This blog post is a summary of an interview where Professor Michael Mainelli, the Executive Chairman of the Z/Yen Group interviewed Warren Mosler about Modern Monetary Theory.
The full 49-minute video is below, but for a short summary of the main points of Modern Monetary Theory, you can read this blog post.
The title of his talk, as you can see in the YouTube thumbnail is Something old, something new, something borrowed, something true.
Table of Contents
Interview Summary: An introduction to Modern Monetary Theory
Warren Mosler started coming up with his ideas in the mid-1970s.
He was working at Bankers Trust, on the money desk trading derivatives.
He developed his ideas without being aware of others who were having similar ideas.
In 1996 he introduced his ideas to the academic community.
They did research and come up with information that falls under the category of something old.
Something old
Coins of ancient Pomepii
He starts with a story of ancient Pompeii where there were government-issued coins used to pay government workers, as well as being used by the people of Pompeii to pay whatever taxes that the government imposed.
A common misconception people have is that the government collected taxes first, and then used the money collected to pay government workers.
However, people do correctly understand that the government created and issued the coins.
Most people don’t stop to think about HOW the people who used the coins to pay their taxes got them in order to enable them to pay their taxes.
If the government must first collect taxes (coins) from the people in order to pay the government workers, where do the people who pay the taxes get the coins from in the first place?
The answer is that government spending occurs BEFORE the government collects taxes.
In order for there to be coins available for people to pay their taxes, it HAS to be this way.
Growing coffee in Africa
A few hundred years ago, English coffee merchants wanted native Africans to work on their coffee plantations.
However, the native Africans had no complaints about their hunter-gatherer lifestyle and saw no reason to work in the plantations.
The English solved this problem by imposing a “hut tax” on the natives.
They then created a currency which that natives were to use the pay their hut tax.
If the natives did not pay their hut tax, the English would burn their huts.
As the English army was there, this was no idle threat.
Now, the natives feel the need for some of that money.
And, the only way to get some was to work for pay at the coffee plantation.
In this way, the English persuaded the natives to work in the coffee plantation.
The sequence of creating a monied society
#1: A government wants to provision itself with labor.
#2: That government creates a tax liability of some sort.
#3: This creates the idea of “paid work” in the currency needed to cover the tax bill.
#4: People not doing paid work are now defined as “unemployed”.
#5: The government now hires people to do the work they want people to do.
#6: People get hired, do the work, and get paid.
#7: Then, and only then, can they pay their tax bill.
This sequence is the MMT money story and is unique today in various schools of economic thought.
The tax liability creates unemployment
By definition.
When employment is what people do to obtain the currency units needed to cover their government-imposed financial obligations (taxes or any other form of government-mandated fee), then by definition people who do not work for pay are unemployed.
Deficit spending creates the money supply which is the public debt
Deficit spending is when the government spends more into the community/economy than they collect back in taxes.
In order for people in the community/economy to have money, the government HAD to spend more than they took back.
This was true in ancient Pompeii, in the coffee plantation story above, and is true today.
The money supply is the aggregate of all government deficits run since the currency was created.
And THIS creates an economy with markets
Let’s say for example that some people, for whatever reason, don’t want to work for the government.
They do still need money to pay their tax bill.
How do they get money?
By providing goods and services to people who have it. To people who DO work for the government.
The government workers need food, clothing, shelter, etc.
And they’re busy working for the government, so they have less time to get this stuff themselves.
So they buy it from other people, who are willing to sell stuff (and services) to others in exchange for money.
Where the government sets the price levels by what they pay their workers
Using ancient Pompeii as an example, if the government pays their police officers one coin a day, that sets the price of labor at one coin a day (roughly).
If someone wants to make and sell pizzas instead of working for the government, and they can make 10 pizzas a day, that sets the generally accepted price for pizzas at ten pizzas for one coin.
This is true for people who make clothing, build houses, grow and sell vegetables, etc.
