Money for nothing?

Whenever I write anything about public expenditure and taxation, I’m likely to get someone commenting that Modern Monetary Theory has shown that a government with its own currency does not need taxation to finance public expenditure. I’ve tried a couple of responses to this, but now I think I can explain better why this argument is
(a) wrong in terms of (what I understand to be) the central claims of MMT
(b) regressive in terms of taxation policy
(c) politically pernicious

Starting at the beginning, as I read the central argument of MMT on fiscal policy, it is based on the idea of functional finance. The idea is that governments should first decide on the appropriate level of public expenditure, that is on the allocation of resources between public and private consumption and investment. Next, they should consider the requirements of macroeconomic policy to determine appropriate levels of money creation and issue of public debt. Finally, they should set the desired level of taxation as residual, to balance the sum of total income (seignorage+net debt+ tax revenue) and total expenditure.

That’s one way of looking at things, and useful in a lot of ways. But now consider what happens to this story if governments decide that an increase in public expenditure is warranted. Assuming that levels of money creation and debt issue were already set appropriately in terms of macroeconomic policy, there is no obvious reason for them to change. But then the identity between income and expenditure implies that the increase in public expenditure must translate, dollar for dollar into an increase in tax revenue. Perhaps there is an explanation for why an increase in desired public spending would change the settings of macro policy in the direction of more money creation, but if so, I haven’t seen it. If the increase in public expenditure is only temporary (on a war, for example), it might make sense to run up public debt. But because this debt has to be serviced, it implies the need for lower spending or higher taxes in the future.

To turn this around, suppose you think, as most MMTers do, that the stance of macroeconomic policy is almost invariably too contractionary. Then, you would advocate more money creation and larger deficits. That implies lower taxation but, on the functional finance view, no increase in public expenditure. And, again, if you don’t accept that inference and say that higher public expenditure should be part of the fiscal policy mix that in turn implies that the level of taxes must be correspondingly higher than if public expenditure did not increase.

Turning to regressiveness, if the economy is fully employed (more precisely, if an expansion in public consumption and investment will take up resources that would others be used for private consumption and purposes) then any expansion of the money supply is effectively an inflationary tax on money balances – it must be, or else no resources would be transferred from private to public use. Considered as a tax, inflation is similar to a consumption tax (since money balances are used to provide liquidity for consumption) but more regressive, since high income households are likely to hold less of their assets in cash or near-cash forms. Either way, inflation is regressive when compared to an income tax with a progressive scale, or even a threshold.

Finally, the claim that government expenditure does not require taxation is politically pernicious. Even if it is true in some limited cases (I don’t think it is), the way it is made leads people to dodge the issue that taxation is the price of civilisation. One way or another we have to pay for what we consume, and it’s silly to try and dodge this. It’s particularly damaging to the extent that MMT is associated with the left. The last thing the left needs is to be portrayed as offering a deceptive ‘free lunch’, which is exactly what the misreading of MMT discussed here would seem to be.

92 thoughts on “Money for nothing?

  1. @Ikonoclast

    “It seems to me that an opponent of genuine MMT (not merely an opponent of misconstrued MMT) would have to demonstrate why the MMT description of money creation is incorrect and in particular why persistent government surpluses do not equal rising private indebtedness.”

    I am not an opponent of MMT and as I said, it is the modern paradigm for alternative economics that deserves to be thoroughly understood and openly discussed.

    Having said that, I do not agree with MMTs description of money-creation, and the government surpluses matter is irrelevant to me..

    As I understand the vertical-horizontal interplay, all money derives from government expenditure.
    Part 3.

    While I totally agree that this is how money SHOULD be created, and I do advocate EXACTLY such a system,

    Click to access HR-2990.pdf

    to say it is such in today’s world seems a folly.

    Today, in the reality of what is money – the government creates virtually zero real money – the stuff that makes the real economy move forward – where we all live and work.

    Today, in the reality of what money is (M1 and M2 primarily) the bankers create virtually all of the nation”s money when they make loans out of nothing but their private privilege to do so as bank credits.

    Bankers make loans and the M1 increases by the amount of the loan.
    If that loan WOULD cause the bank’s reserve requirements to be inadequate at reporting time, then the bank either interbank or reserve-bank borrows the needed reserves.

