Tuesday, 20 October 2020

Lawrence Summers attempts to criticise MMT – try not to die of laughter.


That’s in an article of his entitled “The Left's Embrace of Modern Monetary Theory is a Recipe for Disaster.” He sets out three objections to MMT. The first reads thus:

“First, it holds out the prospect that somehow by printing money, the government can finance its deficits at zero cost. In fact, in today’s economy, the government pays interest on any new money it creates, which takes the form of its reserves held by banks at the Federal Reserve. Yes, there is outstanding currency in circulation, but because that can always be deposited in a bank, its quantity is not controlled by the government. Even money-financed deficits cause the government to incur debt.”

Well the first flaw in that argument is that if stimulus is needed and the country is engaged in “printing money” (to use Summers’s phrase) the likelihood is that the central bank (CB) will be cutting interest rates, including interest on reserves, at the same time. And that will tend to nullify the interest bill to which Summers refers. As an illustration, if the CB pays one percent less by way of interest on reserves while the result of “money printing” is to raise the quantity of money by one percent, then (lo and behold) there’s no effect on the cost of maintaining the stock of reserves!

Moreover, many if not most MMTers support the “permanent zero interest rate” idea: the idea that ideally government should pay no interest or virtually no interest on its liabilities. In other words the ideal amount of money for a central bank to issue is whatever minimises unemployment while not exceeding the inflation target, and at the same time as paying no interest on that money (in the form of reserves or government debt) – a policy also advocated by Milton Friedman.
Thus the solution advocated by MMT, and indeed by most mainstream economists where interest on state liabilities is anywhere above zero and there is excess unemployment is to cut interest rates. In contrast, Summer’s solution would seem to be to leave interest rates unchanged and incur more debt. Bizarre.



Summers’s second objection is that excess money printing can lead to excess inflation. Well you don’t say! Every ten year old worked that out!

MMTers have made it abundantly clear that the amount of money printing they advocate (to repeat) is whatever minimises unemployment while not leading to excess inflation.


Exchange rates.

Summers’s third objection is that it might lead to a collapse in the exchange rate. He says “Third, modern monetary theorists typically reason in terms of a closed economy. But a policy of relying on central bank finance of government deficits, as suggested by modern monetary theorists, would likely result in a collapsing exchange rate.”

Well it’s certainly true that a rise in demand leads to a deterioration in the exchange rate all else equal. Reason is that a part of consumers’ demand for consumer goods, and businesses’ demand for raw materials and machinery is met via imports.

But why would a rise in demand of say 5%, or whatever amount is needed to deal with a typical recession lead to a collapse in the exchange rate? Moreover, if a country is not going to escape a recession via MMT policies, then it is going to raise demand to the full employment level via more conventional methods. And that will draw in imports to exactly the same extent as do MMT policies.

Another weakness in Summers’ “collapse theory” is that recessions are normally a World wide phenomenon. At least that was true of the 1930s recession and the more recent recessions stemming from the 2007/8 bank crisis and Covid. Now if a given country raises demand (either via MMT policies or conventional policies), and its main trading partners do likewise, then there’ll be little effect on the first country’s exchange rate!!

And finally, and on the subject of recessions, who was responsible for the 2007/8 bank crisis, and the subsequent recessions? Well Lawrence Summers was advocating laxer bank regulations just prior to that crisis, so he was without doubt one of the guilty men.
He does tend to put his foot in it, doesn’t he?  

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