Doug Henwood is not the only simpleton who spends a lot of time weirdly bashing MMT

by Jehu

I am sure Doug Henwood has read this recently published paper by Larry Summers, On falling neutral real rates, fiscal policy, and the risk of secular stagnation. If not, he should at the earliest opportunity. The paper literally shreds his argument against modern monetary theory.

Summers paper should remind Henwood how dishonest his own examination of MMT was.

Which is fascinating,considering how little the two men are thought to have in common. Henwodd styles himself a socialist and “critiques” — if that is the word — MMT from the standpoint of the radical Left. Summers, by contrast, is the archetype neoliberal, a former economic adviser to Presidents Clinton and Obama.

Henwood essay on MMT is a sloppily written diatribe that never quite gets to any real point. While Summers employs complex mathematical models to demonstrate that what Washington calls a neutral real rate of interest may be significantly negative were Washington not running massive fiscal deficits. This means conventional fascist state economic policy as it has been implemented since the great stagflation of the 1970s is dead — and, it is likely capitalism may soon be joining it unless some variant of modern money theory is adopted — and quick.

Oddly enough, however, despite their differences, Summers, like Henwood, seems rather perturbed by MMT despite appearing to argue for it.

A little background on the collapse of conventional monetary policy

To understand Summers’ case for MMT, let’s begin this with a definition of the so-called neutral real rate of interest, an imaginary number that is the holy grail of conventional monetary policy.

According to Robert Kaplan of the Dallas Federal Reserve Bank,

“The neutral rate is the theoretical federal funds rate at which the stance of Federal Reserve monetary policy is neither accommodative nor restrictive. It is the short-term real interest rate consistent with the economy maintaining full employment with associated price stability.”

This purely imaginary interest rate target is one where, allegedly, the Federal Reserve can meet both its statutory mandates of maintaining full employment and an inflation target of two percent.

Summers and a significant body of researchers now seems to feel this imaginary number is negative. To prove their case they aggregate the data for all the advanced industrial economies. This data seems to show that neutral real interest rates have declined significantly over the past few decades owing to changes in savings and investment within both the private and public sectors.

According to Summers:

“Using estimates drawn from the literature, as well as two general equilibrium models emphasizing respectively lifecycle heterogeneity and idiosyncratic risks, we suggest that the ‘private sector neutral real rate’ may have declined by as much as 700 basis points since the 1970s.”

The data suggests that, absent aggressive federal deficits, the Federal Reserve Bank’s imaginary neutral real rate of interest target to maintain both full employment and two percent inflation is considerably below the so-called zero lower bound.

Capitalism on the brink of economic catastrophe

If Summers’ analysis is accurate, the advanced economies today are poised on the brink of a severe economic contraction. Summers argues that his analysis poses profound choices for fascist state economic policy in the years ahead. Basically, fascist state economic policymakers have only two indirect tools to manage capitalism: deficit spending and interest rates. After the unfortunate experience in the 1970s with incipient hyperinflation, Washington put deficit spending on a very short leash, leaving policymakers heavily reliant on interest rates. Now, Summers claims the interest rates policy tool has been gutted by the progress of capitalist development.

Washington, says Summers, can stick to levels of moderate deficits it has accepted in the past four decades and continue to squeeze social insurance programs, but this will mean the Federal Reserve Bank will be forced to hold interest rates near zero or even negative. Add to this the problem that typically the Fed needs to reduce its policy rate by 500 basis points when the economy hits a recession. Just try cutting interest rates by 500 basis points when they are already negative — it doesn’t work.

Summers’ analysis suggests monetary policy is no longer working effectively in “normal times” and certainly won’t work in a downturn.

Economic policy on the brink

The alternative to the post-1970s consensus policy, says Summers, is that Washington will have to run permanently high and increasing public deficits and debt levels, while holding interest rates close to zero and implementing extreme deregulation to increase private investment, if full employment is to be maintained and the Fed inflation target is to be hit.

This is basically the Trump program in a nutshell as one observer put it.

But Summers warns there are problems with each of these policy options. To name three of them: first, there is nothing to suggest that rising debt levels necessary to maintain full employment will be sustainable in the long run. The past three decades experience from Japan suggests it will not be. Second, historically low or negative interest rates pose a significant risk to the stability of the financial system. Finally, it is far from clear what can be done to deregulate business investment in the age of global climate change that will not also further accelerate damage to human health and the environment.

