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Modern Monetary Theory or Modern Money Theory (MMT) is a heterodox macroeconomic theory that describes currency as a public monopoly for the government and unemployment as evidence that a currency monopolist is overly restricting the supply of the financial assets needed to pay taxes and satisfy savings desires.MMT is an evolution of chartalism and is sometimes referred to as neo-chartalism. Its macroeconomic policy prescriptions have been described as being a version of Abba Lerner's theory of functional finance.
MMT advocates argue that the government should use fiscal policy to achieve full employment, creating new money to fund government purchases. According to advocates, the primary risk once the economy reaches full employment is inflation, which can be addressed by raising taxes and issuing bonds to remove excess money from the system.MMT is controversial, with active debate about its theoretical usefulness, and the effectiveness and risks of its policy prescriptions.
MMT's main tenets are that a government that issues its own money:
These tenets challenge the mainstream economics view that government spending is funded by taxes and debt issuance.The first four MMT tenets do not conflict with mainstream economics understanding of how money creation and inflation works. For example, as former Fed Chair Alan Greenspan said, "The United States can pay any debt it has because we can always print money to do that. So there is zero probability of default." However, MMT economists disagree with mainstream economics about the fifth tenet, on the impact of government deficits on interest rates.
MMT synthesizes ideas from the State Theory of Money of Georg Friedrich Knapp (also known as Chartalism) and Credit Theory of Money of Alfred Mitchell-Innes, the functional finance proposals of Abba Lerner, Hyman Minsky's views on the banking systemand Wynne Godley's Sectoral balances approach.
Knapp, writing in 1905, argued that "money is a creature of law" rather than a commodity.Knapp contrasted his state theory of money with the Gold Standard view of "metallism", where the value of a unit of currency depends on the quantity of precious metal it contains or for which it may be exchanged. He argued that the state can create pure paper money and make it exchangeable by recognizing it as legal tender, with the criterion for the money of a state being "that which is accepted at the public pay offices".
The prevailing view of money was that it had evolved from systems of barter to become a medium of exchange because it represented a durable commodity which had some use value,but proponents of MMT such as Randall Wray and Mathew Forstater argue that more general statements appearing to support a chartalist view of tax-driven paper money appear in the earlier writings of many classical economists, including Adam Smith, Jean-Baptiste Say, J.S. Mill, Karl Marx, and William Stanley Jevons.
Alfred Mitchell-Innes, writing in 1914, argued that money exists not as a medium of exchange but as a standard of deferred payment, with government money being debt the government may reclaim through taxation.Innes argued:
Whenever a tax is imposed, each taxpayer becomes responsible for the redemption of a small part of the debt which the government has contracted by its issues of money, whether coins, certificates, notes, drafts on the treasury, or by whatever name this money is called. He has to acquire his portion of the debt from some holder of a coin or certificate or other form of government money, and present it to the Treasury in liquidation of his legal debt. He has to redeem or cancel that portion of the debt...The redemption of government debt by taxation is the basic law of coinage and of any issue of government ‘money’ in whatever form.— Alfred Mitchell-Innes, The Credit Theory of Money, The Banking Law Journal
Knapp and "chartalism" are referenced by John Maynard Keynes in the opening pages of his 1930 Treatise on Moneyand appear to have influenced Keynesian ideas on the role of the state in the economy.
By 1947, when Abba Lerner wrote his article Money as a Creature of the State, economists had largely abandoned the idea that the value of money was closely linked to gold.Lerner argued that responsibility for avoiding inflation and depressions lay with the state because of its ability to create or tax away money.
Economists Warren Mosler, L. Randall Wray, Stephanie Kelton,Bill Mitchell and Pavlina R. Tcherneva are largely responsible for reviving the idea of chartalism as an explanation of money creation; Wray refers to this revived formulation as Neo-Chartalism.
Bill Mitchell, Professor of Economics and Director of the Centre of Full Employment and Equity or CofFEE, at the University of Newcastle, New South Wales, refers to an increasing related theoretical work as Modern Monetary Theory.
Pavlina R. Tcherneva has developed the first mathematical framework for MMTand has largely focused on developing the idea of the Job Guarantee.
