Archive for the ‘Modern Monetary Theory’ Category

Working Paper Roundup 3/7/2014

Michael Stephens | March 7, 2014

Central Bank Independence: Myth and Misunderstanding
L. Randall Wray
“This paper argues that the Fed is not, and should not be, independent, at least in the sense in which that term is normally used.

Our understanding of policy, of the policy space available to the sovereign, and of the operational realities of fiscal and monetary policy would be improved if we abandoned the myth of central bank independence.”

Changes in Global Trade Patterns and Women’s Employment in Manufacturing: An Analysis over the Period of Asianization and Deindustrialization
Burca Kizilirmak, Emel Memis, Şirin Saraçoğlu, and Ebru Voyvoda
“We provide estimates for total and women’s employment effects of world trade, evaluating the changes in trade flows in 30 countries (21 OECD and 9 non-OECD countries) for 23 manufacturing sectors by breaking up the sources of these changes between the trade with the North, the South, and China. …
Our results present a net negative impact of trade on total employment as well as on women’s employment in 30 countries over the period of analysis [1995-2006]. … Country level results show that the United States has by far the largest estimated employment losses from the change in structure of trade: 81 percent of the employment losses in the North originate in the US”

Full Employment: The Road Not Taken
Pavlina R. Tcherneva
“It is common knowledge that Keynesian stimuli are frequent policy tools to deal with recessions and unemployment; what is not commonly known is that modern ‘Keynesian policies’ bear little, if any, resemblance to the policy measures Keynes himself believed would guarantee true full employment over the long run.”

From the State Theory of Money to Modern Money Theory: An Alternative to Economic Orthodoxy
L. Randall Wray
“This paper explores the intellectual history of the state, or chartalist, approach to money, from the early developers (Georg Friedrich Knapp and A. Mitchell Innes) through Joseph Schumpeter, John Maynard Keynes, and Abba Lerner, and on to modern exponents Hyman Minsky, Charles Goodhart, and Geoffrey Ingham. This literature became the foundation for Modern Money Theory (MMT).”

Modern Money Theory and Interrelations between the Treasury and the Central Bank: The Case of the United States
Éric Tymoigne
“[T]here is nothing written in stone in terms of fiscal operations. If tomorrow nobody is willing to take treasuries, the Treasury, with or without the help of the Federal Reserve, has the means to bypass that problem if it chooses to use them; it becomes a political issue rather than an economic one. The theoretical implication that MMT draws from this is that one can simplify the economic analysis without a loss of generality by assuming that the Federal Reserve directly funds the Treasury.”


When Will They Ever Learn: Uncle Sam is not Robin Hood

L. Randall Wray | March 4, 2014

Memo to Obama: Don’t tie progressive spending policy to progressive tax policy. Each can stand on its own.

Reported today in the Washington Post:

Obama proposes $600 billion in new spending to boost economy

President Obama on Tuesday unveiled an ambitious budget that promised more than $600 billion in fresh spending to boost economic growth over the next decade while also pledging to solve the nation’s borrowing problem by raising taxes on the wealthy, passing an overhaul of immigration laws and cutting health costs without compromising the quality of care. Obama seeks to raise more than $1 trillion – largely by limiting tax breaks that benefit the wealthy – to spend on building roads and bridges, early childhood education and tax credits for the poor.

Here’s the conceit: Uncle Sam is broke. He’s got a borrowing problem. He’s gone hat-in-hand to those who’s got, trying to borrow a few dimes off them. But they are ready to foreclose on his Whitehouse.

Obama knows his economy is tanking. Five and a half years after Wall Street’s crisis, we still have tens of millions of workers without jobs. Even the best-case scenarios don’t see those jobs coming back for years.

Obama will leave office with a legacy of economic failure.

Belt-tightening austerity isn’t working. He wants to spend more, but he doesn’t have more to spend. He’s run up his credit tab at the local saloon and the bar-keep won’t pour another whiskey.

So he’s got an idea: let’s take from the rich and give to the poor, homeless and jobless. Robin Hood rides to the rescue.

Look, we all love Robin Hood. continue reading…


Seeing “It” Coming: An Interview on the Global Financial Crisis and Euroland’s Fatal Flaw

L. Randall Wray | February 20, 2014

I recently did an interview for the magazine “Synchrona Themata” (“Contemporary Issues”). The interview, which will appear in Greek, was conducted by Christos Pierros, doctoral student at the University of Athens Doctoral Program in Economics (UADPhilEcon). What follows is the English transcript:

What do you think went wrong in 2008? Why was standard macro theory unable to predict such an event?

