Tuesday, 4 October 2016

Dear brainless Tories, right wing journalists, etc.

You may have noticed (unless you’re TOTALLY brainless) that the whole deficit and debt reduction idea, first promoted by George Osborne when he came to power, has now become a farce. Osborne himself initially said he intended running a surplus in just a few years. He then realised that was impossible and pushed the eventual date of the surplus into the future by about five years. And now the new UK finance minister, Phillip Hammond, has abandoned the idea altogether.

So if you voted Tory on the basis of Tory promises about “good house-keeping”, “balancing the budget”, “living within our means” etc, then you’ve been had, good and proper. Even more galling for you is the fact that I, along with thousands of others saw what was happening and knew you were being had. We tried to warn you, but you wouldn’t listen.

This is almost as big a joke as David Cameron’s promise seven or so years ago to cut immigration to the tens of thousands. If you believed that, you were had there as well. But rather than rub too much salt into the wound, I want to be more constructive: point you to a group of people who have known for decades that having ANY SPECIFIC TARGET for the budget deficit (or surplus) is nonsense.

That group of people are advocates of “Modern Monetary Theory”. Their ideas are actually very similar to Keynes’s ideas. The basics of MMT are as follows.

1. Given excess unemployment, the state should spend more than it receives in tax. That extra spending will employ more people. Alternatively, and instead of spending more, the state can run a deficit by cutting tax. The decision as to what mix of those two options to go for is of course POLITICAL.

2. Contrary to popular belief, a deficit does not necessarily increase the national debt. That is, instead of funding a deficit via borrowing, it can be funded simply by printing money, as indeed Keynes pointed out. Personally I prefer the “print” option (reasons are below).

3. Assuming the borrow option is chosen, does that mean the debt might reach far too high a level? The answer is “no”, and the reason is that deficits and debts are self-limiting. That’s because national debt is an ASSET as viewed by those holding it (i.e households, private banks, insurance companies, etc). And the more of that stock of paper assets that the private sector holds, the more it will spend, all else equal. Thus as the debt increases a point must come where no more deficit and debt is needed.

4. If the “print” option is chosen, might that not cause inflation? Well no, and for the simple reason that inflation only arises when the economy is near capacity: i.e. when unemployment is about as low as it can go. I.e. if inflation does rear its ugly head, that’s a sign that the basic problem being addressed has been solved!

5. What happens if the borrow option is chosen and interest rates rise? Well first, there no IMMEDIATE effect on interest paid by government, and for the simple reason that interest on government debt / bonds are fixed when those bonds are first issued. I.e. the possibility of paying more interest only arises as those bonds mature.

But there is no obligation on government whatever to renew those bonds when they mature! That is, government can simply print money, pay off those whose bonds have matured, and tell creditors to go away. And if you think that will necessarily be inflationary, consider the fact that we’ve been printing money and paying off bond holders on an astronomic and unprecedented scale over the last five years under the guise of QE. But inflation is nowhere to be seen!

But that’s not to say inflation is not a POSSIBILITY. If inflation does get uppity, that’s easily dealt with, and by several different measures: i) raise interest rates, ii) raise banks’ minimum reserve requirements (something that China adjusts much more frequently than Western countries) and iii), raise taxes and/or cut public spending. (Incidentally, given the much larger stock of base money as a result of adopting the print option, the traditional method of raising interest rates would not work (keeping banks short of base money). But that problem is easily solved.)

6. In short, the deficit is very much like the accelerator on a car. If the car meets some headwind and slows down, that can be countered by stepping on the gas (increasing the deficit).

And as for the idea that it’s a good idea to have a PLAN for how big the deficit should be in a few years’ time, that’s nonsense because no one knows what headwinds, or tailwinds will hit the economy even two years down the road.

7. As for the choice between the borrow and print option, it’s frankly a bit difficult to see the point of borrowing because borrowing as such has a deflationary effect: the opposite of the intended effect. Indeed one leading MMTer (Warren Mosler) advocates zero government borrowing. Milton Friedman advocated the same.