Scott Fullwiler has added detailed technical analysis of the banking and monetary systems.
Rodger Malcolm Mitchell's book Free Money(1996) describes in layman's terms the essence of chartalism.
Some contemporary proponents, such as Wray, place MMT within post-Keynesian economics, while MMT has been proposed as an alternative or complementary theory to monetary circuit theory, both being forms of endogenous money, i.e., money created within the economy, as by government deficit spending or bank lending, rather than from outside, as by gold. In the complementary view, MMT explains the "vertical" (government-to-private and vice versa) interactions, while circuit theory is a model of the "horizontal" (private-to-private) interactions.
Hyman Minsky seemed to favor a chartalist approach to understanding money creation in his Stabilizing an Unstable Economy,while Basil Moore, in his book Horizontalists and Verticalists, lists the differences between bank money and state money.
James K. Galbraith supports MMT and wrote the foreword for Mosler's book Seven Deadly Innocent Frauds of Economic Policy in 2010.
Steven Hail of the University of Adelaide is another well known MMT economist.
In February 2019, the first academic textbook based on the theory was published.
In sovereign financial systems, banks can create money but these "horizontal" transactions do not increase net financial assets as assets are offset by liabilities. According to MMT adherents, "The balance sheet of the government does not include any domestic monetary instrument on its asset side; it owns no money. All monetary instruments issued by the government are on its liability side and are created and destroyed with spending and taxing/bond offerings, respectively."In MMT, "vertical money" enters circulation through government spending. Taxation and its legal tender enable power to discharge debt and establish the fiat money as currency, giving it value by creating demand for it in the form of a private tax obligation that must be met. In addition, fines, fees and licenses create demand for the currency. This can be a currency issued by the domestic government, or a foreign currency. An ongoing tax obligation, in concert with private confidence and acceptance of the currency, maintains its value. Because the government can issue its own currency at will, MMT maintains that the level of taxation relative to government spending (the government's deficit spending or budget surplus) is in reality a policy tool that regulates inflation and unemployment, and not a means of funding the government's activities by itself. The approach of MMT typically reverses theories of governmental austerity. The policy implications of the two are likewise typically opposed.
MMT labels any transactions between the government, or public sector, and the non-government, or private sector, as a "vertical transaction". The government sector is considered to include the treasury and the central bank. The non-government sector includes domestic and foreign private individuals and firms (including the private banking system) and foreign buyers and sellers of the currency.
MMT is based on an account of the "operational realities" of interactions between the government and its central bank, and the commercial banking sector, with proponents like Scott Fullwiler arguing that understanding reserve accounting is critical to understanding monetary policy options.
A sovereign government typically has an operating account with the country's central bank. From this account, the government can spend and also receive taxes and other inflows.Each commercial bank also has an account with the central bank, by means of which it manages its reserves (that is, money for clearing and settling interbank transactions).
When the government spends money, the treasury debits its operating account at the central bank, and deposits this money into private bank accounts (and hence into the commercial banking system). This money adds to the total deposits in the commercial bank sector. Taxation works exactly in reverse; private bank accounts are debited, and hence deposits in the commercial banking sector fall. In the United States, a portion of tax receipts are deposited in the treasury operating account, and a portion in commercial banks' designated Treasury Tax and Loan accounts.
Virtually all central banks set an interest rate target, and conduct open market operations to ensure base interest rates remain at that target level. According to MMT, the issuing of government bonds is best understood as an operation to offset government spending rather than a requirement to finance it.
In most countries, commercial banks’ reserve accounts with the central bank must have a positive balance at the end of every day; in some countries, the amount is specifically set as a proportion of the liabilities a bank has (i.e. its customer deposits). This is known as a reserve requirement. At the end of every day, a commercial bank will have to examine the status of their reserve accounts. Those that are in deficit have the option of borrowing the required funds from the central bank, where they may be charged a lending rate (sometimes known as a discount rate ) on the amount they borrow. On the other hand, the banks that have excess reserves can simply leave them with the central bank and earn a support rate from the central bank. Some countries, such as Japan, have a support rate of zero.
