Even in China, there’s no magic money tree. Modern monetary theory is an illusion
- Can governments really just print money to fund public spending? Only if you want to end up like Venezuela or the Soviet Union
What if there really is a magic money tree? What if governments can spend as much money as they want, without raising taxes or borrowing? What if they can pay for free college education for all, free health care, decent social housing, shiny new infrastructure and a universal basic income – all without worrying about deficits or debt accumulation?
To most people this sounds downright crazy – the sort of fiscal recklessness dreamt up by an extreme fringe of economic illiterates.
Nevertheless, it is an idea that is rapidly gaining adherents. Dubbed modern monetary theory, or MMT, the notion that governments can indulge in endless deficit spending with no fear of the consequences has found favour with Bernie Sanders, former contender for the US Democratic presidential nomination, and socialist heroine Representative Alexandria Ocasio-Cortez, among others.
Far from being dangerously reckless, MMT, say the idea’s advocates, simply reflects a clear understanding of how money actually works in a fiat currency system.
Their notion of free money for all is a deeply seductive one. Unfortunately, there are some big flaws in MMT – institutional, economic, and political.
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The basic insight underpinning the theory is that a government which issues its own sovereign currency need never go bust, need never default. Because it owns the printing presses, it can always print money to pay its debts. More than that, if it wants to spend – to build a new high-speed rail system, say, or to run a free health care service – it can just print money to do so. It doesn’t need to raise revenues through tax or to borrow to pay for its spending. It simply prints money.
The first objection here is that MMT would do away with central bank independence, effectively folding the central bank into the finance ministry, but that is the least of its problems. Central bank independence was always something of an illusion anyway.
There is more force to the objection that such unconstrained money printing would lead to runaway inflation. Here, MMT enthusiasts point to recent history. In the US, the euro zone and Japan, central banks have all resorted to quantitative easing since the financial crisis, effectively printing money to buy government debt. Yet in all three economies, consumer inflation has remained remarkably subdued.
And in China, the government countered the economic slowdown caused by the 2008 US financial crisis by ordering the country’s state banks to lend to state-owned companies, effectively conjuring money out of thin air and using it to pay for state-backed investment projects. Yet Chinese inflation has for the most part remained modest.
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At first this rebuttal might sound reasonable. However, it is not strictly true to say that quantitative easing did not cause inflation. In the US, for example, when the Federal Reserve printed more than US$3 trillion, it did not use the money to buy stuff in the real economy. Instead it used it to buy financial assets. And the prices of financial assets duly soared, with bond yields collapsing and the stock market rising fourfold.
So, just as money-printing in the financial system led to financial inflation, it makes sense that unconstrained money printing to fund spending in the real economy would lead eventually to inflation in the real economy. After all, if an ever-increasing amount of money is chasing a limited amount of stuff – and any economy can only produce so much stuff – the price of that stuff is going to rise. And it will rise at an ever-increasing rate causing hyperinflation, much like that suffered by Venezuela.
The advocates of MMT are undismayed. If unrestricted money printing to pay for government spending programmes pushes up inflation, they will move to limit private demand in the economy by raising tax rates. In their scheme, the purpose of taxation is not to raise revenues to fund government spending, but to regulate the inflation caused by that spending.
This is where MMT really breaks down. The people who advocate it have the best intentions. They want to fund jobs for all, and a green transformation of the transport and energy sectors.
But the problem with their proposals are that they would place the government, not individual citizens and enterprises, at the centre of the economy.
Increased government spending would no longer be used as a tool to support private demand when the economic cycle turns down.
Instead private demand would be suppressed to support government spending.
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In short, in a world which followed MMT, public spending would no longer be one means by which the government seeks to achieve its policy aims. Rather, public spending itself would become the policy aim.
Private demand and private enterprise would inevitably get crowded out.
As a result, productivity growth would evaporate and wealth creation would stall, leaving the government as the only source of demand growth in a stagnating economically totalitarian state – or something resembling the later days of the Soviet Union.
It’s not much of a choice is it? Venezuela or the Soviet Union? But that’s what the proponents of MMT are offering. ■
Tom Holland is a former SCMP staffer who has been writing about Asian affairs for more than 25 years
