Tuesday, September 14, 2010

Modern Monetary Theory.

One of the beauties of Modern Monetary Theory (or indeed any half intelligent macroeconomic regime) is that under such a regime a whole series of pseudo problems and non problems raised by economic illiterates come out in the wash. That is, these non problems, which so called economists spend months trying to sort out, solve themselves.

First example: Tim Congdon worries about the possibility that tighter bank regulation will thwart the recovery. To be more exact, Congdon (like many leading conventional economists) has long been hooked on monetary aggregates, with little appreciation of the difference between who holds any additional money (e.g. Main Street or Wall Street). Certainly those in charge of sorting out the crunch put the bulk of recovery money (bar the automatic stabilisers) into Wall Street rather than Main Street.

Tighter bank regulation probably IS deflationary. But what of it? If tighter regulation is needed to reduce the chances of another crunch, then so be it. The deflationary effect can always be countered by extra stimulus.

And given that interest rates are currently as low as they can go, the only remaining option is expanding government spending (as prescribed by MMT) or tax cuts (as prescribed by MMT). And if any readers think that the two latter necessarily increase the national debt, please read Milton Friedman.

And as to the idea that we let banks indulge in undesirable practices because the effect is reflationary, you can bet your bottom dollar that clamping down more effectively on bank note forgery has a deflationary effect. Which proves that we should allow bank note forgery?

In short, we should pass whatever laws are deemed necessary in relation to banks, loan sharks and forgers. Whether the effect is deflationary or reflationary does not matter under an MMT regime. Reason is that under MMT, government just net spends to the point where the optimum relationship between inflation and unemployment is attained. If tighter bank regulation IS deflationary, the Treasury and central bank will react automatically under MMT by increasing net government spending.

In other words Congdon does not get the point correctly made by Winterspeak*, namely that the deflationary effects of tighter bank regulation can perfectly well be nullified (and more than nullified) by stimulatory measures. The result would be less bank based economic activity and more non-bank based economic activity. In view of the disastrous effects of banks over the last few years, less bank based activity would on the face of it be highly desirable.

*See Winterspeak’s 17th Sept 2010 post “The Fatal Flaw is Economists.”

Second example of a non problem comes from an Economist article.

This article points to the fact that the corporate sector is hoarding cash, and makes the bizarre claim (in the sub heading) that “For the recovery to proceed smoothly, firms must stop hoarding cash.”

So does The Economist seriously claim that the corporate sector will respond to exhortations from The Economist? Unlikely.

A better solution to this vexed non-problem is to have government net spend till the optimum inflation unemployment relationship is attained. The corporate sector can save cash or dissave to it’s heart’s content – as long as government adopts the above net spending policy, what the corporate sector does won’t make much difference. It’s a problem that solves itself.

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