The 2020 Democratic primary debates have revived various promises of new government spending and services without mention of how to finance the subsequent deficit. Some in the progressive left, including Sen. Bernie Sanders and Rep. Alexandria Ocasio-Cortez, have proclaimed modern monetary theory (MMT) as a means of securing the idealised Scandinavian-style safety net without enduring the political unpalatability of using the 't' word, at least on the front-end.
MMT is now salient thanks to the rise of the Democratic Socialist movement, with Ocasio-Cortez and Sanders as the most prominent faces. The Green New Deal, championed by Ocasio-Cortez, would be entirely financed by MMT. Sanders, a believer in universality, has proposed a myriad of government programs (universal college debt forgiveness, medicare-for-all, infrastructure package, etc.) each of which have been conceptualised by Sanders’ economic advisor Stephanie Kelton, a leading proponent of MMT. It seems that if the scale of a policy’s spending and ambition is gargantuan, MMT is your answer.
So how does it work? MMT theorises that governments in monetarily sovereign countries trading in fiat currency are unable to default on their debt since their central bank can provide corresponding fiscal stimulus in order to compensate their debt. Since the central bank is the monopoly issuer of their currency, and is centralised under this model, government spending is unlimited. However, an increase in the amount of money chasing the same number of goods leads to inflation. MMT proposes that congress raises taxes to drain the new liquidity from the system in order to keep inflation and debt levels stable. In short, the government prints and spends money to provide social services then hikes tax to reign in inflation which ensues from large amounts of new money entering the economy.
The problem with more money chasing the same amount of goods is that supply and demand doesn’t change, only its medium does. Let’s take a nation which meets the criteria for implementing MMT and has a large federal spending demand: for example, Bangladesh seeking to provide universal healthcare. Bangladesh can’t print and spend infinite money to grant every citizen universal healthcare because there is a real resource constraint. In other words, prices reflect the supply of doctors relative to the healthcare demands of citizens, and fiscal stimulus won’t fundamentally change this dynamic but only increase the scale of it’s figures. The result of Bangladesh pursuing this universal healthcare policy would be that prices would go up in tandem with the fiscal stimulus, unless there is an increase in the supply of real resources to meet demand.
Advocates of MMT have two defences against the inflation argument, both of which are true but not feasible. The first being that inflation won’t ensue a fiscal stimulus if the goods and services they seek to consume aren’t at their productive capacity, which is true since the spending wouldn’t run up against the real resource constraint. The merit of this argument varies depending on which sector it’s applied towards. The second is that passing new taxes would drain liquidity from the economy and subsequently curb inflation. This is true, but avoiding this was the implicit aim of enacting MMT in the first place. This responsibility would also fall in the hands of congress, which is problematic for a number of reasons. One, Congress is a rigid body that isn’t capable of the nimble policy action necessary to keep inflation at a steady 2 per cent. The second being that this would create a perverse incentive structure. Constituents aren’t fond of having their taxes raised, career politicians want to keep their jobs, and thus the responsibility is likely going to get kicked down the road.
This is the political benefit of MMT, frontloading benefits and delaying costs. Restructuring the role of financial bodies doesn’t change the fundamental economic principles that determine what is made and where it is distributed. Democrats promising a jobs guarantee or Republicans cutting taxes are theoretically responsible for keeping inflation from spiralling out of control and government debt from entering the critical mass of defaulting. It is the responsibility of government officials to persuade the public that the benefits of a new spending program outweigh the cost of new taxes, and there’s no economic sorcery that can make something out of nothing.