Modern Monetary Theory is correct in stating that a sovereign currency issuer cannot “run out” of the money they alone can produce. This means that the true constraint for a currency issuing nation is inflation and not solvency. But if this is true then what does MMT say about how it will control inflation?
At its core MMT is a quantity theory of money. In the MMT world T-Bonds are a type of high powered money. But instead of using reserves or cash to control the policy variables, as a Monetarist might prescribe, the MMT advocates believe we should focus entirely on fiscal policy. In fact, they believe we should restrict Monetary Policy almost entirely by setting a permanent Fed Funds rate of 0%. In doing so they are pure advocates of setting policy via fiscal measures.
How would this work in practice and would it actually work? We have no idea and MMT is vague on the specifics.
What we do know is that MMT policies would very likely result in a significant increase in the size of the government given their desires for a national Job Guarantee and their tendency for Liberal policies. So the worry about inflation under a MMT regime is a legitimate one.
MMT has several claims about how they would control a high inflation:
- The MMT Job Guarantee is supposedly a “price anchor” that will create full employment with price stability.
- MMT claims you can reduce inflation by increasing taxes via automatic stabilizers.
- MMT claims you can micromange the economy, regulate and implement price controls.
These are bold claims given that there is virtually no evidence that supports these claims. First, the MMT Job Guarantee has never been tested anywhere in a developed economy. And there is evidence that it would act more as a “price buoy” as opposed to a price anchor. This makes sense since it would set a floor under wages.
Second, there is no empirical evidence showing that tax increases are an effective way of combating inflation. And more worrisome is the fact that MMT does not believe in running budget surpluses. In this sense they are not true countercyclical Keynesians. So one must wonder – how can you control inflation if you are increasing the deficit at all times? But how would this actually work in practice? MMT says we should target inflation and not budget sizes. Okay, what does that mean? Are we supposed to believe that Congress can be trusted to look at ex-ante inflation data and set the budget size based on their estimates of future inflation? And we are supposed to believe that they will agree with one another and change policy in a timely fashion?
Thirdly, price controls and micromanaging regulations are Latin American style inflation fighting tools. They’ve been largely abandoned in developed economies because there is only weak evidence that they can control the broader price level.
Lastly, MMT appears wholly naive about the fiscal policy and monetary offset. They believe the Fed could set rates at 0% and that this wouldn’t exacerbate inflation in a high inflation environment. There is zero evidence to support such a claim.
These are untested questions that raise very legitimate questions about how a MMT regime would be managed. In this sense MMT deserves criticism since they have no empirically tested theory of inflation.
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.