This was a collapse of what Hyman Minsky called “Money Manager Capitalism.” In many ways it was similar to the 1929 collapse of “Finance Capitalism” that led to the Great Depression. MMC and FC share several common characteristics. First, the dominant approach of economists and policy makers in the 1920s and in the 2000s was one of “laissez faire”—that is, a worship of free markets. Importantly, that meant that finance was “freed” from regulation and supervision. Second, in both cases we lived in an era of globalization—with both goods and finance crossing borders fairly freely. That ensured that when crisis hit, it would spread around the world. Third, finance dominated over industry. Our economy in both cases was “financialized”—with finance sucking 40 percent of all corporate profits out of the economy. To say that “finance ran amuck” is an understatement. To say that our economies were completely taken over by “blood sucking vampire squids of Wall Street” is only a slight exaggeration.

Standard macro theory either thinks all these are “good” trends, or ignores them. That is why—as the Queen of England remarked—none of these economists saw the crisis coming.

Do you believe that by using other tools of analysis (another methodology) one could have seen it coming? If yes, which type of analysis would that be?

Certainly. Many of us saw the crisis coming. The three approaches that made it possible to understand what was going on were: a) Minsky’s financial instability approach; b) Wynne Godley’s sectoral balance approach; and c) Modern Money Theory—which actually builds upon the approaches of Minsky and Godley. All of those working in these approaches “saw it coming.”

Just very briefly, those following Minsky could see that financial institutions were engaged in highly risky practices that would eventually cause liquidity and solvency problems. Those following Godley knew that government budgets were too tight—including the governments of the USA, Spain, and Ireland. By the same token, private sector households and firms had taken on far too much debt. That was particularly true of homebuyers in the USA, in the UK, and in Spain. And those following MMT knew that Euroland was designed to fail; by disconnecting fiscal policy from currency sovereignty, the EMU ensured that the first serious downturn or financial crisis would threaten the very existence of the European Union.

Do you see any shift in the paradigm of economics taking place? If yes, towards which direction? continue reading…


How Reorienting China’s Fiscal Policy Can Reduce Financial Fragility

Michael Stephens | December 19, 2013

L. Randall Wray just published a one-pager on China’s policy options from the perspective of Modern Money Theory:

Since adopting a policy of gradually opening its economy more than three decades ago, China has enjoyed rapid economic growth and rising living standards for much of its population. While some argue that China might fall into the middle-income “trap,” they are underestimating the country’s ability to continue to grow at a rapid pace. It is likely that China’s growth will eventually slow, but the nation will continue on its path to join the developed high-income group—so long as the central government recognizes and uses the policy space available to it.

China doesn’t necessarily need an expansion of total government spending — what it needs, Wray argues, is to “shift spending away from local governments, which have limited fiscal capacity, and toward the sovereign central government, which has more fiscal policy space.” Local government budgets, which face solvency constraints (local governments actually need to raise revenue to pay debt service), are showing signs of being over-extended — and the reality is probably even worse than the data suggest, Wray points out, given that local governments have been relying on off-balance-sheet investment vehicles. By contrast, Wray observes that China’s central government, facing no risk of insolvency, has a relatively tight budget. The logic of the sovereign currency approach suggests that these stances should be reversed.

He also finds signs of financial fragility related to corporate sector debt — traces of what Minsky would have called “speculative finance” — and suggests that the transition to slower economic growth in China will likely create even more instability in this context (by making it more difficult to service private debt). According to Wray, using the central government’s ample fiscal policy space, enabling “a slow transition to relying less on corporate debt to finance economic growth,” should help reduce financial instability risks.

Read the one-pager here.


James Galbraith Makes It Simple

Michael Stephens | December 13, 2013

Q: “Now why do you believe the US government will never, ever have a problem funding its public expenditures and deficits?”

A: “Because the electricity supply to the computers that send those signals will never be cut off.”

Q: “It’s that simple?”

A: “Simple as that.”

If you want the more complicated version, Galbraith wrote a policy note a couple years back that explains why the long-term budget projections that elicit so much bipartisan anxiety are unjustifiably pessimistic with regard to the question of whether the US public debt is “sustainable” over the long term, which is to say, whether the public debt-to-GDP ratio will stabilize or continue to grow without limit.

On this question, as he explains, it’s all about the relationship between the rate of economic growth and the rate of interest on government debt. If the real growth rate is greater than the real interest rate on debt, then even a small primary deficit is consistent with a debt-to-GDP ratio that stabilizes over the long term.

(Paul Krugman also danced on the edge of this idea a few weeks back, as part of his meditations on “secular stagnation” and the possibility of real interest rates staying low (or negative) for the foreseeable future: “I don’t want to push this too hard, but I just want to make it clear that if we really believe in low or even negative normal real interest rates, conventional views of fiscal prudence make even less sense than people like me have been saying.”)