Banks with more reserves than they need will be willing to lend to banks with a reserve shortage on the interbank lending market. The surplus banks will want to earn a higher rate than the support rate that the central bank pays on reserves; whereas the deficit banks will want to pay a lower interest rate than the discount rate the central bank charges for borrowing. Thus they will lend to each other until each bank has reached their reserve requirement. In a balanced system, where there are just enough total reserves for all the banks to meet requirements, the short-term interbank lending rate will be in between the support rate and the discount rate.
Under an MMT framework where government spending injects new reserves into the commercial banking system, and taxes withdraw them from the banking system,government activity would have an instant effect on interbank lending. If on a particular day, the government spends more than it taxes, reserves have been added to the banking system (see vertical transactions). This will typically lead to a system-wide surplus of reserves, with competition between banks seeking to lend their excess reserves forcing the short-term interest rate down to the support rate (or alternately, to zero if a support rate is not in place). At this point banks will simply keep their reserve surplus with their central bank and earn the support rate.
The alternate case is where the government receives more taxes on a particular day than it spends. In this case, there may be a system-wide deficit of reserves. As a result, surplus funds will be in demand on the interbank market, and thus the short-term interest rate will rise towards the discount rate. Thus, if the central bank wants to maintain a target interest rate somewhere between the support rate and the discount rate, it must manage the liquidity in the system to ensure that the correct amount of reserves is on hand in the banking system.
Central banks manage this by buying and selling government bonds on the open market. On a day where there are excess reserves in the banking system, the central bank sells bonds and therefore removes reserves from the banking system, as private individuals pay for the bonds. On a day where there are not enough reserves in the system, the central bank buys government bonds from the private sector, and therefore adds reserves to the banking system.
It is important to note that the central bank buys bonds by simply creating money — it is not financed in any way.It is a net injection of reserves into the banking system. If a central bank is to maintain a target interest rate, then it must necessarily buy and sell government bonds on the open market in order to maintain the correct amount of reserves in the system.
MMT economists describe any transactions within the private sector as "horizontal" transactions, including the expansion of the broad money supply through the extension of credit by banks.
MMT economists regard the concept of the money multiplier, where a bank is completely constrained in lending through the deposits it holds and its capital requirement, as misleading.Rather than being a practical limitation on lending, the cost of borrowing funds from the interbank market (or the central bank) represents a profitability consideration when the private bank lends in excess of its reserve and/or capital requirements (see interaction between government and the banking sector).
According to MMT, bank credit should be regarded as a "leverage" of the monetary base and should not be regarded as increasing the net financial assets held by an economy: only the government or central bank is able to issue high-powered money with no corresponding liability.Stephanie Kelton argues that bank money is generally accepted in settlement of debt and taxes because of state guarantees, but that state-issued high-powered money sits atop a "hierarchy of money".
MMT proponents such as Warren Mosler argue that trade deficits need not be unsustainable and are beneficial to the standard of living in the short run.Imports are an economic benefit to the importing nation because they provide the nation with real goods it can consume, that it otherwise would not have had. Exports, on the other hand, are an economic cost to the exporting nation because it is losing real goods that it could have consumed. Currency transferred to foreign ownership, however, represents a future claim over goods of that nation.
Cheap imports may also cause the failure of local firms providing similar goods at higher prices, and hence unemployment but MMT commentators label that consideration as a subjective value-based one, rather than an economic-based one: it is up to a nation to decide whether it values the benefit of cheaper imports more than it values employment in a particular industry.Similarly a nation overly dependent on imports may face a supply shock if the exchange rate drops significantly, though central banks can and do trade on the FX markets to avoid sharp shocks to the exchange rate.
MMT argues that as long as there is a demand for the issuer's currency, whether the bond holder is foreign or not, governments can never be insolvent when the debt obligations are in their own currency; this is because the government is not constrained in creating its own currency (although the bond holder may affect the exchange rate by converting to local currency).