    It is upon the loan being deposited at issuance that the bank’s balance sheet increases, and that the M1 money supply increases.
    The day before the loan is made, the money supply is X.
    The day after the loan is made, the money supply is X + the loan amount.

    I do not abide the MMT’s chicken-or-egg explanation that we can’t have the money to pay taxes until the government creates that money. It is the private bankers that create the money that the government collects in taxes. It is not the government.

    You made the point that :
    “…. under a fiat money system there is no prima facie imperative for bonds to be created to fund deficits nor for public debt (government debt) to be “repaid” by taxation ie. by surpluses.”

    I wholeheartedly agree.
    In the Kucinich Bill, there is no issuance of government debt to fund deficits – rather formerly-deficit balances are funded with government-issued new money – similar to MMT.
    And taxation is not used to repay existing debt when due.

    There’s more than one modern monetary paradigm afoot.

  2. @jrbarch

    Good chart. It seems to show a tight relationship and a general (overall) sinking trend in these balances. So it seems logical to question this mechanism.

    This structural tendency for the increase in -ve balances – after the above theories have been taken into account, is the real problem. The sinking represents increasing macroeconomic instability. This is well established in the literature, for example:

    If you take the United States chart for 1959-79, and add in modern data (external balance and net lending of government around -5% GDP, unemployment at 9%, CPI at 3.9%), then a real picture emerges.

    So even if some want to explain government debt in a mundane way, in reality this cannot be seen as a benign tendency.

  3. @jrbarch

    The primer is weak. It has no data and claims that peoples concerns about deficits are “hysteria”. So Wray is himself hysterical.

    It bases itsself on theory that:

    Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0

    when clearly this is false. It may have been true at some time in the past, but according to the FT chart, and OECD economists, it was slightly wrong in the 1950’s, more wrong in the 1970’s, completely wrong approaching 2000, and now falsified, not in theory, but in practice.

  4. @Chris Warren
    “Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0”

    This is not a theory this is an indisputable accounting identity – provided that the balances are defined correctly (e.g. Foreign Balance includes Current Account).


  5. @joebhed
    We don’t actually have a fractional reserve banking system any more (this is something I think many Austrians don’t realise). The reserve requirement on Australian banks is 0, and has been for many years. If we had a fractional reserve system, that would mean they can loan an infinite amount of money(which they can’t).

    Rather, “loans create deposits”, banks will always lend to anyone credit-worthy who wants to borrow, and if they find they can’t meet their financial obligations at the end of the day (literally, at COB every day) they borrow money on the interbank market or directly from the reserve bank. The reserve lending rate is the rate the reserve bank sets – when the news talks about the interest rate going up or down, that’s the rate at which banks can borrow money from the reserve.

    I realise you may be skeptical about this, because it runs counter to the standard explanation in macroeconomics 101 textbooks. There have been several empirical studies demonstrating that an expansion of credit precedes an expansion of reserves in the system, rather than the other way round. Here is a paper from the Bank of International Settlements to that effect.

  6. @PaulJ

    1) the general sinking trend I referenced

    2) the general trend in macroeconomic instability I linked to.

    How else are these to be understood?

  7. @Chris Warren

    What sinking trend? Do you mean increasing current account deficit? What insight does that give you to come to the conclusion that the sectoral balances equation is false.

    Pick any budget year you like and fill in the numbers – you will quickly learn that the equation is always in balance as written. What else do you expect from it?

  8. @Chris Warren

    As I understand it, the national accounting identity;

    Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0;

    is true under the stated conditions, namely a fiat currency.

    However, one has to say that it is simply technically true by definition. It is an accounting identity after all. I am not sure that in and of itself it tells us enough about money creation and money supply. Especially, it does not tell us enough about money supply as it evolves (and spirals) over time. By “money supply” I mean currency in circulation plus the widest (sensible) definition of demand deposits including cheque accounts, savings accounts, money market accounts and perhaps even easily convertible bonds. (I am not sure on that last one.)

