Coronavirus has prompted vast monetary and fiscal stimulus. Governments have embarked on unprecedented spending sprees. Yet there appears to be little pushback from bond investors who buy up their debt, partly because central banks have set interest rates to zero, or almost zero, and “printed” money.
In some corners of economics, attention is turning to what this means for inflation and national balance sheets when the crisis is over. How will public finances be brought back under control? Will central banks be forced to keep rates low to stop the cost of debt service from absorbing ever more of the public budget? Will inflation rear its head again?
Into this debate comes Stephanie Kelton, a professor of economics and public policy at Stony Brook University, and the former chief economist on the US Senate’s budget committee. Appointed by the former presidential candidate Bernie Sanders, she is a leading light in modern monetary theory — an increasingly popular view in US leftwing circles.
Most concerns about the long-term effects of Covid-19 stimulus are misplaced if you cleave to Kelton’s argument. Fundamental to the book, which provides a clear exegesis of MMT, is the idea that the US — and other “monetary sovereigns” like the UK, Japan, Australia and Canada — act like currency issuers rather than currency users.
Currency users must gather money before they spend it. You and I need to earn money or borrow it before we can buy goods and services, but the US government can simply spend money into existence: the Federal Reserve electronically credits bank accounts with brand new dollars. The government then taxes away the new money or exchanges it for US Treasuries, gathering back the tokens it creates. Spending thus comes before tax and borrowing, not after.
This means the usual worries about the state not being able to repay the national debt are meaningless. Instead, the concern should be inflation: we know the government is spending too much when prices get out of control. The limits on its action are the real resources of the economy — workers, materials and so on. When they try to employ too many of these resources, their price will increase.
Expecting lawmakers to be able to fine tune tax and spending to control inflation seems a tall order and Kelton suggests a jobs guarantee funded by new money would act as an automatic stabiliser. When unemployment grows and inflationary pressure is lower, the government would create more money. This would be cut back as full employment is reached.
Both supporters and critics of MMT love to portray it as a get-out-of-jail-free card, allowing left movements to sidestep the need for unpopular taxes. But there are no estimates of how much the proposals here would free up. It is plausible that if the prescriptions were followed the tax rate would have to be much higher.
Kelton, though, seems to think there are unused resources the US can put to work. She also advocates abolishing student debt, establishing universal healthcare and a high-speed rail network. Much of this could be enacted under the current regime of an independent, inflation-targeting central bank: for proof look to Germany, which has free universities and healthcare for all as well as an attachment to fiscal prudence.
What MMT appears to offer that conventional policymaking does not is the job guarantee. On one level this is attractive — central banks consistently overestimate how low unemployment rates can fall before inflation reappears. The guarantee would remove this discretion and use the composition of employment, not its level, to control inflation. Yet there is no certainty that it would create the “good jobs” Kelton imagines. It may end up looking more similar to workfare programmes. In a time of stagflation, with inflation and unemployment rising, it may become as unpleasant a tool for trying to force down private sector wage growth as conventional monetary policy.
The descriptive part of MMT is more appealing: that monetary sovereigns really are currency issuers not users. That insight, however, is neither new nor particularly helpful as we work out how best to balance growth, inflation and fiscal sustainability on the other side of coronavirus.
Gavin Jackson is an FT leader writer
The Deficit Myth: Modern Monetary Theory and How to Build a Better Economy, by Stephanie Kelton, John Murray, £20