MMT does agree with mainstream economics, that debt denominated in a foreign currency certainly is a fiscal risk to governments, since the indebted government cannot create foreign currency. In this case the only way the government can sustainably repay its foreign debt is to ensure that its currency is continually in high demand by foreigners over the period that it wishes to repay the debt – an exchange rate collapse would potentially multiply the debt many times over asymptotically, making it impossible to repay. In that case, the government can default, or attempt to shift to an export-led strategy or raise interest rates to attract foreign investment in the currency. Either one has a negative effect on the economy.
Economist Stephanie Kelton explained several policy claims made by MMT in March 2019:
Economist John T. Harvey explained several of the premises of MMT and their policy implications in March 2019:
MMT claims that the word "borrowing" is a misnomer when it comes to a sovereign government's fiscal operations, because what the government is doing is accepting back its own IOUs, and nobody can borrow back their own debt instruments.Sovereign government goes into debt by issuing its own liabilities that are financial wealth to the private sector. "Private debt is debt, but government debt is financial wealth to the private sector."
In this theory, sovereign government is not financially constrained in its ability to spend; it is argued that the government can afford to buy anything that is for sale in currency that it issues (there may be political constraints, like a debt ceiling law). The only constraint is that excessive spending by any sector of the economy (whether households, firms, or public) could cause inflationary pressures.
MMT economists advocate a government-funded job guarantee scheme to eliminate involuntary unemployment. Proponents argue that this can be consistent with price stability as it targets unemployment directly rather than attempting to increase private sector job creation indirectly through a much larger economic stimulus, and maintains a "buffer stock" of labor that can readily switch to the private sector when jobs become available. A job guarantee program could also be considered an automatic stabilizer to the economy, expanding when private sector activity cools down and shrinking in size when private sector activity heats up.
MMT can be compared and contrasted with mainstream Keynesian economics in a variety of ways:
|Funding government spending||Advocates taxation and issuing bonds (debt) as preferred methods for funding government spending.||Emphasizes that taxation and debt issuance are not required to fund spending.|
|Purpose of taxation||Fund government spending and address inequality.||Primarily to drive demand for the currency. Secondary uses of taxation include addressing inflation, addressing income inequality, and discouraging bad behaviour.|
|Achieving full employment||Main strategy uses monetary policy; Fed has "dual mandate" of maximum employment and stable prices, but these goals are not always compatible. For example, much higher interest rates used to reduce inflation also caused high unemployment in the early 1980s.||Main strategy uses fiscal policy; running a budget deficit large enough to achieve full employment through a job guarantee.|
|Inflation control||Driven by monetary policy; Fed sets interest rates consistent with a stable price level, sometimes setting a target inflation rate.||Driven by fiscal policy; government increases taxes or issues bonds to remove money from private sector. A job guarantee also provides a NAIBER, which acts as an inflation control mechanism.|
|Setting interest rates||Managed by Fed to achieve "dual mandate" of maximum employment and stable prices.||Emphasizes that an interest rate target is not a potent policy. The government may choose to maintain a zero interest-rate policy by not issuing public debt at all.|
|Budget deficit impact on interest rates||At full employment, higher budget deficit can crowd-out investment.||Deficit spending can drive down interest rates, encouraging investment and thus "crowding-in" economic activity.|
|Automatic stabilizers||Primary stabilizers are unemployment insurance and food stamps, which increase budget deficits in a downturn.||In addition to the other stabilizers, a job guarantee would increase deficits in a downturn.|
A 2019 survey of leading economists by the University of Chicago Booth's Initiative on Global Markets showed a unanimous rejection of assertions that the survey attributes to modern monetary theory: "Countries that borrow in their own currency should not worry about government deficits because they can always create money to finance their debt" and "Countries that borrow in their own currency can finance as much real government spending as they want by creating money".Directly responding to the survey, MMT economist William K. Black said "MMT scholars do not make or support either claim." Multiple MMT academics regard the attribution of these claims as a smear.