It may no longer be possible to think in terms of traditional fascist state economic policy tools. That phase of capitalism may be long passed. We may need what is, at a minimum, a new way of thinking about how to manage capitalist accumulation that has nothing at all to do with the tools first successfully implemented by Hitler’s Nazi regime in 1936, in the middle of the Great Depression, and identified by Keynes that same year in his famous book, The General Theory of Employment, Interest and Money.

This is where MMT comes in

People have pointed out the obvious link between the ideas being floated by Summers and those advanced by the MMT advocates. It is a link that Summers vociferously denied in a Washington Post op-ed not so subtly titled, The left’s embrace of modern monetary theory is a recipe for disaster, where he wrote:

“Modern monetary theory, sometimes shortened to MMT, is the supply-side economics of our time. A valid idea — that traditional fiscal-policy taboos need to be rethought in an era of low real interest rates — has been stretched by fringe economists into ludicrous claims that massive spending on job guarantees can be financed by central banks without any burden on the economy. At a moment of economic and political frustration, some in the more extreme wing of the out-of-power political party are seizing on the possibility of a free lunch to offer politically attractive ways out of economic difficulty.”

Summers suggests MMT advocates are promoting a policy that can, at its extreme, lead to hyperinflation and currency collapse. Typical of Summers, however, he cites what he says are historical examples of MMT-style policies that draw on countries that do not meet MMT’s own well-defined criteria for being monetary sovereigns. This method of argument suggests Summers is far from honest in his approach.

Tom Orlik, writing in Bloomberg, pointed out that Summers could have as easily argued in the opposite direction. Summers preferred to cite the most extreme MMT arguments in cases involving the weakest candidates, but he could have just as easily argued for a less extreme version of MMT involving the United States, the premier example of a monetary sovereign in the world market today.

What would this less extreme version of MMT look like?

According to Orlik, the less extreme version of MMT might argue that a rational deficit spending program should be constrained by inflation. But it would also point out that, as inflation rises, real wages would fall since they are no longer indexed to prices as they were in the 1970s. And this is because, no surprise, globalization and declining unionization since the 1970s have eroded workers’ bargaining position and their ability to defend their standard of living through negotiations and strike actions. Moreover, as bourgeois simpletons like Summers already know, capital is experiencing stagnation and borderline deflation; a situation that is very similar to what has been haunting Japan for the last three decades, not hyperinflation. Inflation is hardly the biggest problem facing the world economy right now, stagnation and deflation is.

From Summers perspective, all MMT says is that, within certain definite limits, the United States faces no fiscal policy constraints that would not, in theory, be faced by any state in a closed economy. This is true even when we consider that U.S. is operating within an open world market, because the U.S. is the single global monetary sovereign owing to its control of the world reserve currency. The dollar thus stands in relation to the world economy as a national currency stands in relation to a closed national economy and US fiscal and monetary policy stands in relation to the world market as the fiscal and monetary policy of any nation state stands in relation to its own closed national capital.

Does MMT argue Washington can avoid all debt as Summer suggests? No. But MMT does argue Washington can’t go bankrupt. Instead, Washington simply uses its capacity to borrow in order to manage the quantity of its currency in circulation. And its spending is not limited by the taxes it collects — which, as before, remains limited to its national territory. The US can borrow excess capital from anywhere in the world market.

Does MMT argue Washington can create currency to pay all of its liabilities as Summers suggests? Yes, it does. However MMT also argues that Washington, if it wants to avoid hyperinflation, must then decide whether any and how much of this newly created currency will need to be removed from circulation through tax policy or borrowing to avoid hyperinflation. It will have to manage its currency just as it did under the gold standard.

The open world market is a closed economy

Could MMT result in a currency crisis in a so-called open market economy as Summers suggest? Definitely, but not in the peculiar case of the United States and the US dollar. Bizarrely, for the United States, the world market, effectively, is a closed economy with a single currency — the U.S. dollar. Unlike most nation states and their currencies, the United States is a monetary sovereign within the world market as a whole and not just within the United States.

This is important to understand because the value represented by the dollar may indeed collapse, and this might even lead to rapidly rising inflation but capital cannot flee the world market because there is nowhere else to go. You can’t even hide in other currencies since no other currency has the liquidity of the U.S. dollar. Likely as not, rushing into the other currencies to avoid dollar devaluation would only push the national economies of those countries into a deflationary collapse.

Once you begin to pull back the layers on Summers dishonest argument it becomes clearer that his agenda lines up pretty closely with MMT. His protests to the contrary, much of what MMT offers seems a perfect fit for his secular stagnation thesis.

So what is the archetype neoliberal Summer’s game and why is the socialist Henwood so eager to join him in bashing MMT?

And what case can be made against MMT?