What government, faced with rising inflation, will for example also choose to put up VAT?
Economist Stephanie Kelton appeared on the alternative news and analysis website Novara Media where she was given an hour in an interview with Ash Sarkar to try and make the case for Modern Monetary Theory, or MMT for short.
I am not a fan of MMT. The fundamental reason is fairly simple – I think it’s a retrograde step in economic theory, what the philosopher of science Imre Lakatos called a “degenerating scientific research programme”.
Listen to this story at James Meadway's podcast, Macrodose.
A degenerating scientific research programme is one in which rather than offering a body of theory which explains novel facts about the world, you have a theory whose adherents have to spend longer and longer thinking of new ways to try and justify the core theory in the face of the evidence.
Sovereignty
The main economic facts that need to be explained today are the ways in which the assorted environmental crises are playing out on our economies – from shortages to rising prices to worsening risks to business – and therefore understanding how these are reshaping our economies.
Adjacent to that is that steady weakening and decline of the power of the US economy itself, the loss of authority of finance, the growing prevalence of the state in economic life, and the various other, more minor but related occurring themes on this podcast.
MMT, which is a bastardisation of twentieth century Keynesian economics, has nothing useful to say here.
Like the neoclassical economics it so closely resembles – despite protestations – it starts from the same assumption of what I’ve called anthropocentrism: the idea that if you want to understand how the economy operates, you first start with what human beings do, and then assume the natural world will be shaped by them.
MMT’s version of that is the exceptionally strong underlying claim it makes about the power of the state – that money gets its value from the state, since the state demands money for taxes, and this makes money posses its value.
In other words, it is a human institution – the state – that can decree value into existence, by exercising its powers to tax. This is the idea of “monetary sovereignty”: the claim if a state can issue its own currency, it has no need to fear running out of money, and that this grants it a special power.
Status
On the level of accountancy, the first part of that statement is literally true: if a body has the power to issue more money, it can always issue more money. It just has to updated everyone’s accounts accordingly. This is true, but also completely banal. It doesn’t matter.
But on the level of economics, where this really matters in the second claim, the claim is not only wrong, it’s becoming more wrong.
Take the US dollar, for example – which is the currency out there that most closely corresponds to the MMT ideal, since the US dollar is the world’s major reserve currency and, as we have seen, the US government can borrow very substantial sums without serious consequences – and has done for decades now.
The majority of dollars that exist are held outside the US – they don’t get their value from the fact they have to be paid in taxes to the US government, for the simple reason that they will never be paid in taxes to the US government.
Instead people want to hold US dollars largely for the very simple reason that they can be used quickly and easily to buy things. And note what follows on from this: the US dollar retains its status to the extent that it is in strong demand.
Supply
Should the US state seek to use its powers to try and control those dollars outside the US – for example by imposing sanctions, or seizing holdings of dollars – the dollar will start, as it is starting, to lose its pre-eminent position.
This is, in other words, the exact opposite of the MMT claim that it is state power that grants a currency value – actually using that state power undermines the currency.
But bigger than that is my fundamental claim that economics today has to start from the position that the human economy is increasingly shaped by non-human forces – that the stable environment of the last (say) 10,000 years, give or take some oscillations in temperature, is now coming to an end, and this fact will increasingly become the primary economic fact to be explained.
Because it is so very anthropocentric, MMT is fundamentally useless here – its theory of inflation, for example, depends on the claim that it is driven, when it appears, by demand – by people having too much money that they want to spend – and so therefore the government should try and control inflation by exercising its fundamental power to tax, raising taxes to shrink demand and so reduce inflation.
Leave aside the practicalities of this – what government, faced with rising inflation, will for example also choose to put up VAT? – it’s just not even close to the kind of inflation that is becoming increasingly important today, which is inflation driven by problems in supply.
Shocks
The example of butter is a case in point – shortages, at least in part the result of the climate change, are driving up prices. Putting up taxes won’t do very much to help here.
Now of course various MMT people will say we recognise this type of inflation, and we also want price controls and buffer stocks and so on, which is all good.
But the problem I have is that these supply side shocks aren’t things that require minor adjustments to the underlying theory as, increasingly, what determine how the economy operates.
As climate change and resource shortages worsen, we should expect more, not fewer, supply side shocks. So we don’t need repeated adjustments to a failing underlying theory, but we need a whole new “scienfitic research programme”, as Lakatos called it.
We need a theory which fails to acknowledge the growing importance of these shocks, instead asking us to try and concentrate on demand, will fail.
Sober
And of course a strict application of MMT principles in the face of repeated shocks would be terrible: let’s assume inflation has risen persistently to an average of five or six per cent, and so the MMT response is to raise taxes to bring it back down.
But since the underlying process that is causing prices to rise – climate change and shortages – is not affected by taxation, all this MMT government will end up doing, as it tries to raise taxes to limit inflation, is strangle demand – driving up unemployment. The exact mirror, in other words, of the policy of raising interest rates.
It doesn’t work, and it doesn’t work for the same reasons the neoclassical mainstream doesn’t work. The basic problem is that this isn’t an economic theory designed for the world we now live in, but something closer to a comforting exercise in nostalgia.
Its comforting to be told that economic problems don’t really exist, that governments have a magic power to wave them all away if only they would use it, but that’s all it is: a comforting illusion, a failure to confronting with sober senses the real conditions of our existence.
This Author
Dr James Meadway is an economist and former political advisor. This article is based on a transcript of an episode of Meadway's podcast, Macrodose.