  1. Ralph

    For my money, the plaudits you direct at MMT are technically merited - at any rate at the level of your (purposely) over-simplified gloss on them. That gloss is fine by me because I'm accountancy-challenged (to put it mildly), and penetrating anywhere beyond the absolute basics of MMT is impossible without a thorough understanding of, and some practical skill in using, double-entry bookkeeping - thus quite beyond me who possesses neither.

    Inferring from what you write about MMT that you on the other hand have penetrated some of its (to me) esoteric mysteries, are you able please to explain for my benefit how MMT theory *both* has as one of its fundamental tenets that banks create money out of thin air when they issue loans, *and* that "all transactions (within the non-govt sector) net to zero"? If a bank when issuing me a loan creates - as it does - new money out of thin air, how can that and my then spending that newly-created money (say, on a car) "net to zero"? That money now exists and continues to circulate; true, over the term of the loan-agreement it gets progressively destroyed so that all other things equal it all goes back, finally, into the limbo whence it came - but I'm sure that that process isn't what MMT is referring to by "all transactions (within the non-govt sector) net to zero" which inferentially is going on within their balance-sheet parallel universe not in the real one.

    So I imagine the answer to this apparent flat contradiction is to be found in the mysteries of double-entry bookkeeping, but those are a closed book to me. It's bad enough being required to think like an economist (an impossible demand for anyone who isn't) without being required to think like an accountant into the bargain. A double-whammy of dizzying dimensions!

    Are you able to translate their mumbo-jumbo into plain English? Clearly, MMTers themselves either can't or refuse-to. (They sometimes give the impression that communicating intelligibly with non-initiates is beneath them).

    1. Hi Robert,

      Strangely enough, the “nets to nothing” point doesn’t have much to do with double entry, at least in the sense that that the nets to nothing point is not included in basic accountancy courses (I’ve got simple basic accountancy qualifications). Plus I’d guess even fully qualified professional accountants don’t need to understand the nets to nothing point. Nor do the MMTers and others who make the nets to nothing point need to understand much about double entry.

      Anyway, privately created money (aka “nets to nothing” money) is simply a debt owed by A to B, and that’s clearly an asset as viewed by B. That asset (like any asset) can be turned into a form of money if it’s sufficiently easy to transfer the debt from B to C to D to E etc in exchange for goods and services.

      The text book definition of money is something like “anything widely accepted in payment for goods or serves or in settlement of a debt”. So if the latter sort of debt is “widely accepted”, then it fits the definition of money.

      The “nets to nothing” point simply says that if A becomes indebted to B, the community as a whole, or the private sector as a whole is no better off, which is true. That’s as distinct from central bank issued money. In the latter case, the private sector on receipt of some money from the central bank is definitely better off, i.e. its assets rise. In theory the central bank’s liabilities also rise, but it’s very debatable as to how much of a liability a £10 note is for the Bank of England: certainly they won’t give you £10 of gold in exchange for your note.

    2. It pains me to say it but your explanation doesn't shed much light on the question that's bugging me. Perhaps because I didn't frame it well.

      Taking the plunge (which I shrank from doing before for the reasons given) I'll now venture into the murky waters of double-entry.

      I *believe* that the "nets to zero" cardinal principle of MMT has validity only within the double-entry parallel universe. It derives from double-entry's requirement that balance-sheets are required to balance: so if an asset (a loan aka demand deposit) is created by a bank out of thin air, so also must a matching liability (the self-same demand deposit) be.

      In seeing MMT's "nets to zero" as flatly contradicting "loans create deposits" (ie create *net* new money), I suspect I've not been comparing apples with apples. I've been comparing what holds in the double-entry universe with the real everyday world - with which it has only a tenuous connection. The same words mean different things in the two universes.

      In the real, concrete, world new money has been created out of thin air. In the double-entry world (which to the vast majority of us is a pure abstraction) "all transactions net to zero".

      Both are true but only so long as they're not brought into juxtaposition (which I have been erroneously doing). The instant they are, they mutually anihilate - just like matter and anti-matter.

      Do you agree with this?


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