    The other issue, to my mind, is endogenous money creation. That is creation of money by the finance system ahead of fiat creation and the fractional reserve requirements. I see no reason why fiat money creation, exogenous money creation (via the orthodox route of the fractional reserve and the money multiplier) and endogenous money creation cannot and do not ALL OCCUR. I do not see that each and all of these money creation routes are in any way mutually exclusive.

    In other words, I see no empirical reasons (leaving aside practical judgments about advisability or inadvisability in specific situations) why;

    1. a government cannot create money by fiat (budget deficits)
    2. money cannot be created by “pushing on a string” with the fractional reserve system; and
    3. money cannot be created endogenously by the finance system ahead of reserves. (Steve Keen’s empirical analyses suggest this can and does happen despite what orthodox theory might say).

    Money created by methods 2. and 3. above (assuming both do happen) is about functionally equivalent in the economy apart from the unregulated nature of method 3 and its greater tendency to run ahead of government intentions and create inflation and asset bubbles. This suggests that more regulation is necessary to control endogenous money creation.

    Whilst the accounting identity;

    Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0;

    is true in and of itself, when is the real, as opposed to nominal, day of reckoning for domestic private balance? The day of reckoning for Domestic Government Balance + Foreign Balance is presumably when National Accounts are done for the Budget.

    Let me explain what I mean by my question. I’ll first repeat it succinctly. When is the day of reckoning for domestic private balance? OK, there is a trivial day of reckoning in the sense that we can pick the same day, National Accounts day and reckon up bank debts against debt money in circulation and as these are equal the result is always 0. Then we can reckon up Domestic Private Balance and wonder how it actually relates to total extant money supply and how it actually relates to whether potions of that extant money supply originated as fiat money, exogenous money or endogenous money or possibly all three.

    Once money is in circulation it is (I assume) no longer “branded”. We cannot tell whether any “piece” of money in circulation came from fiat creation, exogenous creation or endogenous creation if all of these are possible and occuring. Money in circulation is now just money in circulation. A portion of it will be extinguished when debts are paid but in a growing economy with growing debt (growing in proportion or not in proprotion with the growing economy but still growing) new exogenous and endogenous money will be created topping up the “pool” and indeed possibly over-topping up the pool.

    For very long periods of time (generations in fact) this extra and growing money in circulation (exogenous + endogenous) is the “pertinent fact” not the original MMT accounting identity per se. Although, the amount of private debt is also a pertinent fact in the sense that private debt can grow for generations but economic history suggest that it must eventually be paid or defaulted thus extinguishing vast amounts of debt money in a crisis (probably a depression). At this point we may be able to say the MMT accounting identity comes to the fore again as the pertinent fact.

    Does anyone see what I am driving at? Does it have any validity and analytical import? Or (being an amateur) have I made an egregious error (or many) somewheres?

  9. @PaulJ

    When you looked at this:


    – did you see a level trend? a sinking trend? or a rising trend? or a random trend?

    When you looked at the charts did you see a sinking trend or a collapsing trend from 1959 to now (adding in data for post-2000)?

  10. @Chris Warren

    On the graph you add the balance for the Private sector (green line) and subtract the (Government + Foreign) (red and blue). The result will be very close to 0. The discrepancy is a result of the statistical errors.

    Signs used are just a convention. One can plot (T-G) or (G-T)

  11. @Adam (ak)

    Statistical errors should cancel out over time. The trend since around 1993, is distinctly negative – so much so the negative axis had to be extended.

    If you read off approximate numbers from the axis it seems that the error, in order to get to zero, must exceed the data.

    Maybe someone knows of RBA or ABS tables with %GDP historical data for Australia.

  12. @Chris Warren

    Chris You are assuming the slope in the trends is somehow “bad” or “good” – the downward slope caused by the current account balance is just showing that we have continuous external deficits until something changes, like we decrease our imports or we increase our exports. Someday they may start spending that money on our stuff and we won’t have to run deficits.

    and, you have errors in your signs for the various entries…

    (I-S) + (G-T) + (X-M) = 0

    Private balance = I-S, negative if in surplus, positive if in deficit. (if S>I, negative) –> approx (-6.4%) in 2010
    Government balance = G-T, positive if in deficit, negative if in surplus. –> 10% in 2010
    Current account balance = X-M, positive if in surplus, negative if in deficit. –> 3.6% in 2010

    So for 2010:

    (-6.4%) + (10%) + (-3.6%) = 0 Q.E.D.

