Tuesday, 17 December 2019
Mankiw, who is a Harvard Economist, recently published a work criticising MMT entitled “A Skeptic’s Guide to Modern Monetary Theory”.
His first criticism is that MMT advocates are not too clear on exactly what it is they are trying to say. While I have supported MMT for several years, I think that’s a fair enough criticism. As he says, advocates of a new idea often come in the form of a group of academics, while MMT advocates are a much more diverse lot (of which I am perhaps typical). That diversity almost inevitably leads to a less clear message than where just one or two academics advocate an idea. Mankiw is generous enough to say that that diversity is not necessarily a flaw.
Mankiw’s first main error comes in the last para of his second page, where he claims there’s a problem with the MMT claim that governments and central banks can simply create and spend money (and/or cut taxes) up to the point where inflation becomes excessive. The alleged problem is that that new money ends up as bank reserves and that central banks have to pay interest on money.
Well the obvious flaw in there is that interest on reserves is not inevitable: in fact it’s a very recent development for central banks. Moreover, many MMTers specifically advocate a permanent zero rate of interest policy. (That’s a permanent, or at least more or less permanent zero rate on government and central bank liabilities, which includes reserves. In contrast, the rate of interest on mortgages, pay day loans etc will of course always be well above zero.)
Mankiw’s second criticism.
His second criticism (top of his p.3) is that the latter increase in reserves will increase bank lending, which in turn will further exacerbate inflation.
Well Mankiw apparently hasn’t noticed that quantitative easing resulted in an astronomic and unprecedented increase in reserves, but the effect on bank lending was decidedly muted. And that is not entirely surprising: as J.K.Galbraith famously put it, “Firms invest when they can make money, not when interest rates are low.” I.e. it’s customers coming thru the door that induces firms to borrow and invest.
Of course QE is not exactly the same as cutting interest rates, but it’s near enough the same. Central banks cut interest rates by creating money and buying up government debt. QE is simply a continuation of that “buy up” process when interest rates are near zero and the “buy up” may not actually influence interest rates.
And another flaw in Mankiw’s above second criticism is that if there is indeed a feed-back mechanism of the type he proposes (i.e. more reserves means more lending, which raises demand), then the solution is simply to go for less of a “reserve increase” (i.e. a smaller deficit) than would otherwise be the case!
Feed-back mechanisms are all over the place in our daily lives. E.g. getting drunk may cause you to behave in an even more irresponsible way and drink even more. Solution: don’t drink so much that the latter feed-back mechanism kicks in!!
The third criticism.
Mankiw’s third criticism (also at the top of his p.3) is: “Third, the increase in inflation reduces the real quantity of money demanded. This fall in real money balances, in turn, reduces the real resources that the government can claim via money creation.”
Well the simple answer to that is that if there is excess inflation, there is no need for government to “claim more resources via money creation” (i.e. raise public spending)! Indeed there is no need for it to “claim more resources” in any other way!
I don’t think MMTers need to seriously re-consider their ideas in the light of Mankiw’s criticisms.
Friday, 6 December 2019
Murphy & Hines have just published their ideas on this subject in a work entitled “Funding the Green New Deal”.
I’m all for the GND, but Murphy & Hines’s (M&H) way of funding it leaves a bit to be desired. Basically they claim that funds can be nicked from other types of investment: in particular they advocate changing the rules for ISAs and pension funds so that a proportion of the savings currently going to the latter two are diverted to bonds to fund the GND, and certainly that’s possible.
Problem though, is that would starve the banks, firms etc which rely on ISAs and pension funds for money for investment, which would push up interest rates. And that in turn would benefit creditors / the rich while hitting borrowers, e.g. those with mortgages.
That wouldn’t be the end of the world given that in the 1990s UK mortgagors were paying nearly three times the rate of interest they pay nowadays, and strange to relate, the sky did not fall in in the 1990s. But M&H ought to be more open about that interest raising effect.
The above “rate of interest raising” effect does not actually have anything specifically to do with ISAs or pension funds or any of the many other possible ways of diverting funds to the GND. To illustrate, if government just offered bonds to fund the GND at whatever rate attracted lenders in sufficient quantities, the inevitable effect would be a rise in interest rates and attract funds away from other types of investment.
Put another way, if government decides to borrow and spend an extra £Xbn a year, and assuming the economy is already at capacity (which it more or less is in the case of the UK in 2019), that extra spending is not permissible unless some form of spending cut is implemented so as to balance the extra spending. That cut can be brought about by a rise in interest rates or a rise in tax, for example.
And frankly it does not make a huge difference which one is chosen: if the interest rate rise option is chosen, then in effect it’s mortgagors and other borrowers who are induced to spend less. And mortgagors are pretty much the same collection of individuals as taxpayers, though clearly not exactly the same collection of individuals.
And finally, if the distribution of after tax income is what government thinks is optimum before implementing the GND, then funding the GND via borrowing will disturb that optimum set up (e.g. because mortgagors are worse off). Thus government will have to adjust tax on so called “unearned income” (on the rich) and subsidies for mortgages (if there are any) etc etc.
Be simpler fund the GND via tax, and in a way to maintains what government thinks is the optimum distribution of after tax income, don’t you think?
Wednesday, 4 December 2019
As others have noted, the IMF was positively schizophrenic on the subject of stimulus during the recession that started in 2007/8. In one breath they backed stimulus, while in the next, they warned of the dangers of the alleged increased debt that governments incur when they implement stimulus.
The first obvious flaw in the latter “debt” point is that to a large extent, governments just didn't incur more debt when they implemented stimulus! To be more exact, in the first instance they incurred more debt, but then their central banks did large amounts of QE: i.e. they printed money and bought back that debt.
Thus in effect what many governments did (assisted by their central banks) was simply print money and spend it (and/or cut taxes).
Yet strange to relate, the recently retired chief IMF economist, Olivier Blanchard claims here that low interest rates facilitate fiscal stimulus. His actual words: “…..low interest rates increase the room to use fiscal policy.” (See p.4). (Article title: “Interview with Olivier Blanchard”, published by Goldman Sachs).
To repeat, the going rate of interest has absolutely no bearing on the ease with which government can implement fiscal stimulus because (to repeat) governments and central banks between them can fund fiscal stimulus by simply printing money!!!!!
Keynes pointed out in the early 1930s that stimulus can be funded simply by printing money. You’d think his message would have got thru by now, wouldn’t you?
As Claude Hillinger put it in his paper entitled “The Crisis and Beyond: Thinking Outside the Box”:
“An aspect of the crisis discussions that has irritated me the most is the implicit, or explicit claim that there is no alternative to governmental borrowing to finance the deficits incurred for stabilization purposes. It baffles me how such nonsense can be so universally accepted. Of course, there is a much better alternative: to finance the deficits with fresh money.”