As U.S. political debates continue to intensify around government benefits and tax policy, some politicians and pundits see modern monetary theory (“MMT”) as support for a system of low tax rates and generous government benefits programs.1 To help you get through the presidential election cycle and impress your economist friends, here is a quick primer on MMT.
What is Modern Monetary Theory, Anyway?
MMT’s basic premise is that governments can be monetarily sovereign – that is, the government’s budget constraint is often overstated because the government can print more money.2 Three broad governmental activities stem from this premise.
First, instead of taxing to pay for expenditures and interest on its debt, the government can simply borrow more money to repay the interest.3 Modern monetary theory posits that this is possible because governments that issue their own currency can make debt and interest payments by printing more money. This means that deficits are not per se detrimental to the economy.4 Second, the government can directly infuse cash into the market by printing and spending for expenditures, including public services and infrastructure.5 Third, the government can control the federal interest rate to lower the cost of capital and incentivize consumer spending.6 All this is to say that, under modern monetary theory, government deficits are just a matter of fact, not a thing to fear. So, deficits and the printing power can allow governments to spend without excessive taxation.
What are People Saying in Favor of Modern Monetary Theory?
Proponents of modern monetary theory argue that panic over government deficits is misguided.7 When the government is monetarily sovereign, it cannot actually run out of cash and therefore has the power to repay debts and spend at all times.8 This theoretically unlimited supply of money can also fund government expenditures on public services.9 By injecting money into the economy through expenditures, the government can increase spending on its programs, which in turn can improve employment rates.10 When unemployment decreases, the scope of the cash infusion widens as employment creates public spending power.11
MMT proponents also believe that the budget deficit can be big enough to produce full employment, but not so big as to produce inflation.12 And, in times of inflation, modern monetary theorists believe that Congress should stabilize prices by raising taxes and pushing the deficit into a surplus.13 Interest rate and money supply functions are currently reserved for the politically-independent Federal Reserve.14 To calibrate monetary policy to governmental needs, politicians in favor of modern monetary theory sometimes advocate for the Federal Reserve to coordinate monetary policy with the Treasury. This, along with the advocacy for a Congressional role in price stability, curbs the political independence of banking functions.15
How are People Arguing Against Modern Monetary Theory?
Critics of modern monetary theory hinge strongly on the theory’s implications for inflation. Adversaries do concede that when the interest rate is lower than the economy’s sustainable growth rate, the level of debt is not really an issue.16 Critics and proponents of modern monetary theory also agree that there is potential for a snowball in debt, and resulting inflation, when the opposite is true.17 However, critics bash modern monetary theorists for their over-reliance on the government’s ability to run surpluses to counter these effects as needed.18 Running surpluses requires increasing the tax rate, which is politically difficult to achieve and can have negative effects on individuals’ incentives to work and spend, which can then compound inflation.19
Critics also fear modern monetary theory’s implications for the politicization of central banking functions through interest rate manipulation.20 First, taxing and spending are subject to political tradeoffs, and are not the pure economically-driven decision-making that modern monetary theory proponents seek. Second, the Federal Reserve, which controls interest rates and the supply of money, has traditionally had an independent role separate from policy advocacy.21 An independent Federal Reserve insulates the permanent central bank from short-term political sway – something that can change as frequently as mid-term and presidential elections.22 When central banks are subject to political pressure, short-term policies to lower unemployment are desirable not primarily for their merit, but for their impact on elections.23
Sounds Complicated. So, Why Do I Need to Know About Modern Monetary Theory?
Modern monetary theory is about three decades old, but it just recently entered mainstream political discussion when Representative Alexandria Ocasio-Cortez (D-NY) championed the use of modern monetary theory to fund the Green New Deal, a slate of progressive economic stimulus proposals based in government infrastructure expenditures.24 Senator Bernie Sanders (I-VT) has indirectly supported the use of modern monetary theory since at least 2016.25 As the idea gains steam, we are sure to see it as a big policy issue among democrats and republicans in the campaigns leading up to the 2020 presidential election.
See, e.g., Eliza Relman, Alexandria Ocasio-Cortez Says the Theory That Deficit Spending is Good for the Economy Should “Absolutely” Be Part of the Conversation, Business Insider (Jan. 7, 2019, 11:05 AM), https://www.businessinsider.com/alexandria-ocasio-cortez-ommt-modern-monetary-theory-how-pay-for-policies-2019-1. ↩
See Noah Smith, Don’t Be So Sure Hyperinflation Can’t Hit the U.S., Bloomberg (Jan. 10, 2019, 7:00 AM), https://www.bloomberg.com/opinion/articles/2019-01-10/u-s-economy-modern-monetary-theory-bets-deficits-don-t-matter. ↩
See id. ↩
See id. ↩
See id. ↩
See id. ↩
See Thom Streithorst, The Radical Theory That the Government Has Unlimited Money, Vice (Feb. 28, 2018, 12:42 AM), https://www.vice.com/en_us/article/a34n54/modern-monetary-theory-explained. ↩
See id. ↩
See id. ↩
See id. ↩
See Stephanie Kelton, Modern Monetary Theory is Not a Recipe for Doom, Bloomberg (Feb. 21, 2019, 8:00 AM), https://www.bloomberg.com/opinion/articles/2019-02-21/modern-monetary-theory-is-not-a-recipe-for-doom. ↩
See Paul Krugman, What’s Wrong with Functional Finance?, N.Y. Times (Feb. 12, 2019), https://www.nytimes.com/2019/02/12/opinion/whats-wrong-with-functional-finance-wonkish.html?module=inline. ↩
See Michael R. Strain, ‘Modern Monetary Theory’ Is a Joke That’s Not Funny, Bloomberg (Jan. 17, 2019, 11:05 AM), https://www.bloomberg.com/opinion/articles/2019-01-17/modern-monetary-theory-would-sink-u-s-in-debt. ↩
See Smith, supra note 2. ↩
See id. ↩
See Krugman, supra note 13. ↩
See id. ↩
See id. ↩
See id. ↩
See Terry Jones, Modern Monetary Theory: Everyone’s Talking About MMT, But What is it, and Will it Work?, Investor’s Business Daily (March 1, 2019), https://www.investors.com/news/economy/modern-monetary-theory-mmt-inflation-spending/. ↩
See id. ↩
Mark Thoma, Why the Federal Reserve Needs to Be Independent, CBS News (Nov. 12, 2009), https://www.cbsnews.com/news/why-the-federal-reserve-needs-to-be-independent/. ↩
See id. ↩
See David Roberts, There’s Now an Official Green New Deal. Here’s What’s in it., Vox (Feb. 7, 2019, 12:58 PM), https://www.vox.com/energy-and-environment/2019/2/7/18211709/green-new-deal-resolution-alexandria-ocasio-cortez-markey; Bob Bryan, A New Survey Shows that Zero Top US Economists Agreed With the Basic Principles of an Economic Theory Supported by Alexandria Ocasio-Cortez, Business Insider (March 15, 2019), https://www.businessinsider.com/economist-survey-alexandria-ocasio-cortez-modern-monetary-theory-2019-3. ↩
See Ben Holland & Matthew Boesler, MMT Has Been Around for Decades. Here’s Why it Just Caught Fire, Bloomberg (Mar. 22, 2019, 9:01AM), https://www.bloomberg.com/news/articles/2019-03-11/mmt-has-been-around-for-decades-here-s-why-it-just-caught-fire. ↩