MMT’s politics warrant greater controversy than its premise

Taxes may serve other purposes — the redistribution of income and wealth, the discouragement of “sinful” behaviour — but, in the world of MMT, they serve no useful macroeconomic role.

Stephen King, Senior Economic Advisor to HSBC, October 2020

In his eponymous Financial Times op-ed, Stephen King, Senior Economic Advisor to HSBC, stated The case against Modern Monetary Theory, the radical economic theory beloved of the left, and loathed by the right — usually by reference to the Magic Money Tree with which the theory amusingly shares an acronym.

Joining the swelling ranks of economists eager to debunk a theory cited by Bernie Sanders and AOC as a basis for expanding deficit spending, Mr King — by stating that ‘in the world of MMT [taxes] serve no useful macroeconomic role’ — emulates the mistakes of the paradigm’s Democratic allies: passing off an opinion about MMT’s political utility as a test of its veracity.

Under MMT, government spending creates money, and taxes destroy money. The world in which taxes serve no useful macroeconomic role is a straw one, more likely intended to economically undermine the theory than to undermine the theory economically.

That MMT has been politicised by its founding fathers is lamentable, but shouldn’t foreclose consideration of its core claims — which are really only an extrapolation of central bankers’ own accounts for the way that money is created in a modern economy.

We know that most of the money in a modern economy is ‘bank money’: money created by commercial banks, that has its origin in the act of the bank issuing a loan. When a commercial bank issues a loan, it simply credits the borrower’s deposit account with the value of the loan, writing the value of the deposit in the liabilities column of its ledger, and the value of the loan in the assets column.

The stock of bank money in the economy is expanded by the value of the deposit; repayment of the loan unwinds this action, and destroys the newly created bank money. At the end of the banking day, commercial banks aggregate the net transaction values due to one-another as a result of their customers’ payment activities, initiating a net transfer between themselves in a different type of money: central bank money — reserves.

The central bank undertakes to always ensure that there are enough reserves in the system to underpin all interbank transactions, whatever the quantity of bank money in circulation.

Although deviating from the description of money creation popular in economics textbooks, this account is uncontroversial among the central banks responsible for framing the monetary system — and is consistent with the account put forward under MMT.

MMT further claims that, upon very close inspection, governments in modern economies — even when appearing to bank with commercial sector banking institutions — actually initiate payments via the direct creation of reserves, and that a payment from government to a private sector contractor implies, in abstract terms, (a) the creation of an IOU between government and the central bank, (b) a commensurate IOU, denominated in reserves, between the central bank and the commercial bank representing the private contractor, and (c) an IOU, denominated in bank money, between the commercial bank and the private contractor — representing the sales receipts settled by government.

This, the theory claims, represents an expansion of the aggregate money in circulation within the economy. The private contractor’s later settlement of taxes unwinds the chain of IOUs, ending in the tearing-up of the government’s IOU to the central bank, and a contraction in the stock of money.

That government spending might precede taxation is no more eccentric than the accepted account that loans precede deposits. And what follows — that the supply of money is regulated by the confluence of fiscal and monetary policy — has implications that better warrant exploratory debate than blunt dismissal.

MMT seems primarily to be a paradigm in which one relentlessly observes real financial operations through the principles of double-entry bookkeeping, is substantially consistent with the central banking consensus on monetary theory, and illuminates a range of related debates — bringing equal focus upon the role of government debt in the economy not only as a liability for the public sector, but as the most trusted asset for the private sector. One wonders what a pension company’s balance sheet would look like were the public debt repaid, and government bonds ceased to exist.

Questioning, as MMT does, whether the merits of central bank independence are illusory additionally seems increasingly fair game after more than a decade of QE-related asset purchase activities, in which government debt auctioned ostensibly through open-market operations is bought by institutional buyers that know the central bank is waiting in the wings to monetise the debt.

If fiscal and monetary policy are, in the end, both merely tools in the inflation management toolbox, then the debate over government debt, deficit, and spending, does need to be reoriented. Questions might then more profitably be posed not over whether we’re mortgaging our grandchildren’s future, but over the size of the state’s role within the economy. The proponents of MMT would do greater justice to the paradigm by sitting out that debate, rather than adulterating the theory with a certain brand of politics.

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