MMT sees America through rapid economic recovery

Modern monetary theory has been influential in helping America rise out of the recession that crippled the economy during the pandemic, writes Professor Stephanie Kelton and Dr Steven Hail.

WE HAVE JUST lived through the fastest recovery from a recession in modern American history.

The unemployment rate, which hit 15% at the height of the pandemic, has been below 4% for almost a year. Cutting unemployment from 10% in the Great Recession to a similar level took nine years. A pandemic is not the same thing as a global financial crisis, of course, but what is notable is the different policy response since 2020 to that of any other downturn in recent decades.

The fiscal packages have been larger and far more effective. You can put at least some of this down to the influence of modern monetary theory (or MMT).

My MMT colleagues and I had warned about the risk of a prolonged recession in the early 2000s, as a series of surpluses and inadequate deficits denied Americans access to secure balance sheets and contributed to increasing financial fragility.

When meltdown struck, we explained that policymakers’ fears of deficits were ill-founded and a barrier to a return to full employment, that quantitative easing was a poor substitute for an adequate fiscal response and that inflation was the last thing President Obama should have had on his mind.

Modern monetary theory opens range of economic possibilities

After years of being ignored, the Modern Monetary Theory school of economic thought is escaping its controversial reputation and growing in popularity.

But in 2010, we were drowned out of the conversation.

During the years that followed – a couple of which I spent serving as a chief economist on the U.S. Senate Budget Committee in Washington DC – the recovery was slow, unemployment was too high for too long and the benefits of recovery went disproportionately to the already wealthy. Meetings of the Budget Committee meanwhile invariably commenced with remarks by its chairman, Republican Senator Mike Enzi of Wyoming, along the lines that deficits were evidence of “chronic overspending”.

But with the assistance of academic papers, journalism, blogs, that job on the Committee and books like my 2020 New York Times bestseller, The Deficit Myth, alongside social media, MMT gradually gained influence, if not respectability.

The popular version of MMT is based on the fact that governments that issue their own currencies never need to go looking for that currency before they can spend. Indeed, the currency must be spent into the monetary system before it can be used to pay taxes.

When the government spends more than it taxes, while we call that a government deficit, it represents a surplus for everyone else and since the private sector will normally be in surplus when the financial system is healthy, responsible governments will normally run deficits (with all due respect to Senator Enzi).

Far from a burden on its citizens, the government’s debt supplies them with the dollars they can save. The conventional view of fiscal policy, in other words, gets almost everything the wrong way around.

It is not deficits that are evidence of overspending: it is persistent inflation, driven by spending across the private and government sectors which has pushed the economy beyond its productive capacity. COVID was followed by disrupted supply chains, a major European war, crop failures probably driven by climate change and rising global food and energy prices.

The Reserve Bank has got it wrong: Embrace modern monetary theory

On the 18th of March, the Board of the Reserve Bank of Australia (RBA) held an emergency meeting.

These drove production costs upwards, provided cover for firms with pricing power to raise margins and put severe upward pressure on measures of inflation, spreading from the primary sector to manufacturing, and finally to services.

Inflation and fears of future inflation came to dominate policy narratives again. No less an economist than Larry Summers opined that inflation might be going out of control and that a pivot back to austerity and rising unemployment would be needed to stop this.

My colleagues and I argued that the causes of the inflation were disproportionately supply-side and temporary, pressures on demand were transitory and would soon ease, and public investments to open up supply chains and build capacity would put downward pressure on inflation. The inflation would prove to be transitory. It peaked in the middle of 2022 at a rate above 8%. Barring another major supply-side shock, which is always possible, it should fall below 3%.

And all this without austerity and without the social costs of the increase in unemployment, Larry Summers believed to be essential. At the start of 2024, MMT is in a good place.

Independent film producer Maren Poitras has spent the last five years putting together the prize-winning documentary movie, Finding the Money, which tells the inside story of how my colleagues and I, building on the insights of fund manager Warren Mosler, constructed what is now called modern monetary theory and explained the insights it provides, and of the reaction of leading mainstream economists to the growing influence of MMT.

Over the next week, Maren and I will be touring most major Australian cities in early March, showing the movie and answering questions. I hope to see you there.

Stephanie Kelton is a professor of economics and public policy at Stony Brook University and an Adjunct Professor at Torrens University Australia and Modern Money Lab. She is a leading expert on modern monetary theory.

You can follow Dr Steven Hail on Twitter @StevenHailAus, as well as on Facebook at Green Modern Monetary Theory and Practice.