  13. Oh and so I don’t get dinged for the typo: Current account balance = -3.6% (negative if in deficit).

    The signs are applied when the numbers are plugged into the equation.

  14. @PaulJ

    Yes I definitely see the general slope in the trends as bad, although others shrug their shoulders and say the CAD is offset by capital account.

    In effect you have flipped two lines, and this seems OK. But you would need a real data set. No doubt a government would want to adjust monetary balances to satisfy this identity.

    Anyway, in theory, do we really expect to get cash from government to balance the gaps where government investment does not balance savings and the foreign sector is in deficit?

    Presumably in a closed economy (or a model) with no government, I>S, would be bad and theoretically impossible.

    Relying on government and the foreign sector to balance this out, seems unsustainable since the 1990’s. All one can do, is ask of those who really want to base policy on this theoretical construct to provide data, to prove their case.

  15. @Chris Warren

    Chris if we had a balanced current account next year the private and government balances would be symmetrical around the zero line. Obviously it will take years for that to happen.

    The argument you are making is that a current account deficit is bad. Thats what is causing the downward trend. Make that argument if you want but the sectoral balances equation doesn’t have a preference one way or the other. It is a reflection of the way things are.

    Go ahead and make a policy recommendation. Reduce the deficit by some amount. You will have to account for the change in the other sectors based on what is plausible. If you think the private sector will take up the slack in spending please explain how.

    Take away government spending while we are losing $540 Billion dollars a year to imports and our savings (defined as income minus consumption) will drop by the amount of spending reduced. I will leave you to figure out how the economy will do as spending collapses.

    You seem to think spending won’t collapse – so where do you think the spending will come from? The people that would spend can’t because they have less income in real terms than they did ten years ago and are leveraged out, plus 30 million people are unemployed or under-employed. They won’t be borrowing to spend and besides, borrowing is unsustainable over the long term.

    The country as a whole cannot build financial wealth over time on borrowing alone – the financial assets have to come from somewhere. As an economy grows money must be added to populate balance sheets in the aggregate. Where do you think profits come from?

    Spending = Income = GDP. Transactions define the economy. Without net government spending an economy will be zero-sum – as in the Eurozone. For anyone to make a Euro profit someone has to lose a Euro. Once the rich and powerful accumulate all the wealth they will have no customers. Unsustainable. Like an hourglass, The flow will eventually stop and until some exogenous entity re-sets it.

    The only plausible way to reduce deficits is for the economy to grow. Cutting spending will only make it worse.

  16. @PaulJ

    Yes, precisely –

    For anyone to make a Euro profit someone has to lose a Euro. Once the rich and powerful accumulate all the wealth they will have no customers.

    All models of capitalism seem to require:

    some exogenous entity

    There are two types of profits – 1) normal and 2) from degree of monopoly.

    If you cannot have a capitalist economy without a government and/or foreign sector, how does this then become sustainable merely by including these sectors?

    Go ahead and make a policy recommendation.

    Possibly a bit too early as most people still hope that we can continue into the future as we have done in the past. However at some point my policy recommendation would be (assuming wages are influenced by minimum wage determinations and productivity) to

    1) regulate profits according to the degree of monopoly,
    2) regulate debt (directly not through interest rates) and
    3) ensure that foreign trade is fair trade
    4) ensure there are government structures to monitor and effect these.

    I do not think there is a need to regulate normal profits provided they are not capitalised. I fully expect a collapse as the foreign sector fails to provide the so-called “exogenous entity” some seem to rely on.

    I would hate to see an economy attempt extra growth to reduce debt and deficits when the levels of imbalances have been generated by past growth. It would be better in the long-run if banks and corporations take their haircut.

  17. @Chris Warren

    Hi Chris – sorry to hear you think the primer weak (am taking this literally in the sense that you believe it is a weak primer). I think the sectoral balances approach deserves a little more elucidation (even Martin Wolf uses it on occasion although he is not in the MMT camp). Could you try this explanation by Scott Fulwiller: The Sector Financial Balances Model of Aggregate Demand and Austerity. Also the link that JKH provided at #23 to another paper of Scott’s entitled Interest Rates and Fiscal Sustainability will take you deeper into the workings of a modern money economy if you have an academic interest.

