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010 Money Part 3: What Is Modern Monetary Theory MMT?
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In this latest episode of Sunday Letters, we're in conversation with PhD, writer at bondeconomics.com and former quantitative analyst at various economic consultancies in Canada. He's the author of several self-published books on economics, including Modern Monetary Theory & The Recovery, published in 2021. The guy on the cover image of this episode, by the way, is Hyman Minsky, the guy most leftist economists cite as the father of MMT. He said, "Stability leads to instability. The more stable things become, and the longer things are stable, the more unstable they will be when the crisis hits.” Brian touches on this idea in the conversation.
The discussion begins with a foundational question: "What is money?" Brian explains that money is a complex concept that serves primarily as a medium of exchange, a unit of account, and a store of value. In a monetised society, money simplifies transactions by eliminating the need for direct barter or reciprocal obligations. While money is commonly thought of in terms of physical cash or digital equivalents like bank deposits, Brian highlights that it also includes instruments that are not technically part of the money supply but function similarly, such as credit card transactions and business receivables.
He goes on to emphasise that while individuals use money for everyday transactions, businesses and financial institutions engage in more complex exchanges involving various forms of credit and debt. This perspective shifts the understanding of money from a simplistic medium of exchange to a more intricate system of debt settlement and liquidity management.
The Role of Banks and Reserves
The conversation delves into the workings of banks and the concept of fractional reserve banking. Dmitri raises a common scenario where a bank holds only a fraction of its deposits in reserve while lending out the rest. Romanchuk clarifies that while this textbook model suggests a fixed reserve requirement, the reality is more flexible. Banks manage liquidity and credit risk, ensuring they can meet reserve requirements while still providing loans and other services.
Brian points out that in practice, banks often operate with minimal reserves, relying on liquidity management to balance their books. He explains that banks borrow from each other and from the central bank to maintain the necessary reserves, highlighting the critical role of central banks in providing stability to the banking system. This liquidity management is essential to prevent bank insolvency and maintain confidence in the financial system.
Modern Monetary Theory (MMT)
The discussion then shifts to Modern Monetary Theory (MMT), which offers a different perspective on government spending and money creation. Brain explains that MMT posits that governments that issue their own currencies can never run out of money in the same way households or businesses can. Such governments can create money to finance deficits, focusing on managing inflation rather than balancing budgets.
He underscores that MMT challenges traditional views on fiscal policy, arguing that concerns about government debt are often misplaced. Instead, the focus should be on the productive capacity of the economy and the role of government spending in achieving full employment and economic stability. Brian also highlights that in times of economic downturn, government deficits can provide the necessary stimulus to support recovery and maintain demand.
Implications and Criticisms
The episode then explores potential criticisms of MMT, such as the risk of inflation and the political feasibility of its implementation. Brian acknowledges these concerns but argues that proper management of fiscal policy and economic resources can mitigate inflationary pressures. He also notes that the political challenge lies in shifting public and policymaker perceptions about the nature of money and government finance.
In conclusion, the episode provides a thorough examination of money's multifaceted role in the economy and introduces listeners to the principles of Modern Monetary Theory. Brian Romanchuk's insights offer a challenge to conventional economic thinking and a fresh perspective on how governments can leverage their monetary sovereignty to achieve economic goals. The discussion encourages a re-evaluation of traditional fiscal policies and highlights the importance of understanding the complexities of money and finance in modern economies.
So, How Does it Impact You And Me In Our Daily Lives?
Modern Monetary Theory (MMT) argues that governments can and should spend more freely to ensure full employment. For the average worker, this means that in times of economic downturn, the government can inject money into the economy to create jobs and stimulate demand, reducing the likelihood of unemployment.
Increased government spending can fund public projects and services, creating more job opportunities in various sectors, including infrastructure, education, and healthcare. For employees, particularly those in finance, construction, and industries reliant on credit, understanding that banks are managing risks and ensuring liquidity can translate to more stable job conditions.
One of the criticisms of MMT is the potential for inflation, which is when prices rise, decreasing purchasing power. For the average person, this could mean higher prices for groceries, housing, and other essentials. However, MMT proponents argue that careful management can control inflation, preventing runaway price increases. By ensuring that government spending is directed towards productive uses—like infrastructure or technology—MMT aims to stimulate the economy without causing significant inflation.
Increased government spending under MMT can improve public services, which means better healthcare, education, and social services for individuals. Proponents suggest this can reduce out-of-pocket expenses for these services, indirectly lowering the cost of living. During economic downturns, for example, government spending can support welfare programs, unemployment benefits, and other social safety nets, providing a financial cushion for those impacted by job losses or reduced income. In this sense, MMT is a socially oriented approach to the economy and an answer to the liberal free market ideas of the 1980s that, arguably, have brought about some of the greatest economic catastrophes in recent times.
Unlike personal debt, government debt in countries that issue their own currencies is managed differently, so thinking about government debt as we would household or corporate debt is inaccurate. Governments that issue their own currency can take their time; they don’t owe anyone but themselves. They are the issuer of the currency, after all. The fear of government debt should not overshadow the benefits of strategic spending. For individuals, this means understanding that government investment in the economy can lead to better long-term economic conditions, benefiting everyone.
Get in touch with Brian Romanchuck
Bond Economics Newsletter on SubstackBrian’s BooksBrian Romanchuck on X
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