The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy
The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy
New York: PublicAffairs, 2020
Robert P. Murphy ([email protected]) is a senior fellow at the Mises Institute.
I’ve got good news and bad news. The good news is that Stephanie Kelton—economics professor at Stony Brook and advisor to the 2016 Bernie Sanders campaign—has written a book on Modern Monetary Theory that is very readable, and will strike many readers as persuasive and clever. The bad news is that Stephanie Kelton has written a book on MMT that is very readable and will strike many readers as persuasive and clever.
To illustrate the flavor of the book, we can review Kelton’s reminiscences of serving as chief economist for the Democratic staff on the U.S. Senate Budget Committee. When she was first selected, journalists reported that Senator Sanders had hired a “deficit owl”—a new term Kelton had coined. Unlike a deficit hawk or a deficit dove, Kelton’s deficit owl was “a good mascot for MMT because people associate owls with wisdom and also because owls’ ability to rotate their heads nearly 360 degrees would allow them to look at deficits from a different perspective” (p. 76).
Soon after joining the Budget Committee, Kelton the deficit owl played a game with the staffers. She would first ask if they would wave a magic wand that had the power to eliminate the national debt. They all said yes. Then Kelton would ask, “Suppose that wand had the power to rid the world of US Treasuries. Would you wave it?” This question—even though it was equivalent to asking to wipe out the national debt—“drew puzzled looks, furrowed brows, and pensive expressions. Eventually, everyone would decide against waving the wand” (p. 77).
Such is the spirit of Kelton’s book, The Deficit Myth. She takes the reader down trains of thought that turn conventional wisdom about federal budget deficits on its head. Kelton makes absurd claims that the reader will think surely can’t be true…but then she seems to justify them by appealing to accounting tautologies. And because she uses apt analogies and relevant anecdotes, Kelton is able to keep the book moving, despite its dry subject matter. She promises the reader that MMT opens up grand new possibilities for the federal government to help the unemployed, the uninsured, and even the planet itself…if we would only open our minds to a paradigm shift.
So why is this bad news? Because Kelton’s concrete policy proposals would be an absolute disaster. Her message can be boiled down into two sentences (and these are my words, not an exact quotation): Because the Federal Reserve has the legal ability to print an unlimited number of dollars, we should stop worrying about how the government will “pay for” the various spending programs the public desires. If they print too much money, we will experience high inflation, but Uncle Sam doesn’t need to worry about “finding the money” the same way a household or business does.
This is an incredibly dangerous message to be injecting into the American discourse. If it were mere inflationism, we could hope that enough of the public and the policy wonks would rely on their common sense to reject it. Yet because Kelton dresses up her message with equations and thought experiments, she may end up convincing an alarming number of readers that MMT really can turn unaffordable government boondoggles into sensible investments, just by changing the way we think about them.
Precisely because Kelton’s book is so unexpectedly impressive, I would urge longstanding critics of MMT to resist the urge to dismiss it with ridicule. Although it’s fun to lambaste “Magical Monetary Theory” on social media and to ask, “Why don’t you move to Zimbabwe?”, such moves will only serve to enhance the credibility of MMT in the eyes of those who are receptive to it. Consequently, in this review I will craft a lengthy critique that takes Kelton quite seriously, in order to show the readers just how wrong her message actually is, despite its apparent sophistication and even charm.
In her introductory chapter, Kelton lures the reader with the promise of MMT, and also sheds light on her book title:
[W]hat if the federal budget is fundamentally different than your household budget? What if I showed you that the deficit bogeyman isn’t real? What if I could convince you that we can have an economy that puts people and planet first? That finding the money to do this is not the problem? (p. 2, bold added)
The first chapter of the book makes the fundamental distinction for MMT, between currency issuers and currency users. Our political discourse is plagued, according to Kelton, with the fallacy of treating currency issuers like Uncle Sam as if they were mere currency users, like you, me, and Walmart.
We mere currency users have to worry about financing our spending; we need to come up with the money—and this includes borrowing from others—before we can buy something. In complete contrast, a currency issuer has no such constraints, and needn’t worry about revenue when deciding which projects to fund.
