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Modern Monetary Theory: unlimited money a thing of the future?

, February 10, 2020, 0 Comments

States with a currency of their own can never run out of money. That’s a core thesis of the Modern Monetary Theory which spilled over to Europe from the US. German economist Dirk Ehnts elaborates on what it’s all about.

modern-monetary-theory-marketexpress-inPolicymakers in many nations across the globe including the US and Britain have signaled their intention to move (further) away from rigid fiscal discipline and let the state spend more to increase employment and support the economy at large.

The Democrats in the US for instance have shown their support for more public spending to make the New Green Deal happen. They thus follow the guidelines of the Modern Monetary Theory (MMT) that sees no wrong in increasing state spending. On the contrary, it notes that under current economic conditions it’s desirable and necessary.

It goes without saying that the prophets of a balanced budget, who can also and specifically be found in the German government, are having a problem with that theory. German economist Dirk Ehnts tells DW why the critics should think twice before rejecting MMT out of hand.

DW: You’re in the camp of those wholeheartedly supporting the Modern Monetary Theory. You’re offering a new approach for governments to deal with fiscal resources, but is there really a need for it?

Dirk Ehnts: Right now, we are going through a phase in the eurozone where unemployment is still high in some member states. Also, the next recession is sure to come at some stage. This is why we have to think hard about how to boost employment and use our resources in a meaningful way — resources that are currently lying idle. In this context, I predominantly think of work rather than natural resources.

So what then is the fundamentally new approach in MMT that would enable you to achieve exactly that?

The new approach is that we view state expenditures in all their forms as tax credits. This means that public debt is nothing more than the sum of tax credits held by private households and companies.

The state is not forced to reduce its debt to zero, and it doesn’t have to. That’s a fundamental difference to the situation of, say, a Swabian housewife. What I mean is that you should not project the logic of a Swabian housewife — who has to finance her spending through income — onto a state which as the very creator of money will always be able to spend more money, that is money which is brought into play by its central bank.

Right, but if the state in question can, at least potentially, create as much money as it wants digitally, will this not end up in a devastating debt spiral? At least that’s what the critics fear.

Well, I do understand the people who fear that the state might spend just too much money, also in terms of granting much higher wages to people already employed, and those higher wages could indeed lead to soaring inflation.

However, much higher inflation rates would not be popular among citizens and older people in particular, since they live on pensions that are fixed. They would vote against the current government on Election Day. Hence there’s little motivation politically to overstep the mark when it comes to state spending and letting the inflation rate explode.

The ECB and other central banks have already been swamping markets with money for years on end. So, if you will, they’ve already at least partly acted in line with MMT principles. The results of this QE (quantitative easing) policy may, however, not be what you want to achieve. So where’s the difference?

The ECB has been buying state bonds from the banks. The sellers in question receive deposits in their accounts at the ECB. The snag about it is that contrary to popular belief the banks cannot directly lend this money to households and companies as the latter don’t have any accounts at the ECB.

As we’ve been able to witness, the real problem has been low credit demand, and in a situation like this the state is called upon to create more demand through state-financed projects. When the state spends more money on such projects, it automatically creates more employment, for instance by more spending on ecologically sound projects envisaged by the Green New Deal or other initiatives.

That in turn means more income for the workers involved — money that people can use to buy goods. And if there’s more demand for goods, production will go up correspondingly.