    Cheers ….

  18. @Chris Warren

    Chris, I don’t think the Left has anything to fear from MMT. MMT as theory is simply about describing what actually happens to public and private finance in a fiat currency system in a mixed economy under current national accounting systems. At this level it is descriptive and, so far as I can tell, broadly empirically accurate. MMT puts forward a number of accounting identities which pertain under this system. Put simply, an identity is a relation which is always true.

    Of course, as well the fiscal/monetray/financial economy or money economy for short, there is the real economy. When MMT descriptions of the money economy are developed into prescriptions for the real economy, the main thing MMT does away with are various economic and capitalist orthodoxes which essentially amount to the continued fetishisation of money and mystification of the processes by which people are financially exploited.

    For example, the “deficit terrorists” (Bill Mitchell’s term) are those rightist and orthodox politicians, economists and commentators who basically say, “Government deficits are bad no matter what. We must always balance budgets and even produce surpluses if possible.”

    MMT says that absolute statements like “Deficits are Bad”, Surpluses are Good” or even the reverse, “Deficits are Good”, “Surpluses are Bad” are all nonsense. They are nonsense when they are made without reference to the condition of the real economy.

    MMT says statements like “Surpluses are bad when the economy is in recession and unemployment is high.” are correct statements that do make sense.

    MMT says that pursuing surpluses is bad when real unemployment including under-employment is above a frictional 2%. MMT posits government budget surpluses and deficits as not goals in themselves but as tools to be used in appropriate circumstances. In this it is similar, I think, to soft Keynesianism. Hard Keynesianism still makes a fetish of balancing budgets over several or many cycles. MMT identities explain precisely why hard Keynesianism will fail in the long run by producing a deflationary depression. A growing economy with no new money creation from fiat creation will use the creation of debt money to fund the growth. This debt money must be repaid or defaulted upon.

    Either way, much of the debt money created then disappears all at once at the crisis point (the point of a major deleveraging/deafult event like the GFC), this leads to a recession or if deep enough a depression. This is unless the orthodox politicians and economists then panic and break all their own rules and deficit spend with QE or money printing (call it what you like).

    The thing is when they panic and print money they usually give it to the bankers and financiers who along with the ploticians created the crisis in the first place by following all the prescriptions of the neo-classical orthodox economists.

  19. To those autodidacts of MMT contributing here, may I suggest not using a figure like 2% claiming full employment. I am aware that Bill Mitchell does it similar but by focusing on that figure alone can be misleading. For those that wish to use the MMT definition of full employment, may I suggest using something along the lines of “full employment being only frictional unemployment”.

  20. @Chris Warren

    “If you cannot have a capitalist economy without a government and/or foreign sector, how does this then become sustainable merely by including these sectors?”

    No one has said that you can’t have a capitalist economy without a government or foreign sector. These are the exogenous sources that exist in our current monetary system and they must be accounted for.

    I think you are misunderstanding what the sectoral balances represent. It is simply a mathematical representation of the possible flows to and from a closed economy. Any policy proposals will be constrained by the relationship. The relationship can be ignored as you could ignore gravity – at your own peril.

    The sectoral balance equation doesn’t tell us whether a policy is sustainable or not. Any comments I make about sustainability are based on my own inferences from the constraints the equation imposes on policy outcomes.

    Capitalism requires capital. Where does an economy get it’s capital? In our monetary system only the government can provide it. MMT simply describes how these capital infusions affect financial flows (in the overall sense) in the closed economy.

    BTW, what markup language did you use to format your response?

  21. @JamesH

    To James H
    Thanks for that.
    I don’t know why you would write that in response to anything I wrote.
    I also debate the Austrians on these matters so please do not conflate my money ideas with anything Austrian – they are the opposite of Austrian beliefs(Denationalizing Money).
    I read that BIS paper long ago and have for years subscribed to the Central Bank Research Hub.