The post-Keynesian economist Thomas Palley argues that MMT is largely a restatement of elementary Keynesian economics, but prone to "over-simplistic analysis" and understating the risks of its policy implications.Palley denies the MMT claim that standard Keynesian analysis does not fully capture the accounting identities and financial restraints on a government that can issue its own money. He argues that these insights are well captured by standard Keynesian stock-flow consistent IS-LM models, and have been well understood by Keynesian economists for decades. He also criticizes MMT for "assum[ing] away the problem of fiscal–monetary conflict" — that is, that the governmental body that creates the spending budget (e.g. Congress) may refuse to cooperate with the governmental body that controls the money supply (e.g. the Federal Reserve). In Palley's view the policies proposed by MMT proponents would cause serious financial instability in an open economy with flexible exchange rates, while using fixed exchange rates would restore hard financial constraints on the government and "undermines MMT’s main claim about sovereign money freeing governments from standard market disciplines and financial constraints". He also argues that MMT lacks a plausible theory of inflation, particularly in the context of full employment in the employer of last resort policy first proposed by Hyman Minsky and advocated by Bill Mitchell and other MMT theorists; of a lack of appreciation of the financial instability that could be caused by permanently zero interest rates; and of overstating the importance of government created money. Palley concludes that MMT provides no new insights about monetary theory, while making unsubstantiated claims about macroeconomic policy, and that MMT has only received attention recently due to it being a "policy polemic for depressed times."
Marc Lavoie argues that whilst the neochartalist argument is "essentially correct", many of its counter-intuitive claims depend on a "confusing" and "fictitious" consolidation of government and central banking operations— again what Palley calls "the problem of fiscal–monetary conflict."
New Keynesian economist and Nobel laureate Paul Krugman argues that MMT goes too far in its support for government budget deficits and ignores the inflationary implications of maintaining budget deficits when the economy is growing.Krugman described MMT devotees as engaging in "calvinball" — a game from the comic strip Calvin and Hobbes in which the players change the rules at whim. Austrian School economist Robert P. Murphy states that MMT is "dead wrong" and that "the MMT worldview doesn't live up to its promises." He observes that MMT's claim that cutting government deficits erodes private saving is true "only for the portion of private saving that is not invested" and argues that the national accounting identities used to explain this aspect of MMT could equally be used to support arguments that government deficits "crowd out" private sector investment.
The chartalist view of money itself, and the MMT emphasis on the importance of taxes in driving money, is also a source of criticism.Economist Eladio Febrero argues that modern money draws its value from its ability to cancel (private) bank debt, particularly as legal tender, rather than to pay government taxes.
Monetarism is a school of thought in monetary economics that emphasizes the role of governments in controlling the amount of money in circulation. Monetarist theory asserts that variations in the money supply have major influences on national output in the short run and on price levels over longer periods. Monetarists assert that the objectives of monetary policy are best met by targeting the growth rate of the money supply rather than by engaging in discretionary monetary policy.
Post-Keynesian economics is a school of economic thought with its origins in The General Theory of John Maynard Keynes, with subsequent development influenced to a large degree by Michał Kalecki, Joan Robinson, Nicholas Kaldor, Sidney Weintraub, Paul Davidson, Piero Sraffa and Jan Kregel. Historian Robert Skidelsky argues that the post-Keynesian school has remained closest to the spirit of Keynes' original work. It is a heterodox approach to economics.
In economics and political science, fiscal policy is the use of government revenue collection and expenditure (spending) to influence a country's economy. The use of government revenues and expenditures to influence macroeconomic variables developed as a result of the Great Depression, when the previous laissez-faire approach to economic management became discredited. Fiscal policy is based on the theories of the British economist John Maynard Keynes, whose Keynesian economics indicated that government changes in the levels of taxation and government spending influences aggregate demand and the level of economic activity. Fiscal and monetary policy are the key strategies used by a country's government and central bank to advance its economic objectives. The combination of these policies enables these authorities to target the inflation and to increase employment. Additionally, it is designed to try to keep GDP growth at 2%–3% and the unemployment rate near the natural unemployment rate of 4%–5%. This implies that fiscal policy is used to stabilize the economy over the course of the business cycle.
The money supply is the total value of money available in an economy at a point of time. There are several ways to define "money", but standard measures usually include currency in circulation and demand deposits. Each country’s central bank may use its own definitions of what constitutes money for its purposes.
The economic policy of governments covers the systems for setting levels of taxation, government budgets, the money supply and interest rates as well as the labour market, national ownership, and many other areas of government interventions into the economy.
