Setting the record straight on GND and Modern Money Theory

In recent weeks, Modern Money Theory (MMT) has been in the headlines thanks to proponents of the Green New Deal (GND), especially Rep. Alexandria Ocasio-Cortez.

After decades in the academic wilderness, it achieved enough prominence to necessitate criticism by the big economic guns— Paul Krugman, Larry Summers and Ken Rogoff. Even Federal Reserve Chairman Jerome Powell had to weigh-in against it. 

{mosads}Summers’ headline warned of “a recipe for disaster; ”Rogoff called it “modern monetary nonsense;” Powell judged it “just wrong.” Krugman begrudgingly opined that “it looks as if policy debates over the next couple of years will be at least somewhat affected by the doctrine of Modern Monetary Theory.”

I read critiques of MMT and discovered:

1. MMT offers, according to Summers, “the proverbial free lunch: the ability of government to spend more without imposing any burden on anyone” and claims that “massive spending on job guarantees can be financed by central banks without any burden on the economy.”
2. MMTers, according to Rogoff, “advocate using the Federal Reserve’s balance sheet to fund expansive new government programs … which is just nuts.”
3. MMT maintains, according to Powell, “the idea that deficits don’t matter for countries that can borrow in their own currency.” While Powell conceded he hasn’t read it, he’s heard “pretty extreme claims.”
4. And, according to Krugman, “MMT seems to be pretty much the same thing as Abba Lerner’s ‘functional finance’ doctrine from 1943,” which says that “budget policies should be entirely focused on getting the level of aggregate demand right” to “produce full employment, but not so big as to produce inflationary overheating.”

Wow. If MMT did say those things, I’d be a critic, too. What all these critics have in common is that their claims are not based on MMT literature. I’ll set the record straight on each of these issues.

1. On the issue of “free lunches,” Summers doesn’t clearly state whether he means financially free or real free lunches. With respect to real resources, I agree with him that “there is no free lunch”— with a caveat.

The GND requires moving resources devoted to environmental destruction (coal plants, fracking) and inefficient health care (for-profit private health insurance) to environmentally sustainable (wind-power) and efficient (single-payer) uses.

Some sectors lose resources while others gain; from that perspective, there’s no free lunch. However, the GND’s job guarantee (JG) takes advantage of free lunches, matching the unemployed to jobs restoring the environment and providing needed care services.

2. With respect to “making the Fed pay,” MMT is devoted to uncovering “how government really spends.” Conventional wisdom holds that government collects tax dollars for spending; and when short of funds, it borrows dollars from savers.

However, it’s obvious this isn’t literally true — few taxpayers deliver wheelbarrows of cash to the Treasury, and government payments are not made in cash. Payments made or received by Treasury run through the Fed and private banks, with at least four balance sheets involved (Treasury, Fed, private bank and recipient/taxpayer).

The short version is that every dollar paid generates a Fed credit to bank reserves and a bank credit to the recipient’s account. Tax payments reverse that: Reserves and taxpayer deposits fall by a dollar each.

If annual spending exceeds taxes, reserves rise, creating excess reserves. Absent offsetting operations, this places downward pressure on the fed funds rate toward the rate paid by the Fed on reserves.

In normal times, the Fed sells Treasuries to drain excess reserves. At the end of the year, if spending exceeded taxes, that’s a deficit that equals the increase of reserves plus Treasury bonds.

Critics complain MMT resorts to complex accounting to explain why Uncle Sam cannot run out of money. But the financial system consists of credits and debits, with spending “accounted for” on balance sheets.

MMT doesn’t advocate any change, insisting that existing procedures ensure the GND can be “paid for.” Further, there is no room in current practice for the Fed to “just say no” to Treasury spending. The Fed will, and must, make payments for the Treasury, but we do not advocate Fed “financing” of the GND.

Turning to Summers’ other question: Is there a financial free lunch? Yes. Few resources are needed to keystroke credits to accounts. Critics quibble that government must pay interest on reserves and bonds left from budget deficits. True, but those are also made through keystrokes. In financial terms, that’s essentially free.

Is there a danger of taking advantage of financial free lunches? Yes, and the consequence would be inflation.

3. If government runs a deficit, it adds reserves and bonds accumulated as private net financial assets, that is, “wealth.” That matters; these are the safest assets money can buy. Indeed, they underlie the entire globe’s financial system.

Could there be too much of a good thing? Yes, and the consequence would be inflation. The problem is not with bonds, but rather the spending behind deficits that exceeded productive capacity.

4. MMT doesn’t advocate running up aggregate demand. That would cause inflation before reaching full employment. MMT relies on the job guarantee. It offers a basic wage (we advocate $15 per hour, consistent with GND), providing a GND job to anyone willing to work.

The jobs guarantee is a key MMT component to be used for GND projects — infrastructure, environmental and care of individuals and communities.  

{mossecondads}The GND will require resource mobilization — on a scale larger than the first New Deal and WWII. It should be planned and phased-in at a pace not to exceed productive capacity.

Don’t be deterred by hysterical estimates that its cost will be over $90 trillion. The financial task is simple: a budget authorization for spending at the proper pace.

The ultimate financial cost will be less than estimates put forward by critics who ignore cost savings as we shift resources from destructive, inefficient uses to the GND to restore and build new capacity.

Experts say we have the technical know-how to achieve the goals. MMT claims we have the financial know-how to pay for it. With both the technical and financial means, all that’s left is political will. Admittedly, that’s a long shot. But there really is no alternative.

L. Randall Wray is a professor of economics and senior scholar at the Levy Economics Institute of Bard College.