Modern Monetary Theory: A Parable

HankP's picture

It was in the year 2020 that a majority of people first began to “see” what money is. For a few months—after the “realization” started hitting the pages, airwaves, blogs, tweets and twits of mainstream media—it became a silly joke: “2020 perfect vision, at last! How could things have been so blurry for so long?” For thousands of years, in fact.


I found this very interesting and well written essay by J.D. Alt at New Economic Perspectives via Naked Capitalism. I recommend you read it, it's quite short - less than a five minute read - but raises some very interesting issues related to Modern Monetary Theory. Specifically, what is fiat money, what purpose does it serve and how does it work? It's an interesting and important topic, mainly because fiat money is likely to be the only kind of money used in our civilization for the foreseeable future. As Wikipedia summarizes,


money enters circulation through government spending; Taxation is employed to establish the fiat money as currency, giving it value by creating demand for it in the form of a private tax obligation that can only be met using the government's 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 per se.

(emphasis mine). It is a different way of looking at money, and does seem to explain many of the paradoxical aspects of our current economy (like extremely low inflation and interest rates in the midst of very large current deficits).


I think it's important to look at alternative views of how the economy actually works, because I think the last few years have shown that orthodox economists don't understand what's going on. It's also clear that the economy as currently constituted is failing in utilizing the most precious resource we have, and the only real source of growth and advancement, human ingenuity.


But I encourage you all to read the essay and the wiki and let me know your thoughts.


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MMT's big benefactor did quite well in Italy

Bird Dog's picture

The bottom line is that creating money via printing press instead of bonds can be inflationary, sometimes hyperinflationary. The argument against MMT are Austria and Canada, which run annual budget surpluses and have healthy, resilient economies. Since this diary presents the half-story on MMT, the other half here, here, here and here.

"Transparency and the rule of law will be the touchstones of this presidency."

--Barack Obama, January 2009

So where's the inflation?

HankP's picture

the short answer is that there isn't any now, and we'd have to print trillions more before we even got close. That's because the collapse of the bubble wiped out $15 - 20 trillion, putting up far more in danger of deflation than inflation.


But the reason I found the piece interesting wasn't because of the prescriptions made, it's because it's a very different way of looking at money. Rather than considering it a store of value, it's seen as the lubrication that lets the economy work. It also shows that money is not independent of government and can never be independent of government, something the "hard money" types don't seem to understand. It shows that a lot of the fears surrounding money are merely phantasms of outdated thinking.


I blame it all on the Internet


Bird Dog's picture

Keynesian policy does similar lubricating. We don't now have deflation primarily because of actions such as QE, which put trillions into the economy through the purchase of financial assets. I referenced Krugman's opposition to the concept for a reason, and I brought up Austria and Canada for a reason. I may disagree with his political commentary but, on economics, his reasoning is sound. There are risks when you replace the current system with a big printing press.

"Transparency and the rule of law will be the touchstones of this presidency."

--Barack Obama, January 2009

What about foreign trade?


So in the scenario Italy is out of Euros, and by extension out of any other hard currency.


How does it buy imported goods? Italy must import fuel and many other goods to keep the economy working. How does it do this with digital Lira that the government can simply keystroke into existence?


You would need to implement severe foreign exchange controls. Euros coming in to purchase Italian goods would need to be made available to importers. Yet an Italian who got his hands on "real" currency would be likely to deposit abroad. Capital flight would be rampant, imported goods expensive.


This is just a scenario where the government emits money without limitation. It's been tried many times, in Italy even. The currency is debased, inflation ensues. It's not a horrible strategy to get out of a deep crisis. Certainly with rioting in the streets you need to do anything that works, and fix it later. It would stimulate economic activity. But it cannot work for long and a transition to more conventional rules is needed as soon as practical.

I am not a pessimist. I am an incompetent optimist.

Good question

HankP's picture

and of course you'd need foreign exchange controls, much like we have now. Currencies are allowed to float against each other, but the larger economies keep those floats within certain ranges and don't allow them to move too fast.