So the price level within the economy is necessarily a function of prices paid by the government based on what they’re buying and that pricing “signal” informs the market of the relative value of pretty much everything.
This used to be common knowledge
The people in ancient Pompeii knew this. The English who colonized Africa knew this. But somehow this knowledge of where money comes from and how pricing levels are a function of what the currency-issuing government pays, and how this creates markets got lost by people looking at and trying to explain larger more complex economics.
Something new
MMT money story
The MMT money story is new to us today, but would not have been new 2,000 years ago in Pompeii, or 250 years ago when European nations were colonizing Africa.
Cause of unemployment
The reality that coercive taxation is the cause of unemployment is also new to us today, even though the behavior of the colonial governments in Africa 250 years ago shows they understood this idea clearly.
Monolopy price setting
Other schools of economic thought do not recognize that price levels are a function of what the currency-issuing governments pay.
There is however growing acceptance that the moneterist idea that prices are a function of the money supply is not supported by evidence, but mainstream economics still lacks a theory of price levels that is supported by evidence.
Interest rate policy
Per the MMT money story, the central banks of the world see interest rate policy backwards.
Paying interest on deposits creates an income opportunity for people who have enough money to make such deposits.
The government’s need to pay this interest increases the need for the currency issuer to create money to give to these people.
This injects more money into the economy which increases aggregate demand for stuff, which, if not met by an increase in the supply of the stuff, can be inflationary.
Something borrowed
Underconsumption theory
This is not new. It was first printed up near the end of the 16th century. It’s “just” an accounting identity, but a really important one with important implications for how economies work.
Because every dollar received in income by someone had to necessarily have been spent by someone else, an economy’s Gross Domestic Product (total aggregate sales) MUST be equal to that economy’s Gross Domestic Income (total aggregate income).
Again, this is because every dollar spent by someone was income to someone else.
So, in order for anyone to have savings (have spent less than they earned) someone else had to run a deficit (have spent more than they earned).
Since GDP must equal GDI, this can not be any other way.
So, for an economy to even so much as have money in it for people to spend, the currency issuer MUST run deficits.
If they don’t, if there isn’t enough money in an economy to allow people to buy enough of the stuff other people produce, economies go into recession.
Trade policy and real wealth
The real wealth of an economy is the aggregate “pile of stuff” that the economy has. Everything that is produced domestically, plus everything that is imported, minus everything that is exported.
A nation whose pile of stuff is larger in real terms is wealthier.
So, to maximize the real wealth of a nation, you want to optimize for full domestic employment, as well as get as many imports as possible for the nation’s exports.
The job guarantee
This idea has been around for a long time. What MMT did is answer the question of how it gets paid for, and updated the understanding of how it works.
Government taxation creates unemployment. Not necessarily deliberately, but as a result of creating taxation as part of the means of it provisioning itself from the economy.
That there are unemployed people means there are people looking for paid work who aren’t finding any.
This means the currency issuer spending has not been enough to create sufficient aggregate demand for the private sector to employ everyone.
This is caused by government policy, by design, although most likely unintentionally.
There are three ways unemployment can be reduced:
- The currency issuing government lowers taxes so the private sector has more money money and this increases aggregate demand.
- The currency issuing government spends more into the economy and THIS increases aggregate demand.
- The currenty issuering government directly pays for work that the private sector doesn’t. This is the job guarantee.
The implementation of a job guarantee does not mean the people must be direct employees of the federal government.
It means the federal government provides the money.
The jobs and the work can (and I think should) be coordinated at the level of very local governments, cities, towns, counties, etc.
We’ve learned that the private sector prefers to employ people who are already employed and are not currently unemployed.
Amongst other advantages, a job guarantee would reduce the number of people who are unemployed so when the private sector is ready to rehire them, they’re not idle.
Something true
Currency issuer checks don’t bounce
By definition. When you are THE source of a currency, you can never run out of that currency.