Three Links on the Eurozone Crisis

Michael Stephens | December 9, 2013

1) In an interview with Roger Strassburg, James Galbraith discusses the “Modest Proposal,” a plan for resolving the eurozone’s multiple crises without creating any new institutions or amending any treaties. Galbraith is a co-author of the latest version of the proposal, joining Yanis Varoufakis and Stuart Holland (an earlier version was published as a Levy Institute policy note). The interview then turned to a discussion of next year’s potential US debt standoff in the context of Modern Money Theory.

Read Galbraith’s full interview here at Yanis Varoufakis’s site.

2)  Starting off from Wynne Godley’s 1997 observation that the fundamental problem with the EMU setup was the institutionalized divorce between fiscal policy and currency sovereignty, Rob Parenteau develops an alternative public financing instrument that attempts to get around this flaw:

… governments will henceforth issue revenue anticipation notes to government employees, government suppliers, and beneficiaries of government transfers. These tax anticipation notes, which are a well known instrument of public finance by many state governments across the US, will have the following characteristics: zero coupon (no interest payment), perpetual (meaning no repayment of principal, no redemption, and hence no increase in public debt outstanding), transferable (can be sold onto third parties in open markets), and denominated in euros. In addition, and most importantly, these revenue anticipation notes would be accepted at par value by the federal government in settlement of private sector tax liabilities.

Read the rest here at Naked Capitalism. Parenteau recently discussed the idea at the Levy Institute’s Athens conference. You can listen to his presentation here (Saturday, November 9, Session 4; slides available here).

Also, see Philip Pilkington and Warren Mosler’s related proposal for “tax-backed bonds,” recently updated.

3) Usually, when we think about the rising threat of authoritarianism accompanying Greece’s policy-induced economic disaster, we think about Golden Dawn, but C. J. Polychroniou argues that there’s more to the deterioration of Greece’s political culture than the growing popularity of the far-right party:

In today’s economically beleaguered Greece, where the repayment of foreign debt, the sale of public assets to private interests and the blocking of alternative routes to recovery define the official public policy agenda, the government has resurrected the many authoritarian practices of the past in an apparent effort to keep the game going for as long as possible.

Read the rest at Truthout.


Tax-Backed Bonds: Update and Response to Critics

Michael Stephens | December 6, 2013

Last year, Philip Pilkington and Warren Mosler argued that they had come up with a financial innovation that had the potential to help control the crippling borrowing costs faced by many member-states on the eurozone periphery. Their “tax-backed bond” proposal worked like this: if a member-state issuing these bonds defaulted on a payment, the bonds could, under such circumstances (and only under such circumstances), be used to make tax payments in the country in question (and would continue to earn interest).

This financial innovation attempts to address, obliquely, one of the critical design flaws of the eurozone setup: that member-states remain responsible for their own fiscal policy after having given up control over their own currency. (Dimitri Papadimitriou and Randall Wray explain here why separating fiscal policy from a sovereign currency was such a fatal mistake.)

Part of the idea behind the tax-backed bond proposal is that it would allow a member-state to enjoy borrowing costs that would be more comparable to those of a currency issuer (countries that issue their own currency have lower debt-servicing costs, even when their government debt-to-GDP ratios soar above some of the ratios seen on the eurozone periphery, because they can always make payments when due). Tax-backing is meant to assure investors that these bonds are always “money good.”

Since they first published their proposal, ECB President Mario Draghi had his “whatever it takes” moment, which contributed to a fall in sovereign debt yields on the periphery. Does this make the tax-backed bond moot?

Pilkington has just published an update on the proposal, and he explains why the idea is still relevant in a post-OMT eurozone. In addition to being able to further reduce borrowing costs, Pilkington argues that implementing this plan would enable troubled member-states to minimize or avoid the fiscal austerity imposed as a condition of the troika’s bailouts and backstops; it would “give eurozone member countries back their fiscal independence,” as he puts it.

Pilkington also responds to some objections that have been raised since the proposal was first published, including most notably those of Ireland’s Minister for Finance, Michael Noonan (the proposal was raised, and ultimately rejected, in the Irish parliament). Finally, Pilkington explains how the tax-backed bond could be used in non-eurozone context, referencing recent debates over Scottish independence.

Download Pilkington’s latest policy note: “The Continued Relevance of Tax-backed Bonds in a Post-OMT Eurozone

(The original tax-backed bond proposal, by Pilkington and Mosler, is here.)


An Omnibus Reply to MMT Critics

Michael Stephens | November 1, 2013

Randall Wray and Éric Tymoigne just released a new working paper that rounds up and responds to various critiques of Modern Money Theory (MMT); critiques they organize into five categories:

One of the main contributions of Modern Money Theory (MMT) has been to explain why monetarily sovereign governments have a very flexible policy space that is unencumbered by hard financial constraints. Through a detailed analysis of the institutions and practices surrounding the fiscal and monetary operations of the treasury and central bank of many nations, MMT has provided institutional and theoretical insights about the inner workings of economies with monetarily sovereign and nonsovereign governments. MMT has also provided policy insights with respect to financial stability, price stability, and full employment.

