I debunk some of MMT’s mantras, which are found all over its literature.
The government is not constrained like a household
MMT assumes the treasury is allowed to create money to fund its spending. The usual rules intended to limit this practice, such as central bank independence, are assumed to be non-existent or not enforced.
As a result, MMT concludes that the central government does not have financial constraints. In other words, it cannot “run out of money” like a household, it doesn’t need to “find the money” to do public works, and so on. These are some of MMT’s most publicised conclusions.
But there’s a problem. What MMT says is a truism. What it really says is, “If the government is allowed to create money, then it cannot run out of money.”
Every economist knows this. The question is never whether it is technically possible to let the government fund its spending with money creation—we know it is. The question is whether it is a good idea. Most economists think it’s not.
Economists don’t think we can trust politicians to use money creation judiciously for political reasons and due to inflationary bias. MMTer William Mitchell suggests a “wise government” can use the power of MMT to increase prosperity. I grew up in Argentina, so you can see why I’m a bit skeptical about this.
In addition, economists don’t believe there’s much to be gained economically from operating the MMT way. They don’t think GDP can be permanently increased and unemployment eliminated by letting the treasury create money, which is what MMTers ultimately suggest.
If an MMTer tells you the government doesn’t have financial constraints, tell them, “Yes. If we let the treasury create money, then it cannot run out of money. Everyone knows that. How is this insightful?”
Taxes and bonds are not used to fund the government
MMT tries to prove that central bank independence is completely fictitious, and thus MMT’s suggested policies can be applied without major changes to current institutions. You just need to analyse accounting details more carefully to see the truth.
For example, according to MMT’s analysis, the US federal government creates new money every time it spends. Whenever it collects taxes, it completely destroys the money from the record. MMTer Stephanie Kelton says, “Clearly, government spending cannot be financed by money that is destroyed when received in payment to the State!”
MMT’s analysis is incorrect—it suffers from numerous technical and logical problems. For example, MMT says that when the US treasury moves money into its account at the central bank, that money is “destroyed.” In reality, the balance in that account goes up and is properly recorded, as in any bank transfer. MMTers seem to be thrown off by how statisticians calculate common money aggregates, such as M0 and M1, which don’t include the balance in the treasury’s bank account.
The error has been pointed out to MMTers to no avail. In Stephanie Kelton’s 2020 book, The Deficit Myth, she insists the US federal government creates new money every time it spends and destroys money when it collects taxes.
If an MMTer tells you the government doesn’t need taxes before it can spend, ask them, “If the balance of the treasury’s bank account is zero, how can it continue spending without taxes or bonds?”
Government deficits increase our savings
According to MMT, a government deficit is a surplus for the rest of us. In The Deficit Myth, Stephanie Kelton says, “Fiscal deficits don’t eat up our savings; they enlarge them! … That’s because government deficits are always matched—penny for penny—by a financial surplus in the nongovernment bucket … Fiscal deficits will always lift our collective (financial) boat.”
It is technically true that a government deficit puts more “financial wealth” in the hands of the public. This is an accounting fact—if the government creates money or issues bonds, it puts more financial assets in the hands of others. But this doesn’t mean people get richer in real terms, as financial wealth is not the same as real wealth.
To see the problem just consider the case of Argentina. Thanks to government deficits, many Argentinean households have been able to save millions of pesos! But they don’t seem to be getting any richer.
Tell the MMTer, “If the government gives one million newly created pounds to every household, that’s a deficit of the government and a surplus of households, just like MMT says. Why don’t governments do this to end poverty?”
Note that MMTers often says things that are technically true but economically meaningless, and this was one example of it. Here’s another example: MMTers often say that a monetarily sovereign government cannot default on debt that it owes in its own currency. Once again, is it technically true that the government can always create money to wipe out its debt. But it is likely it would still default on its debt economically, as the resulting inflation would make the debt repayments worth less than expected by creditors.
The government should budget based on resources, not money
According to MMT, market economies always have a huge number of idle resources lying around, or “slack.” For example, some MMTers think there is 25% spare economic capacity in Europe.
The government should create money persistently and use it to mobilise those spare resources, they say. This doesn’t cause inflation because the government doesn’t compete with the private sector for the same resources. Inflation only kicks in after all resources are fully utilised, and this is very far away.
According to MMTers Yeva Nersisyan and Randall Wray, “government spending creates ‘free lunches’ as it utilises resources that would otherwise be left idle.”
Note that this line of thinking seems to have inspired Zack Polanski, who recently said, “The fiscal rule we need to have is to make sure that inflation doesn’t go higher than the skills and resources that we have in our economy.”
Unfortunately, MMT’s analysis suffers from numerous theoretical problems. For starters, it relies on a simplistic and outdated theory of inflation. For example, the theory gives no role to expectations about the future, and it assumes unemployment can be brought all the way down to zero without causing inflation, which most economists disagree with.
In addition, MMT’s theory of “slack” is unworkable. It relies on a non-standard interpretation of Keynes’ General Theory, which was disproven long ago, in order to show that slack is severe and permanent regardless of wage and price adjustments. The theory suffers from well-documented issues. MMT’s reliance on subpar theories makes it underestimate inflation and overestimate slack.
On the practical front, it seems difficult for the government to only mobilise idle resources. For example, it’s hard to design a job guarantee program in such a way that it would not compete with the private sector for at least some of the same workers.
Moreover, politicians may not be incentivised to perform realistic calculations of resources and slack. For example, MMTers Yeva Nersisyan and Randall Wray analyse the Green New Deal in terms of resources, as opposed to budgets, as prescribed by MMT. However, their calculations aren’t credible. For example, they argue that free college “pays for itself” because productivity gains exactly offset the required resources. No detailed calculation is provided for it. The same goes for many other components of the Green New Deal.
Ask the MMTer, “If economic slack is so severe, why do we usually have positive inflation every year? Can we trust politicians to analyse resource requirements and economic slack carefully?”
If you want to learn more about MMT, including its views on hyperinflation, Bitcoin, and the job guarantee program, get a copy of my book If You Can Just Print Money, Why Do I Pay Taxes?: Modern Monetary Theory Distilled and Debunked in Plain English.