But your summary is too simple, it specifically is not about government emitting money without limitation. It specifically outlines the situations under which inflation can and will happen (too much money, not enough taxes). The relevance to our current situation is that we are nowhere near having those problems. And as far as how long it would work, the key point is that it would work unlike our current half assed recovery.


I blame it all on the Internet

I Doubt That


Our half-assed recovery, as well as the mild employment recovery during the bush years, has to do with problems you can't fix through monetary emission. Too many manufacturing jobs were exported, and employment was supported through the housing bubble.


If you want a better recovery, you need to build. We can't build homes, but infrastructure is both needed for its indirect effect on the economy and direct effect on employment. There is plenty of work to be done, but the austerians will not allow it.


Having said that, even an infrastructure boom could work only for a few years. At some point you need to solve the underlying lack of manufacturing jobs. Either a new sector must absorb them, or manufacturing needs to return. This is also connected to the other structural problem, the current account deficit.


Also, not even infrastructure is good if a lot of value add is imported, as has happened with some notable projects.

I am not a pessimist. I am an incompetent optimist.

Italy. Why'd he have to pick Italy?


This is really fascinating as a parable about money, but Mr. Alt's post-currency Italian fantasia is missing the one important ingredient that makes Italy so special today: politics. 

After the general clean-up was completed, the ERB undertook whatever services local mayors determined could be usefully provided without competing with local businesses. Proof-of-Concept grant programs—modeled on the Gates Foundation efforts to eradicate tropical diseases—were established to provide seed money for small-scale innovators on any topic, with the grants awarded through an internet-based peer review and voting process.

I'm not sure how the notorious national, regional, municipal & bureaucratic politics have disappeared in 7 years' time, but here's how this kind of thing would go down in the Italy I know.

After the general clean-up was declared complete (even though Naples was still in ruins), the ERB undertook whatever services local mayors determined could be easily expropriated to bail out city budgets and/or line their own pockets & those of political allies. Proof-of-Concept grant programs—modeled on the Gates Foundation efforts to eradicate tropical diseases—were established to provide seed money for small-scale innovators on any topic, with the grants awarded through an internet-based peer review and voting process that has been almost entirely corrupted by organized crime families in many parts of the country.

And this:

The Mafioso [sic] had begun scrambling to convert their businesses to any currency other than the Italian Lira because they discovered it was suddenly impossible to fill suitcases with laundered cash for their felonious transactions. The godfathers were steaming with fury—but, of course, it was awkward to make their objections known. In a related discovery, the federal government found that a simple computer program virtually eliminated the corruption typically endemic in government contracts. Every dL issued, it turned out, could be tracked endlessly, and accurately, through the economy. The program, known as L-Track, could do searches with variable filters which generated an instant report of where the digital Lira were at any given moment. It was impossible to hide them, and difficult to skim them without being seen.

Bwa ha ha ha! A totally incorruptible data system, eh? Yeah, the families of the Camorra, 'Ndrangheta, Cosa Nostra, etc., not to mention legions of corrupt Italian ministers, bureaucrats, judges, police, etc. might have a few surprises in store.


Anyway, enough about the brainhurt this caused me. I would love to hear some more economic analysis of this idea, that currency can be issued indefinitely and taxes used to curb the resulting inflation. The digital currency idea is a separate issue with separate problems.

"Hell is truth seen too late." --Thomas Hobbes

I suppose he could have picked Greece

HankP's picture

but I actually think it would have been more interesting to pick a country that's not in imminent trouble, like France. Of course to make it realistic he has to pick a country that faces a crisis, because we all know from history that changes like this are only made in times of crisis.


I blame it all on the Internet

I think he lost me at "hot Italian blood"


Also, if you can't figure out that the plural of Mafioso is Mafiosi, I'm not really going to trust your economic analysis...

37.5 (real) degrees.


Almost all of 'em.

Also the plural of lira is lire.


Although 'liras' might be acceptable for American readers. Some tolerance for nitwittery must be allowed.

"Hell is truth seen too late." --Thomas Hobbes