WARNING: Slightly wonkish today. But worth it!

One of the important insights of Public Choice economics (which analyzes the public sector through the same premise of action by self-interest which governs the private sector), is that you have to understand the political economy of actually implementing any proposed policy. The policy that is amazing in theory (Libertarians take note!) but politically impossible to implement is not as good as a policy that is good in theory but is at least partially implementable. Or as is more commonly said in a broader context, we shouldn’t let the best be the enemy of the good. We’re about to see this in application with respect to the progressive “amazing” policy of modern monetary theory.

Modern monetary theory is not really so modern, in my view, as the public policy essence is found in Abba Lerner’s promotion of Keynesian Functional Finance advocated in the early 1940s, effectively operationalizing Keyne’s General Theory.* The core tenet of this theory is that deficits don’t matter: the government should spend to ensure full employment. As Lerner said later,

In brief, functional finance rejects completely the traditional doctrines of “sound finance” and the principle of trying to balance the budget over a solar year or any other arbitrary period.

This leads to a very simple policy prescription for macroeconomic thinking. If private spending is insufficient to lead to full employment of resources, then the government should spend more. If private spending is greater than this, i.e., we have inflationary results, the government should spend less or increase taxes. The deficit or debt levels are irrelevant, since “we owe it all to ourselves.”**

MMT expands on this, albeit with more nuance, to argue that the level of spending should be funded by direct issuance of currency rather than borrowing. Fears of inflation are unjustified, because inflation in this Post Keynesian view are not from money printing per se, but rather from Aggregate Demand itself, which can be handled by taxation. So government can issue as much money as it likes, and spend as much as it likes, and increase taxes if necessary to control inflation. And political proponents of this see MMT as a way to end the fiscal constraints that have long shackled their grand ambitions–we can fund a green new deal, a $3.5T infrastructure bill, and on and on.*** In a Keynesian world there are always underemployed resources just waiting to be integrated, and there is no reduction in the private sector required. And yet….here we are. With CPI inflation at 5.4% (and producer price inflation at 4.5%), we are significantly higher than the Fed’s “let it run a little hot” inflation level of above 2%. The numbers surprised the Fed significantly on the upside, as Chairman Powell admits.

So, the inflation that we have today, what we’ve said is that if inflation runs below 2% for an extended period, we want inflation to run moderately above 2% for some time. This is not moderately above 2%, by any stretch. This is well above 2%, and we understand that.

Now we circle back to the top. If you are an MMTer, you would think that perhaps now is the time to raise taxes to constrict demand.**** Or if you are more conventional, you think the Fed should ease up on the money printing. But politically there is no appetite to raise taxes on where much of the demand is coming from–the stimulus given to lower income Americans. That will not be a discussion item of anybody. Tax the rich, sure. We already hear that from the progressives continually. But it’s not rich people driving the prices of used cars sky high. It’s not rich people driving rents sky high. So even if MMT were correct–and in my view it is utter nonsense–practical implementation is impossible. Just like practical implementation of sound money and sound central banking is impossible.

And let’s end with one hope. Public Choice economists lament one of the salient realities of public life, that we are all rationally ignorant. We don’t pay attention to complex issues since the costs of being informed are much greater than any benefit (but hey, if you’ve got to this point in the post, you’ve proven it doesn’t always apply to you!). The presence of rational ignorance is why special interests win–special interests are most rationally not ignorant. So people don’t pay attention to most issues. But pocketbook issues like inflation will get their attention quickly. Especially the housewives that do the majority of families’ grocery shopping in America. You can count on them being very rationally non-ignorant as prices start to rise, and they’ll be looking for someone to blame. The Fed has a tiger by the tail, and they better hope this is as transitory as they are telling us. But they really have no clue:

Sen Shelby: “Are you concerned about all the things that I just related? All the price increases unprecedented in recent years. Or are you just putting that aside?”

Chairman Powell: “No, I mean, we’re, of course, night and day, we’re all thinking about that… and really asking ourselves whether we have the right frame of reference, the right framework for understanding this.”

* The proponents of MMT will disagree with this, of course, but I fail to see how the differences they highlight are not merely pedantic subtleties from a policy perspective, e.g., whether the government “borrows” or “prints” money is irrelevant to me. The chartalist view of money I find historically fictional.

** In my view, Professor Buchanan demolished this argument in his 1958 book Public Principles of Public Debt.

*** This also shows the short-sighted conservative response to such proposals that essentially claim “we can’t afford this.” As if the idea is fine, but just too expensive. The opposition to progressive spending from this Berean is not that its too expensive (although it is) but primarily that the spending will lead to 1) often longer term destructive results, and/or 2) that what the private sector would have done with that money would have been better

**** Yes we don’t have full employment, but wages are rising and there are widespread labor shortages as people are refusing to go to work. But regardless, MMT suggests that inflation is too much aggregate demand, and increased taxes and/or reduced government spending are the solution.