    There is a wide variation of research and ideas regarding fractional-reserve banking in the literature but none of them actually deal with ITS basic problems, which are in the nature of a debt-based monetary system, and its inherent pro-cyclicality.

    I have done a video on why endogenous money means nothing to monetary reformers.
    My basic reply to the zero reserve and endogenous money explanations is – “so what?”.

    With zero reserves, they are Basel limited in terms of lending, which again means nothing. Endogenous money has ALWAYS been explained as the banking systems M.O. in the Fed’s Modern Money Mechanics pamphlet. First they lend, then they acquire needed reserves.

    For some reason, MMTers believe that understanding how the endogenous money really works makes the fractional-reserve system irrelevant to reform or correction, and therefore acceptable. (We don’t need to discuss fractional-reserve because it sort-of doesn’t exist according to some textbooks.)

    It is not acceptable in its present form and would not be acceptable with anything from zero to 99 percent reserves.
    Only as Fisher explained in 100 Percent Money, with full-reserve banking, can we restore the stability that the money system needs to guide the financial system and the national economy, and eliminate the next Minsky moment.

    If you are a progressive, as am I, then how do you accept the EXISTING debt-based system of endogenously-generated, private, self-wealth creationg that robs the people of the benefits of their national money system?

    Please, no more ‘you seem to be a misguided Austrian because you believe in a full-reserve banking solution”. Full-reserve banking has been proposed by the most progressive of those involved in monetary politics – please read the Greenback Party platforms on through to those of the Progressives and FDLs . Let’s debate the reforms that are necessary, whether you adopt the MMT approach or that of Congressman Kucinich and the American Monetary Institute.

    Click to access HR-2990.pdf


  22. @PaulJ

    I’m thinking that you cannot have a capitalist economy without a government and/or a foreign sector.

    If so, then, how does this become sustainable merely by including these sectors?

    If the current account is zero, how does a government sector create a sustainable capitalist economy?

    It can create a sustainable socialist economy – but I cannot see how this works for a capitalist economy.

    The role of (I-S) + (G-T) + (X-M) = 0 should be unchanged if (X-M) is zero.

    Under socialism, government would not need to spend more than what it collects – so this term theoretically cn also go to zero at the same time as (X-M) is zero.

    So we end up with I = S. This causes no problems under socialism.

    However capitalism is different, and adding in all the MMT seems to miss identifying what is really going on.

    Under capitalism, I is not equal to S, because now I = (S + iou’s). This logic either results in a falling rate of profit to zero (ie socialism) or to a final GFC.

  23. @Chris Warren

    “I’m thinking that you cannot have a capitalist economy without a government and/or a foreign sector”

    Why would we have to have a foreign sector? The world economy is a closed system and it doesn’t have a foreign sector (we can’t trade with Mars yet).

    I think you would have to have a government sector. Of course if you follow to the end game where machines do everything and people aren’t needed to work then of course capitalism fails unless the government provides the people with money. I suspect any economic system is an artificial construct.

    “The role of (I-S) + (G-T) + (X-M) = 0 should be unchanged if (X-M) is zero.”

    It is.

    “Under capitalism, I is not equal to S, because now I = (S + iou’s). This logic either results in a falling rate of profit to zero (ie socialism) or to a final GFC.”

    Under capitalism with (G-T) = 0 in a growing economy I suspect capitalism would fail in the sense that unemployment would skyrocket. We would return to a subsistence level of existence for a large subset of the population.

    What do you mean by iou’s and how it relates to a falling rate of profit?

  24. IOU’s are essentially the increase in the money supply + increase in debt from banking [just call it ‘injections’]. In theory they do not have to emanate from banks, but modern societies require that they do.

    IOU’s flowing into a circular flow facilitate capitalist profit accumulating within the circular flow – provided workers wages are held steady. Under capitalism, workers as a whole only consume enough to balance the circular flow by borrowing (ie using IOU’s).

    The falling rate of profit is then automatic (everything else remaining equal) when these IOU’s also demand a return during the next cycle, plus repayment of whatever component becomes due.

    This may appear vague. With the amount of financial innovation our capitalists get up to, it is not possible to be definitive about what all injections are. Possibly some injections from government just go to fund pensions or stimulus payments.