As one may expect, several authors have been quite critical of MMT. Critiques of MMT can be grouped into five categories: views about the origins of money and the role of taxes in the acceptance of government currency, views about fiscal policy, views about monetary policy, the relevance of MMT conclusions for developing economies, and the validity of the policy recommendations of MMT. This paper addresses the critiques raised using the circuit approach and national accounting identities, and by progressively adding additional economic sectors.

You occasionally see MMT loosely described as being “pro-deficit,” but Tymoigne and Wray explain that their theory is neither “for a fiscal deficit, nor is it for a fiscal surplus or a balanced budget”:

MMT is agnostic regarding the fiscal position of a monetarily sovereign government per se. As Abba Lerner’s “functional finance” approach insists, the fiscal position of the government is not a relevant policy objective for a monetarily-sovereign government. Price stability, financial stability, moderate growth of living standards, and full employment are the relevant macroeconomic objectives, and the fiscal position of the government has to be judged relative to these goals instead of for itself. If there is inflation that is demand-led, the fiscal position is too loose (surplus is too small or deficit is too large); if there is non-frictional unemployment, the fiscal position is too stringent. Also, if financial fragility grows due to negative net saving by the domestic private sector, the government’s stance is probably too tight.

Download the paper here.


Monetary and Fiscal Operations in China, an MMT Perspective

L. Randall Wray | October 28, 2013

Here’s a piece I wrote with Yolanda Fernandez for the Asian Development Bank:

Monetary and Fiscal Operations in the People’s Republic of China: An Alternative View of the Options Available

Monetary and Fiscal Operations in the People’s Republic of Chi

You’ve no doubt read various analyses predicting the impending collapse of the Chinese financial sector, and arguments that China cannot continue to grow at a rapid pace. While we do think that China faces some challenges, we part company with the gloom and doom crowd. What most of them do not understand is that China is a sovereign country that issues its own currency. Affordability is not an issue. China has the fiscal capacity to resolve any financial crisis, and it can “afford” to grow fast if it chooses to do so.

Our paper examines the fiscal and monetary policy options available to the PRC as a sovereign currency-issuing nation operating in a dollar standard world. The paper first summarizes a number of issues facing the PRC, including the possibility of slower growth and a number of domestic imbalances. Then, it analyzes current monetary and fiscal policy formation and examines some policy recommendations that have been advanced to deal with current areas of concern. The paper outlines the sovereign currency approach and uses it to analyze those concerns. Against this background, it is recommended that the central government’s fiscal stance should be gradually relaxed so that local government and corporate budgets can be tightened. By loosening the central government’s budget but tightening local government and corporate budgets at a measured pace, the PRC can avoid depressing growth or sparking excessive inflation. Since the central government faces no financial constraints, shifting more fiscal responsibility to the center will reduce financial fragility.


Minsky Does Rio: Notes from a Conference

L. Randall Wray | October 14, 2013

I recently returned from a conference in Brazil jointly sponsored by the Levy Economics Institute, the Ford Foundation, and the Brazilian research group MINDS. It is part of a bigger project to take Hyman P. Minsky global. In my view, Minsky was hands-down the greatest economist of the second half of the twentieth century and he deserves the attention he’s getting. Watch for an upcoming film by Monty Python’s Terry Jones that will feature Minsky and his work. Minsky will even make an appearance—or, more accurately, a bigger-than-life Minsky puppet will be in the film. (Steve Keen and I were also interviewed.)

Minsky the puppet had to travel from England to NY for filming. Question: how do you transport a huge puppet across the Big Pond? Well, you buy him a seat, of course! It would have been worth the price of airfare to be on that flight, buying Minsky a drink.

In any event, I’m going to focus my comments around the conference’s kick-off presentation by the always entertaining Paul McCulley, formerly the brains behind PIMCO. I was sitting with Paul right before his talk, during which he apparently put the whole thing together. He asked for three fundamental principles to structure his presentation. In a matter of minutes he came up with three, fleshed them out, and then gave the kind of performance that only Paul can give. Herewith follows my recollection of his points along with my comments on each.

Principle 1: Microeconomics and Macroeconomics are inherently different disciplines. Macro is demand-side; micro is supply-side. For any practical time horizon, demand always drives supply.

For those who have been trained in economics, and then had to suffer through the mainstream preoccupation with the supposed “micro foundations of macro,” or even with the heterodox arguments for “macro foundations of micro,” Paul brilliantly cut to the chase: the twain do not meet in any way that matters. continue reading…