Monday, January 17, 2011

Randall Wray, the state’s money and price control by government.

While I basically support Modern Monetary Theory (MMT), I don’t agree with the idea put by some MMTers, namely that government’s control of money enables governments to control prices.

One advocate of this idea is Randall Wray (Prof. of Economics at the University of Missouri-Kansas City). See here.

The argument put by advocates of this price control idea is along the following lines.1. In a country where government issues its own currency, the private sector must acquire this money, the state’s money, in order to pay taxes. 2.The private sector can only do this by supplying the state with goods and services. 3. The fact that the state is a monopoly issuer of currency means the state can determine the price of goods or services supplied to the state. 4. This can be of assistance in controlling inflation.

There is of course an obvious and flippant answer to the above argument, namely “try telling that to any bureaucrat responsible for procurement”. They’ll fall off their chairs laughing. But the real flaw in this price control argument is thus.

This price control idea is certainly valid in a non-democratic or dictatorial regime. Indeed, advocates of the idea often illustrate their arguments by reference dictatorial regimes or slave economies.* Unfortunately the implication that this idea translates directly to democracies just doesn’t stand inspection.

Obviously a dictator can determine what constitutes money in their economy, plus the dictator can determine the price at which goods and services are supplied to the dictator.

Incidentally, this power to control prices is INDEPENDENT of the fact that the dictator decides to issue a currency. That is, in a small country dictatorship which used say the US dollar, the dictator would still be able to control prices (e.g. by threatening to shoot anyone buying or selling goods at other than stipulated prices). But this is not the scenario we are concerned with here.

The price control argument, to reiterate, is that the private sector MUST supply government with goods and services in order to acquire the state’s money, which (in turn) the private sector needs to pay taxes. But in the real world, as distinct from the “price control” theoretical world, employers have a range of customers other than government to choose from. If government does not offer the market price for goods and serves, the relevant firms just won’t supply government with said goods and services. What happens then?

What happens is that the private sector runs short of state’s money. The effect of that is deflationary. Unemployment rises, and government just has to do something about it: it increases the private sector’s supply of state’s money!

There are different ways government can do this. A currently popular one is quantitative easing. Second, there is the standard MMT solution to unemployment, namely have government increase its net spending. A third possibility is to cut interest rates – and this is effected by government buying its own bonds: which increases the private sector’s stock of state’s money! The whole price control argument collapses!

Moreover, it is arguable that the latter flaw in the price control idea applies even in dictatorships. That is, it is not even in the interests of a dictatorship or semi-dictatorship to have high unemployment levels. The latter involves a lower GDP than would otherwise obtain. Why would any dictator want a lower than achievable GDP?

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