    I = S + injections.

    So (I – S) cannot equal 0 under capitalism, because I is capitalised.

    Under socialism, I is not capitalised, so there is no need for injections. A capitalist would see the lack of injections as causing deflation. A socialist would see it as causing an increase in the purchasing power of wages.

    Socialism would have some injections but just to lubricate the cycle – not to monetise the extra production normally produced by growth and innovation [hence my point 2 noted earlier].

    The bottom line is that (I – S) = 0 only where there is no increase in debt. [Assuming no increase in population]

  25. Hi Chris,

    At the risk of misconstruing what you are trying to get at, I think the logical construction you are seeking can be found in an explanation of ‘horizontal’ and ‘vertical’ money; the maintenance of the target policy rate and fiscal sustainability.

    Bill Mitchell covers these topics from the MMT perspective in the ‘Debriefing 101’ section of billy blog.

    Not many people are willing to do it I know, but sometimes you just have to settle down and read, gather up the facts – before you can frame your questions in the context of the subject (MMT) rather than in the context of your own understanding which at this stage is not inclusive of the subjective approach. JohnQ’s post above is a good example of this ….(am hoping, he too through the comments offered and the literature extant of his peers – and equals – will resolve to dig deeper).

    Another factor of course, is new tunnels have to be literally ‘dug in the brain’. Once again, this makes people feel uncomfortable and reactive. The sense of self (a polite way of saying ego) is bound to the old paths! It takes a little bit of discipline and focus.

    ‘There is no religion higher than a truth’ – including the religion that is frocked up as economics.

    MMT is just one of those subjects, but well worth a thorough dig! Sorry to be so nebulous, but blog commentaries are more like signposts than anything else and everybody has to do the work for themselves as you know.

    Cheers ….

  26. @PaulJ

    I suppose (for clarity’s sake) we can assume there is no government. Then it has to be private, because all economic activity is then private.

    Anyway, S + I = k where k is a balancing item driven by the increase in debt (not debt itself).

    This seems closest to reality.

  27. @Chris Warren

    I am beginning (I think) to get a blurry picture of what you are driving at.
    Correct me if I’m wrong, but you seem to be inferring that continuous growth in profits is unsustainable when financed (or not) by incurring debt to drive investment.

    Also it is unsustainable under conditions where gains from increases in productivity do not accrue proportionally to wages.

    If that’s what you are saying then we are in agreement and have been from the beginning. (But this has little to do with MMT. MMT is just a tool to clear the fog obscuring the inner workings of the economic system). Sustainability of various activities that change the equilibrium of the system must be evaluated separately.

    Further, it appears to me that if there is no direct government spending profits would eventually lead to the overall economy eating itself as money is extracted and set aside (accumulated as wealth). This is essentially what is happening in the Eurozone.

    To clarify another point, when you say…

    “So (I – S) cannot equal 0 under capitalism, because I is capitalised.”

    (I-S) is a snapshot of a flow at some instant in time thus it can be zero by definition. If you look at the sectoral balances chart you will see that it has crossed the zero line several times.

    Debt is a component of Investment (spending on plant, equipment and wages). Debt is also a component of consumption spending but consumption is canceled out in the derivation of the sectoral balances relationship.

    I am having trouble getting from there to the idea that (i-S) cannot be zero. I can see where debt can exert a force on the system, moving the equilibrium toward growth but I fail to see why you think it can’t be accounted for.

  28. @Chris Warren

    In the absence of the government and foreign sectors by definition I = S however I is not constant in time. Such a system can still in theory grow because it is not S what determines I but the other way around. Whether the system would be stable or converge to full employment is another issue (it is known to not converge to full employment in some cases).

    The explanation of this is simple but requires throwing away the loanable funds market theory. (That market is supposed to equlibrate S and I). Money is not only monetary base but also deposits in the banking system.

    Investment is also financed by the new loans extended by the banking sector. Deposits are created “ex nihilo” on the balance sheet of a bank (obviously if certain conditions are met). We know that banks do not lend reserves (the multiplier story is incorrect) but rather seek reserves after extending loans.

    These deposits are initially spent on buying capital goods and then circulate in the banking system until being either finally saved by someone as a long-term deposit or used to repay a loan (destroyed).