Unemployment is a policy choice
As you can clearly see from what has been written above, unemployment is a policy choice.
The Question and Answer session
This was good. It starts at
The core of MMT?
Q: It seems the core of the argument is that money is tax credits that we trade with one another. Is that correct?
A: Yes.
Fixed exchange rates vs floating exchange rates?
Q: Are floating exchange rates where we have to go with MMT?
A: Both fixed exchange rates and floating exchange rates have their place.
But, if the policy goal is full employment, you need floating exchange rates. You can’t achieve full employment with fixed exchange rates.
The “object of conversion” is what gets fully employed.
So if you’re on a gold standard, gold is fully employed, because there is always a bid for gold.
If you’re going to pursue a policy of full employment, you’ve got to let that go, which is how you optimize real wealth, with full employment plus optimizing real terms of trade.
So if full employment is your political goal, you don’t want a fixed exchange rate.
Higher interest rates are inflationary
Q: You’ve often introduced the idea that higher interest rates actually are intentionally inflationary. Would you explain that again?
A: I’ll start with the interest income channel.
The government is a net payer of interest to the economy.
In the economy, for every dollar borrowed there is a lender.
When you change rates, you’re shifting back and forth between borrowers and lenders.
Presumably, there is some difference in the propensity to spend interest income, which causes rate increases to cause things to happen.
The currency-issuing government is a net spender of interest and when the government cuts interest rates they subsequently inject less money into the economy which places a drag on the economy which exerts deflationary pressure.
Taxation and inflation
Q: Is it correct to say that taxation prevents inflation?
A: Taxation creates unemployment and lowers aggregate demand.
So, if what you’re calling inflation comes from aggregate excess demand, then yes, raising taxes will cool down demand.
But, in 52 years of watching this (Warren Mosler is now 72 years old), I’ve never seen inflation be caused by aggregate demand, including this latest one.
I’ve seen OPEC raise oil prices for $3 to $40 in 10 years and we had huge cost-push inflation, but then when the price of oil broke inflation broke.
So that’s not inflation, that’s a shift in relative value caused by a foreign monopolist.
Our latest inflation is supply issues.
We’re not here from overspending.
Prices are rising 5% or whatever they are, for other reasons, from supply reasons.
So yes, taxes can lower spending, but that’s not causing inflation.
Right now oil prices are going back up again. The Saudi OSPs are back in price hike mode.
In 2008 that was a catalyst that knocked everything down. There were other weaknesses, but that was the straw the broke the camel’s back.
We were at $155 oil or something., and this seems to be forgotten.
Inflation is not an economic problem, it’s a distribution problem.
With inflation, somebody wins and somebody loses, but it doesn’t cause real output to fall.
Taxes and unemployment
Q: Can we really say that taxes cause unemployment? Surely there is always work to do for each other, to support our lifestyles, and funding public work is just another reason for doing useful work and getting money.
And sometimes government struggles to keep their workers because the private sector pays more. What/’s going on there?
A: Yes, taxes cause unemployment.
If you don’t have a monetary society, there is nobody sitting around waiting for someone to pay them to work.
Everybody is doing something and there is always more work to be done than there are people to do it.
So unemployment as we define it is people looking for paid work who can’t find it, and you have to have money or this is not an applicable concept.
It’s a little bit of a definitional thing, but what taxation does is it causes people to need the funds, the money, that the government specifies in the tax liability.
The currency, the tax credit, is defined in the tax liability.
It causes a need for the tax credits, for the further purpose of provisioning government.
How else is the government going to get people to serve in the army? How are you going to have a legal system? How are you going to have public education?
You can ask for volunteers, but it’s not a strong solution.
Today’s government needs a coercive method of getting people into the public sector, and taxation creates a dire need for the currency, the tax credits.
And now they can spend their otherwise worthless tax credits to provision themselves and get people into public service.