Actually, the situation is a bit more nuanced. To truly reap the advantages unlocked by MMT, a government must enjoy monetary sovereignty. For this, being a currency issuer is a necessary but insufficient condition. There are two other conditions as well, as Kelton explains:
To take full advantage of the special powers that accrue to the currency issuer, countries need to do more than just grant themselves the exclusive right to issue the currency. It’s also important that they don’t promise to convert their currency into something they could run out of (e.g. gold or some other country’s currency). And they need to refrain from borrowing…in a currency that isn’t their own. When a country issues its own nonconvertible (fiat) currency and only borrows in its own currency, that country has attained monetary sovereignty. Countries with monetary sovereignty, then, don’t have to manage their budgets as a household would. They can use their currency-issuing capacity to pursue policies aimed a maintaining a full employment economy. (pp. 18–19, bold added)
Countries with a “high degree of monetary sovereignty” include “the US, Japan, the UK, Australia, Canada, and many more” (p. 19) (And notice that even these countries weren’t “sovereign” back in the days of the gold standard, because they had to be careful in issuing currency lest they run out of gold.) In contrast, countries today like Greece and France are not monetarily sovereign, because they no longer issue the drachma and franc, but instead adopted the euro as their currency.
The insistence on issuing debt in their own currency helps to explain away awkward cases such as Venezuela, which is suffering from hyperinflation and yet has the ability to issue its own currency. The answer (from an MMT perspective) is that Venezuela had a large proportion of its foreign-held debt denominated in US dollars, rather than the bolivar, and hence the Venezuelan government couldn’t simply print its way out of the hole.1 In contrast, so goes the MMT argument, the US government owes its debts in US dollars, and so never need worry about a fiscal crisis.
YES, KELTON KNOWS ABOUT INFLATION
At this stage of the argument, the obvious retort for any post-pubescent reader will be, “But what about inflation?!” And here’s where the critic of MMT needs to be careful. Kelton repeatedly stresses throughout her book—and I’ve seen her do it in interviews and even on Twitter—that printing money is not a source of unlimited real wealth. She (and Warren Mosler too, as he explained when I interviewed him on my podcast2) understands and warns her readers that if the federal government prints too many dollars in a vain attempt to fund too many programs, then the economy will hit its genuine resource constraint, resulting in rapidly rising prices. As Kelton puts it:
Can we just print our way to prosperity? Absolutely not! MMT is not a free lunch. There are very real limits, and failing to identify—and respect—those limits could bring great harm. MMT is about distinguishing the real limits from the self-imposed constraints that we have the power to change. (p. 37, bold added)
In other words, when someone like Alexandria Ocasio-Cortez proposes a Green New Deal, from an MMT perspective the relevant questions are not, “Can the Congress afford such an expensive project? Will it drown us in red ink? Are we saddling our grandchildren with a huge credit card bill?” Rather, the relevant questions are, “Is there enough slack in the economy to implement a Green New Deal without reducing other types of output? If we approve this spending, will the new demand largely absorb workers from the ranks of the unemployed? Or will it siphon workers away from existing jobs by bidding up wages?”
THE FUNDAMENTAL PROBLEM WITH MMT
Now that we’ve set the table, we can succinctly state the fundamental problem with Kelton’s vision: Regardless of what happens to the “price level,” monetary inflation transfers real resources away from the private sector and into the hands of political officials. If a government project is deemed unaffordable according to conventional accounting, then it should also be denied funding via the printing press.
What makes MMT “cool” is that it’s (allegedly) based on a fresh insight showing how all of the mainstream economists and bean counters are locked in old habits of thought. Why, these fuddy-duddies keep treating Uncle Sam like a giant corporation, where he has to make ends meet and always satisfy the bottom line. In contrast, the MMTers understand that the feds can print as many dollars as they want. It’s not revenue but (price) inflation that limits the government’s spending capacity.
I hate to break it to Kelton and the other MMT gurus, but economists—particularly those in the free-market tradition—have been teaching this for decades (and perhaps centuries). For example, here’s Murray Rothbard in his 1962 treatise, Man, Economy, and State:
At this time, let us emphasize the important point that government cannot be in any way a fountain of resources; all that it spends, all that it distributes in largesse, it must first acquire in revenue, i.e., it must first extract from the “private sector.” The great bulk of the revenues of government, the very nub of its power and its essence, is taxation, to which we turn in the next section. Another method is inflation, the creation of new money, which we shall discuss further below. A third method is borrowing from the public…. (Rothbard 1962, 913–14, bold added)
To repeat, this is standard fare in the lore of free-market economics. After explaining that government spending programs merely return resources to the private sector that had previously been taken from it, the economist will inform the public th
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