    Assuming no repayment, the derivative of the stock of loans dL/dt is equal to an additional monetary flow adding to the investment financed from retained profits.

    I recommend reading “Theory of Economic Dynamics” by Michal Kalecki and papers published by prof Kazimierz Laski (WIIW – Vienna).

  29. @Chris Warren
    Chris, you have one of the signs wrong. The public sector deficit should have a positive sign, not a negative one. If you change the signs, you will see that the sums sum up correctly.

  30. @Rich C

    If the identity has explanatory relevance then it would need to explain a long-run, general sinking in the aggregates of CPI, Ue, CAD, public sector borrowing.

    This is clear see:

    Producing a three-cornered identity, where one seeks to respond to the gaps of the others, does not really assist.

    If you define A=B, C=D, E=F, then always

    A-B + C-D + E-F = 0

    However when you look at it closely, for example, savings does not equal investment because of increased debt. There is no economic reason for exports to equal imports.

    Not only this, but there is still the fundamental issue of a general sinking trend as, based on the link (above).

    Maybe the question should be asked: If there was no government, why would S-I, and X-M, total to zero particularly if extra debt (IOU’s) is thrown into the system?

    Having a government sector (ie injector of money) – as a balancing item of last resort – seems to blur what is really going on.

    In fact presumably you do not need a government – just a central bank.

    If I S, and M X, then, hoping that an adjustment by a Central Bank can fix this in a meaningful way, is fraught with logical difficulties. Exponential growth in M3 could result.

    I would expect that this would happen even if there was no foreign sector.

    In fact, the National Accounts showed that:

    (S – I) + (X-M) + [statistical discrepancy] = 0, for all of 1973 to 1987. [ABS 5204.0]

    The university lecture room theory was “that any shortfall in saving by the domestic sectors must be made good by the overseas sector”. [See Dudley Jackson, The Australian Economy, pg 673] and table 13.1.

    The underlying textbook belief is that “total value added must be equaled by total value supplied”. It is but only when you add in “net lending”.

    But this does not mean that the total prices paid equals the total prices received. But with a bit of innovation I suppose you can define money in such a way to produce this outcome if you add in a balancing item.

    Anyone would agree with the 3- cornered identity:

    Income – costs + net lending = 0

    But then this does not help when net-lending balloons out of control.

  31. Irrespective of the interpretation of the MMT, the theory has nothing to offer on the actual problem, namely the international financial system, including the lack of an adequate and appropriate financial transactions recording system.

    Here is yet another example of the actual problem – Dexias’s latest gambling debts.

    Note, the Greek public debt ‘crisis’ is not the critical problem in Dexia’s mess. Those who have some understanding of the relative size (population, trade, GDP, even debt) of Greece in the EU may have always doubted that Greece can ‘destabilise’ the Euro.

    The point regarding the inadequate financial transactions recording system is that governments cannot exercise discretion on the transactions which do not warrent ‘bailing out’ and those which do for economic reason. It is as if the casino element operates without a licence.

  32. It would seem to me that governments puts money into an economy and take it out countercyclic to when the private sector is putting it in and taking it out. Or at least that is what Keynes said a sane government should do.

    A government borrows (takes it off people who aren’t using it) when they put it in, in short they make dam sure the private sector is not going to put it in because they don’t have it any more (the right focus on this) and they give it back when the private sector is investing heavily, making sure the private sector has enough money to really get a good bubble going.

    It’s easy to say, simple solution; when the money supply has to be expanded just flip the bits in the computer and start spending soak up that spare labour, the question is, how do you pull the money back out.

    The answer is for the government to lend it. Have the reserve bank buy up bank debt (oh wait they are doing that) when things need to be pumped up, so the bank can lend more, insist the banks buy the debt back when the economy takes off (what? they are doing that!).

    If the government creates money to build a bridge when the private sector goes on holidays, how do you shrink the money supply when all that money sloshing around (held in gold bullion or whatever) starts working again. Solve that and MMT might work.

  33. Ernestine. true, but is it true that MMT offers “something from nothing” in a finite world and thus we are getting to something better dealt with by metaphysics?

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