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Posted by on Feb 18, 2019 in Budget, Economy, Finance | 0 comments

Don’t Attack MMT. Attack the System It Describes.

Imagine that I am a seafaring tyrant who has moored my galleon off a large island. Through my telescope, I see a healthy population creating wealth and improving their lives through work and trade.

I decide to extract all the value they are creating – perhaps because I’m greedy or perhaps because I am convinced I know better than they do what is good for them.

All I need to do is to somehow make them conduct all their transactions in a currency that only I can create. Then, I can appropriate their wealth and acquire anything they produce by simply creating money to buy from them whatever goods or services I want whenever I want them. Doing so would cause a bit of inflation on the island, but that I don’t care about that because as prices go up, I can always create more money whenever I want to buy something from the islanders in the future.

I call my currency “the dollar”.

Assuming I land on the island with a near monopoly of force, I can easily make the islanders take my dollars without intervening in every transaction they perform with each other.
How?

I simply require all of them to give me some of my own currency back on a regular basis to avoid some threatened punishment. I’ll call this requirement to pay on pain of incarceration “tax”.

Now everyone who is subject to this tax to get their hands on dollars to discharge their tax obligation.

In fact, my system is even better than that, as I only need the workers who acquire the most dollars (because they produce the most goods or do the most work) to pay this tax. That is enough to ensure that my dollars will be the demanded currency on the island, allowing me to extract whatever wealth I want by printing more of them to purchase whatever goods or services I want whenever I want them.

And the really neat thing about my “print and tax” system is that when I print currency to give to islanders in exchange for their products or services, they don’t feel like I’m stealing anything from them: they’re actually happy to get the money and give me things for it, because it enables them to get more things for themselves.

In short, by imposing my tax on some of the islanders, I guarantee a demand for the currency that only I can create – and so I can acquire any of the island’s resources without effort.

You can call me “king”, although I think I prefer to call myself “the government”.

At first glance, the fact that my brilliant scheme of fiat money creation causes inflation looks like a flaw, since if I over-do all the money printing, all the islanders may lose confidence in my dollars as a means of exchange and start doing some of their trading using some other kind of money that no one can create – like conch shells, or gold if they have any.

But I’ve thought of that!

You see, my clever tax system does more than just create demand for my currency: when the islanders pay their taxes, those dollars completely disappear from the economy. As king, I could keep them in a box, but there’s really no point because I’ll just print new ones whenever I need them, so I just burn them.

As long as the taxes are high enough to drain enough money from the islanders’ economy, the inflation caused by all the money I’m creating doesn’t get out of control and I, the king of the island, continue to control the island’s entire economic life and resources.

Pretty neat, heh?

And did you notice which came first – taxes or spending?

It’s the spending.

My spending – or, to be precise, my creation of money to purchase goods from the islanders, came before I got the money back in taxes. It couldn’t be any other way because the money had to be created and spent into the islanders’ economy before it could be taxed!

And here’s a very elegant fact. The total amount of money held by all the islanders is the total amount of currency that I, the king, have created, minus all the money they’ve given me back in taxes.

The islanders have a phrase for that: it’s the “king’s deficit” because it’s the amount the king has spent by buying things from the islanders in excess of the money he’s received back from them in taxes.

It’s a kind of deficit, but not the normal kind, because unlike the islanders (users of currency), I the king (issuer of currency), don’t have to earn the money I spend. Because I can create it at will, I can’t go bankrupt (as long as I don’t owe anyone anything in any other currency).

And this so-called king’s deficit is the exact same amount as the total financial wealth of the islanders. To the penny.

Island assets ($) = All currency ever created by the king ($) – All the taxes ever collected by the king ($)

Meanwhile, the islanders quaintly believe that the taxes they pay fund all the things I, the king, like to buy for the island – like the roads and the healthcare system I decided to build, as if I need money from them to be able to spend it.

Silly islanders! Not only do I not need their money. It was never their money. I created all of it in the past when I wanted to buy things from them – and I can create more in the future whenever I need it, whether I’m collecting taxes from them or not.

This is the world that Modern Monetary Theory (MMT) describes.

It is also a precise analogy to the monetary system of every single country that, like the USA, is a sovereign monopoly issuer of its own fiat currency – which is almost every country on earth.

In the analogy, I, the king, am the American government. Although the government’s money printing is done by the Federal Reserve, the system as whole functions exactly as described here because the Federal Reserve never refuses to create money to fund “deficit” government spending. This fact is unchanged by the reality that the Feds charge the government interest on the money it creates for it (and then hands nearly all of the profits from that interest back to the Treasury.)

The tax-paying islanders, like American citizens, constitute the private sector, or the productive economy, or the free market.

When the US government wants to buy, let’s say, a fighter jet, its spends the money into existence by crediting a bank account of Boeing, increasing its “public deficit” by the exact amount of the net increase in financial assets in the private sector.

That’s all MMT says.

It doesn’t tell you how policy should be conducted in such a world – even though, unsurprisingly, many of those who are interested in it are economic leftists, like Alexandria Ocasio-Cortez, who are excited to discover that, yes, in fact, the government can technically spend without constraint.

In other words, socialists (and others) use MMT as a description of our monetary system to make political and economic prescriptions, which do not follow from the theory but are allowed by it, and by our monetary system.

The absolutely critical point for those of us who love voluntary action, free exchange and free markets, is that just because our current system of money creation allows unconstrained economic action by government, doesn’t mean that the theory that describes that state of affairs is wrong – any more than the fact that the theory of gravity means that we can drop bricks on people’s heads makes the theory of gravity wrong.

Therefore, most of the recent apoplexy of many free-marketeers in response to AOC’s comments and invocation of MMT has been aimed at exactly the wrong thing – the theory – rather than the system that the theory describes (in which our government creates fiat currency without limit, subject only to the soft constraint of inflation).

Lovers of liberty and free markets should be thankful for MMT as a description of our monetary system precisely because it so clearly elucidates how it is a system of economic totalitarianism. Dramatic as that term sounds, it is justified because all of the money that anyone uses to conduct any voluntary economic exchange and entrepreneurs use to create new products and services, and all that is good in our material world, exists only because our government spends.

It is a mind-boggling fact.

It completely turns upside down common-sense notions of tax, government debt, and most fundamentally the relationship between government and taxpayers. etc.

It explains why government debt will never be fully paid off (meaning that the government’s total revenues over time equaled its total spending over time), because then the net financial assets held by the private sector would be precisely zero.

For all of these reasons, when wrested from the political intentions of leftists and statists, MMT is a powerful tool for demonstrating the government’s total economic control over every aspect of every single American life.

Therefore, MMT shouldn’t be rejected by those who love liberty and understand that prosperity and wealth creation depend on the voluntary transactions of free people; rather it should be embraced as one of the most efficient tools available for getting people to appreciate just how terrifyingly unconstrained the power of government is – and has been since we came off the gold standard in 1971.

So don’t attack MMT as a description of America’s economic system, but attack an economic system that can be described by MMT at all.