Deficit spending is the amount by which spending exceeds revenue over a particular period of time, also called simply deficit, or budget deficit; the opposite of budget surplus. The term may be applied to the budget of a government, private company, or individual. Government deficit spending is a central point of controversy in economics, as discussed below.
Government debt, also known as public interest, public debt, national debt and sovereign debt, contrasts to the annual government budget deficit, which is a flow variable that equals the difference between government receipts and spending in a single year. The debt is a stock variable, measured at a specific point in time, and it is the accumulation of all prior deficits.
Money creation, or money issuance, is the process by which the money supply of a country, or of an economic or monetary region, is increased. In most modern economies, most of the money supply is in the form of bank deposits. Central banks monitor the amount of money in the economy by measuring the so-called monetary aggregates.
A currency crisis is a situation in which serious doubt exists as to whether a country's central bank has sufficient foreign exchange reserves to maintain the country's fixed exchange rate. The crisis is often accompanied by a speculative attack in the foreign exchange market. A currency crisis results from chronic balance of payments deficits, and thus is also called a balance of payments crisis. Often such a crisis culminates in a devaluation of the currency.
Fiscalism is a term sometimes used to refer the economic theory that the government should rely on fiscal policy as the main instrument of macroeconomic policy. Fiscalism in this sense is contrasted with monetarism, which is associated with reliance on monetary policy. Fiscalists reject monetarism in a non-convertible floating rate system as inefficient if not also ineffective
Monetary inflation is a sustained increase in the money supply of a country. Depending on many factors, especially public expectations, the fundamental state and development of the economy, and the transmission mechanism, it is likely to result in price inflation, which is usually just called "inflation", which is a rise in the general level of prices of goods and services.
Stephen A. Zarlenga was a researcher and author in the field of monetary theory, trader in stock and financial markets, and advocate of monetary reform.
Inflationism is a heterodox economic, fiscal, or monetary policy, that predicts that a substantial level of inflation is harmless, desirable or even advantageous. Similarly, inflationist economists advocate for an inflationist policy.
Warren Mosler is an American economist, hedge fund founder, engineer, professional automotive designer, and politician. He was the founder of Mosler Automotive and a co-founder of the Center for Full Employment And Price Stability at University of Missouri-Kansas City.
William Francis Mitchell is a professor of economics at the University of Newcastle, New South Wales, Australia and one of the founding developers of Modern Monetary Theory.
Larry Randall Wray is a professor of Economics at Bard College and Senior Scholar at the Levy Economics Institute. Previously, he was a professor at the University of Missouri–Kansas City in Kansas City, Missouri, USA, whose faculty he joined in August 1999. Before UMKC, he served as a visiting professor at the University of Rome, Italy, the University of Paris, France, and the UNAM, in Mexico City. From 1994 to 1995 he was a Fulbright Scholar at the University of Bologna. From 2015 he is a Visiting professor at the University of Bergamo.
In macroeconomics, chartalism is a theory of money that argues that money originated with states' attempts to direct economic activity rather than as a spontaneous solution to the problems with barter or as a means with which to tokenize debt, and that fiat currency has value in exchange because of sovereign power to levy taxes on economic activity payable in the currency they issue.
The National Emergency Employment Defense Act, aka the NEED Act, is a failed monetary reform proposal submitted by Congressman Dennis Kucinich in 2011, in the United States. The bill has failed to gain any co-supporters and was not introduced to the floor of the house.
NAIBER is an acronym for non-accelerating inflation buffer employment ratio and refers to a systemic proposal for an in-built inflation control mechanism devised by economists Bill Mitchell and Warren Mosler, and advocated by Modern Money Theory as replacement for NAIRU. The concept of NAIBER is related to the idea of a Job Guarantee aimed to create full employment and price stability, by having the state promise to hire unemployed workers as an employer of last resort (ELR).
The Swiss sovereign money initiative of June 2018, also known as Vollgeld, was a citizens' (popular) initiative in Switzerland intended to give the Swiss National Bank the sole authority to create money.
University of Adelaide economics lecturer Steven Hail is an expert in MMT and regularly speaks on the topic.
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