Wednesdays with Wenzel: MMT vs the actual economy

A peek at one of the big problems with MMT

Jan 19

This is a regular Wednesday column where we examine the work of the late, great Austrian School of Economics and Rothbardian trained Robert Wenzel. The content for this column comes from his books, his daily market alerts, and the content of his websites, Economic Policy Journal and Target Liberty.

Before commenting on economics, make sure you know what an economy actually is

By some measurements, Paul Samuelson is the most influential economist in world history, even exceeding Keynes. It was Samuelson who took the Keynesian Sacred Word and translated it into readable text for all to consume. If he’s not the most important economist, he’s at least the most gifted salesman of economic ideas.

Unfortunately, understanding what an economy actually is was never a requirement of writing economics textbooks. For anyone with a basic understanding of the role of capital investment in lengthening the structure of production and the need for prices to determine the most valuable course for capital, it was clear that the Soviet Union did not possess a functioning, vibrant economy. But Paul Samuelson couldn’t see that.

Soviet economist Yuri Maltsev’s recollection:

Paul Anthony Samuelson (May 15, 1915 – December 13, 2009), first American Nobel Prize laureate (1970) has died, at the age of 94.
I was lucky to meet him at the M.I.T on the glorious day of November 9, 1989, the day of the fall of the Berlin Wall, the day that symbolized the end of the world system of the communist slavery.
…
When I was learning economics in the USSR in the 1970s Samuelson was the only Western economist whose textbook was translated into Russian. I remember his famous graph depicting dynamics of per capita GNP in the Soviet Union and the United States according to which the USSR would surpass the US in the standard of living by 1990. He frankly admitted to me that that was mistake. “Who could know that it was all fake?”

MMT and the economy

I studied Modern Monetary Theory (MMT) about a decade ago when it was all the rage post-housing market collapse. It’s not a new theory. As early as the 1930’s I could find examples of economists extolling the virtues of running a large government deficit to create “more savings.” Every time I discussed the MMT with a proponent, it would go something like this:

MMT: A large government deficit results in more savings.

Me: Yes, but only from a counting perspective. The real underlying resources are unchanged by the accounting. All you’ve accomplished is to add zeroes.

MMT: But now there is more dollar savings.

Me: There are more dollars, not more resources. You’ve created inflation, nothing more.

MMT: You don’t understand the power of our theory! And besides, inflation isn’t a real problem. Voters don’t like it, but it can be good!

Me: But wealth isn’t the amount of dollars in your account. It’s what those dollars can buy. If you create money out of thin air, you haven’t increased wealth. And that inflation distorts the economy and creates the boom bust cycle.

The conversation would then usually devolve into two neophytes trying to prove or disprove that inflation distorts the economy.

Robert Wenzel was also wise to this problem with MMT and he speaks to it often in his book Problems with Modern Monetary Theory. Here in Chapter 4, he begins with a discussion of Stephanie Kelton’s plan to tax the rich and then astutely points out the problem MMT has understanding the difference between creating real wealth and creating dollars.

It is certainly obvious that [Kelton] doesn’t understand the role savings plays in financing capital investment. To her it is not about investing in capital that can produce goods and services but the investing in “financial assets” that somehow appear to her as separate from the direction of funds to the purchase of physical capital, labor and land that produces goods and services.
She writes: “Billionaires save their wealth in the form of financial assets, real estate, fine art and rare coins.”
With Kelton, there is this odd failure to connect the financing of capital that produces products. The closest she gets is her mention of “financial assets” but in context she is implying that it is merely some type of paper transaction game that doesn’t help the economy when capital investment is actually the lifeblood of a growing economy.
At another point, she promotes the idea that U.S. debt is savings: “While others refer to it as a debt clock, it’s really a US dollar savings clock.”
She is technically correct with this statement in the sense that a person who buys, say, US Treasury bills is, indeed, saving his money. But Kelton denies that such savings crowd out funds for the private sector where funds are desired to invest in real capital to produce goods and services.
She does this by assuming that most Federal debt is monetized by the Federal Reserve and, thus, she holds the incorrect view that this does not crowd out the private sector.
She writes: “The financial crowding-out story asked us to imagine that there is a fixed supply of saving from which anyone can attempt to borrow… It’s a straightforward supply and demand story, where the interest rate balances the demand for funding against the supply. In the absence of government deficits, all demand comes from private borrowers. There’s still competition for these loanable funds, but companies are just competing with other private-sector actors for a slice of the available supply. With no competition from Uncle Sam, all savings are used to finance private investments. But, if the government’s budget moves into deficit, Uncle Sam will claim some of that. As a consequence the supply of funds available to fund private investment is diminished, borrowing costs go up, and some companies are left without financing for their projects. MMT rejects the loanable funds story, which is rooted in the idea that borrowing is limited by access to scarce financial resources.”
From here she argues that the Federal Reserve can finance the government debt through printing additional dollars and thus, according to her, there is no crowding out.
But there is a great failure here in her thinking…
As we all know, there is a limited supply of resources on the planet. The entire amount of resources on the planet are bid for with money by economic actors across the land, either for consumer good or capital goods.
If the Federal Reserve does print up new dollars to fund U.S. government deficit spending, this spending does not magically create new goods. (Emphasis mine.) It bids goods away from private sector actors. That is, it would bid higher than current purchasers for goods and services since that is the only way that it would be able to obtain the supply of goods and services that would otherwise be successfully bid for by private sector actors.

Wenzel nails it here. Once you get past the accounting language, we see that the story of MMT is one of inflation created by bidding up prices. There’s nothing special here, just another lame justification for a State controlled economy.