February 6, 2019

From MMT misunderstandings to the true Theory of Money

Comment on Jo Michell on ‘Misunderstanding MMT’ #1, #2

Blog-Reference and Blog-Reference

Jo Michell summarizes what Robert Murphy says are his core points of MMT:
1. All money is created by the state or other banks acting under state license
2. Money only has value because the government promises to back it …
3. … because taxes must be paid in government-issued money
4. Therefore government spending comes before taxation
5. Government deficits are necessary and good because without them the means to make settlement would not exist in our economy
6. This liberates us to think entirely afresh about fiscal policy.

Jo Michell focuses his critique on point 5. and concludes: “The macroeconomic reason for running a deficit is straightforward and has nothing to do with money. The government should run a deficit when the desired saving of the private sector exceeds the sum of private investment expenditure and the surplus with the rest of the world. This is not an insight of MMT: it was stated by Kalecki and Keynes in the 1930s.”

Because already point 2. of Robert Murphy’s list can be shown to be false, there is no need to say anything about Jo Michell’s argument.

In order to see where MMT fails, one has to start with the most elementary version of what Keynes called the “monetary theory of production”.

As the analytical starting point, the elementary production-consumption economy is defined with this set of macroeconomic axioms: (A0) The economy consists of the household and the business sector which, in turn, consists initially of one giant fully integrated firm. (A1) Yw=WL wage income Yw is equal to wage rate W times working hours. L, (A2) O=RL output O is equal to productivity R times working hours L, (A3) C=PX consumption expenditure C is equal to price P times quantity bought/sold X.

Under the conditions of market-clearing X=O and budget-balancing C=Yw in each period, the price is given by P=W/R (1). The price P is determined by the wage rate W, which takes the role of the nominal numéraire, and the productivity R. This translates into W/P=R (2), i.e. the real wage is equal to the productivity.

Monetary profit/loss of the business sector is defined as Qm≡C−Yw and monetary saving/dissaving of the household sector is defined as Sm≡Yw−C. It always holds Qm+Sm=0, or Qm≡−Sm, in other words, the business sector’s nominal surplus = profit equals the household sector’s nominal deficit = dissaving. Vice versa, the business sector’s deficit = loss equals the household sector’s surplus = saving. Under the initial condition of budget-balancing C=Yw, total monetary profit is zero.

What is needed for a start is two things (i) a central bank which creates money on its balance sheet in the form of deposits, and (ii), a legal system which declares the central bank’s deposits as legal tender.

Deposit money is needed by the business sector to pay the workers who receive the wage income Yw per period. The need is only temporary because the business sector gets the money back if the workers fully spend their income, i.e. if C=Yw. Overdrafts are needed by the household sector for consumption expenditures if the households want to spend before they get their income.

For the case of a balanced budget C=Yw, the idealized transaction pattern of deposits/overdrafts of the household sector at the central bank over the course of one period is shown on Wikimedia.#3

The household sector’s deposits/overdrafts are zero at the beginning and end of the period. Money is continually created and destroyed during the period under consideration. There is NO such thing as a fixed quantity of money. The central bank plays an accommodative role and simply supports the autonomous market transactions between the household and the business sector.

From this follows the average stock of transaction money as M=κYw, with kκ determined by the transaction pattern. In other words, the average stock of money M is determined by the autonomous transactions of the household and business sector and created out of nothing by the central bank.

The transaction equation reads M=κWL in the case of budget balancing and market clearing. If employment L is doubled, the average stock of transaction money M doubles. In a well-designed fiat money economy, growth is not hampered by a lack of the transaction medium.

So, the crucial point is to make sure that the business sector gets transaction money from the central bank if it plans to increase employment. In the old days, firms issued bills of exchange which were discounted by the banking system and redeemed within a short time span. Something a bit more sophisticated is required to ensure that the business sector is in no way hampered by a lack of transaction money. That is a question of the institutional design of the central bank.

In sum, (i) money is a generalized IOU (ii) no taxes are needed to get the monetary economy going and growing, (iii) there is NO fixed quantity of money, (iv) money is created and destroyed by the transactions between the household and the business sector, (v) money is endogenous, (vi) the value of money is given by W/P=R, i.e. is equal to the productivity, (vii) if the rate of change of the wage rate W is equal to the rate of change of productivity R there is neither inflation nor deflation.

The unhindered creation of fiat money for the payment of the wage bill is the correct way of bringing money into the economy. MMT’s deficit-spending is the incorrect way. Why? Because of the macroeconomic Profit Law, it holds Public Deficit = Private Profit, in other words, bringing money at the demand side into the economy creates a free lunch for the Oligarchy.#4

When all misunderstandings are clarified, this is the ultimate reason why self-styled Progressives like Richard Murphy want Labour so badly to adopt MMT’s policy of deficit-spending/money-creation.#5, #6

Egmont Kakarot-Handtke

#1 Jo Michell Misunderstanding MMT
#2 Richard Murphy Why the left and Labour really do need to adopt the core ideas of modern monetary theory
#3 Wikimedia AXEC98 Idealized transaction pattern
#4 Keynes, Lerner, MMT, Trump and exploding profit
#5 Very busy these days: Wall Street’s agents
#6 Why the British Labour Party should NOT adopt MMT

Related 'MMTers are NOT Friends-of-the-People' and 'How Bill Mitchell stalks Jeremy Corbyn' and 'The economist as useful political idiot' and 'Mr. Corbyn and the perils of political economics' and 'Political economics: Who hijacks British Labour?' and 'MMT and the overall political corruption of economics' and 'Richard Murphy: the MMT fraudster dressed up as realist'.

REPLY to Kaivey on Feb 7

Richard Murphy, as a hardcore MMT foot soldier of the Oligarchy, is not at all enthusiastic about taxing the rich: “The time for pussy-footing with new taxes to extract a little more from the rich is yesterday’s news. There is no time for that. This is the time to create money for change.”#1

#1 MMT: Distribution is the drawback NOT Inflation

Feb 8