Tuesday, 4 October 2011

Musings on MMT - Exposing the Soft Bits

These are exciting times. Steve Keen's Debunking Economics has been released in the UK and my copy is now on my desk. Steve has a good model of Horizontal Money (aka the Horizontal Circuit or 'Credit Money') and notes that he is currently working on integrating that with Vertical Money (aka 'Fiat Money').

Steve is sceptical about MMT and will be the only one likely to find any flaws in the existing formal MMT model. The convergence of those streams should be fascinating to watch. The basic framework is there and appears reasonably sound against the available evidence so we shall see.

We know that some of MMT's better defined policy suggestions are really good. Enhancing the automatic stabilisers is by far the best way of making sure that a mixed economy can return its private sector to its 'ignition' point after a slump - and importantly slow down when it starts to get full.

The Job Guarantee scheme allows private sector malinvestment to be resolved without throwing people into absolute destitution. And importantly there are no politicians in the middle who can screw up the spending decisions based on their desperate need for popularity.

For any country that already has a universal Health Care system it's an easy extension. You shouldn't have to die and you shouldn't have to starve just because the economy has gone a bit wobbly for a while. 

So now it is really time to move on the bits where MMT doesn't really venture and get those firmed up.

I see those falling into the following areas:

Quantity vs. Price Expansion

How does the economy responds to stimulus when it has spare capacity available? This is the old 'does the system quantity expand or price expand' argument which I've highlighted a couple of times before. Lord Keynes, on his blog, highlights the Cantillon Effects and dismisses them as an argument against Government spending. But while doing so he makes an important point: The Effects apply equally to private induced expansions in spending.

So how a particular economy behaves during a private sector expansion should describe roughly how it will behave in response to a government induced reflation - in terms of that economy's propensity to quantity expand over price expanding.

Beyond that there isn't much evidence supporting either position. Post Keynesians 'believe' that an economy will quantity expand while many others 'believe' the economy will price expand. Such faith is touching, but doesn't help the system design. The truth is somewhere in the middle no doubt.

And therefore in terms of policy design you have to factor in the uncertainty. So, for example, reflation has to be coupled with a threat to remove any 'rent' extracted with price expansion via the tax system.

Effect on the Exchange Rate

Central to the MMT system is the floating exchange rate system that provides the necessary degree of freedom allowing an economy to target low unemployment and stable prices at the same time.
Those who follow John T Harvey's blog on Forbes will know that the modelling the exchange rate is one of his research areas. And as he says it is 'complicated'.

I'm still not entirely sure which theory of exchange rate MMT subscribes to, which model that relates to and how much evidence there is for it. Certainly the straight linear relationship between interest rates and exchange rates is too simplistic to be of use (and should be challenged wherever it pops up).
For example, it is entirely possible in the current environment that any reflation proposals will be greeted with a surge in the currency rate - given the paucity of private investment opportunities in the world in general.
Policy design here is complicated. Surges in speculation in either direction will happen and need to be buffered somehow in the short term. One of the benefits of the zero interest proposals are that they get rid of the speculative money in an economy (or at least the cost to the government of that speculative money). But there is little data on what the effects will be over time. 

And yet any other system of controlling the exchange rate just stores up problems for later. It is generally better to have regular earthquakes than store up the pressure for one big one - as the current Eurozone mess demonstrates in spades.

Cost Push Inflation

Cost Push inflation is really a result of demand from outside your currency zone. So you can't control it with your policy variables. Nothing done in London is going to reduce the demand for Oil in Beijing. The issue here is how to dole out the resulting reduction in the standard of living equitably while the substitution goods and services get put in place.

I find the policy suggestions on this subject weak (Lord Keynes blog has a good overview). Probably because it is a tough problem to crack. Distributing pain is never going to be popular with the voters.

Perhaps the best suggestion is to have strategic buffer stocks of important materials and of course to ensure that the domestic economy is strong and diverse so that relies less upon the kindness of foreigners.

Wealth Concentration

The existing corporatist system has allowed a moneyed elite to, in essence, purchase the political system and use it for their own enrichment. Arguably all political systems in history have degenerated into a 'Big Man' situation of some sort over time.

MMT's approach to the hoarding of net-financial assets is to accommodate them rather than confiscate them. So the government sector has to top up the money stored in excess of that lent out to stop the economy shrinking and that causes non-government financial assets grow over time. Hoarding is discouraged as much as possible (with near zero interest rates) but not actively prevented with taxation measures.

Pragmatically that is probably the right approach. Who should have their savings confiscated after all? But it does lead to the risk of wealth concentration and with that comes the ability to subvert the system for wealth's own ends. In any system he who pays the piper calls the tune.

I don't believe I've read anything from the MMT economists on the subject. However Tom Hickey rightly and regularly mentions eliminating excess rents as a policy approach that should help prevent wealth build up in the wrong hands. And a recent post at Heteconomist covers the subject as well

Any others?

Those are the ones that come to me regularly. But they are no doubt not the only ones as we move on from the basic economic truths onto designing the political economy. 

So what troubles you? Let us all know below.