Modern Monetary Theory (MMT): How Fiat Money Works

[David_N]

For rapid inflation, or hyperinflation, to occur we would have to see some massive underline economic fault probably causing a real depression.

But to trigger it would probably be a matter of fiscal policy and economic policy where there is quick caused massive imbalance between the money supply and GDP direction on a trend line. The model of inflation caused by financing deficits with created money absent necessary taxation and bond investment. Say, when government spending (G) is sharply upward with no end in sight but entirely with printed money... but consumer spending (C) and investment (I) and perhaps even Net Imports (Ex - Im) as well is all headed sharply downward. Confidence in the reasons and the methods for (G) going up so sharply become the issue.

Usually we are talking about things like the after effects of a nation losing a long term war or some massive social unrest causing economic turmoil, something that is outside of the normal economic cycle where the nation's overall growth trend line heads downward and continues on that path for a noticeable time frame. Something that renders monetary policy and economic policy as completely ineffective, as once confidence is lost bad results are soon to follow.

MMT is not suggesting anything contradictory to that really, it is just take on the function of modern Fiat Money systems and policy suggestions because of those theories.

But inflation in a normal economic context including MMT (that 1.5% to 2.5% range or a steady rate of inflation) shows economic activity and growth that is responding to well to ongoing economic and monetary policy from our mixed economic model. This is mainly observed by low inflation tends to actually encourage the purchase of goods and services on a sustained path, ideally relative to a steady rate of overall payroll increases across the income quintiles. This is also observed by low but steady inflation tends to make borrowing money for both consumer debt markets (homes and cars) and business risk markets (entrepreneurship and business expansion) more appealing. Steady low inflation can support reasonable rates on borrowing. The benefits of a controlled low inflation rate are numerous for a growing economy.

Our problem, for the purpose of MMT, is the understatement of the risk of monetary policy decisions. MMT suggests inflation is mostly tied to resources conditions, and not as much about monetary policy. We know, since even our Fiat Money system has investment, that is not quite accurate. MMT does stipulate that confidence does matter on acceptance of monetary policy, but I contend so does *investment confidence* in a nation's monetary and economic policy.

Sounds like you have a couple of minor issues with MMT, but accept the majority of what MMT puts forward.

 

[Absentglare]

Sounds like you have a couple of minor issues with MMT, but accept the majority of what MMT puts forward.

^ i suspect that pretty much summarizes what most economists who ultimately disagree with MMT believe.

 

[OrphanSlug]

Sounds like you have a couple of minor issues with MMT, but accept the majority of what MMT puts forward.

I've said before that I tend to lean left when it comes to economics. But do not put words in my mouth that I accept the majority of what MMT puts forward as if they own a set of principles that are entirely exclusive to and originating from MMT. That is not the case.

 

[Lafayette]

^ i suspect that pretty much summarizes what most economists who ultimately disagree with MMT believe.

The subject makes for visceral debate, but that's about all ...

 

[csbrown28]

I've said before that I tend to lean left when it comes to economics. But do not put words in my mouth that I accept the majority of what MMT puts forward as if they own a set of principles that are entirely exclusive to and originating from MMT. That is not the case.

If I read this thread correctly, would it be fair to say that you believe that MMT cannot accurately account for abhorrent behavior? In other words, even if the underlying economic structure is sound, if enough people fear a set of actions (let's say running large deficits year over year) that the belief can be self fulfilling if held by a large enough portion of the population, again, even if the underlying theory is sound?

 

[austrianecon]

If I read this thread correctly, would it be fair to say that you believe that MMT cannot accurately account for abhorrent behavior? In other words, even if the underlying economic structure is sound, if enough people fear a set of actions (let's say running large deficits year over year) that the belief can be self fulfilling if held by a large enough portion of the population, again, even if the underlying theory is sound?

Hey csbrown28, long time.. :2wave:

While not addressed to me.. this is one of the many flaws of MMT as for it to work it has to assume rational actions of humans. We all know humans act irrationally. Even in current mainstream economics projections are either revised up or down because they can not account for human action or motive in economic theory.

 

[JohnfrmClevelan]

Hey csbrown28, long time.. :2wave:

While not addressed to me.. this is one of the many flaws of MMT as for it to work it has to assume rational actions of humans. We all know humans act irrationally. Even in current mainstream economics projections are either revised up or down because they can not account for human action or motive in economic theory.

So why do you think that MMT cannot work, when mainstream economics have the same "rational action" problem? What makes mainstream economics immune to this problem?

 

[austrianecon]

So why do you think that MMT cannot work, when mainstream economics have the same "rational action" problem? What makes mainstream economics immune to this problem?

And do I follow mainstream economics? No, I don't.

 

[JohnfrmClevelan]

And do I follow mainstream economics? No, I don't.

But that was the comparison. So, why?

 

[austrianecon]

But that was the comparison. So, why?

Because aren't we both arguing against current mainstream economics. You being far left of it and myself being right of it? We both can see some validity in the thinking of mainstream economics at certain periods. You know I do because I've said I am okay with a 20 year program to rebuild US infrastructure (because bond rates are so low). But our measuring stick is current economic belief at the Fed and Congress.

 

[JohnfrmClevelan]

Because aren't we both arguing against current mainstream economics. You being far left of it and myself being right of it? We both can see some validity in the thinking of mainstream economics at certain periods. You know I do because I've said I am okay with a 20 year program to rebuild US infrastructure (because bond rates are so low). But our measuring stick is current economic belief at the Fed and Congress.

Really, I just want to know why you think MMT won't work because you think it depends on "rational action."

 

[austrianecon]

Really, I just want to know why you think MMT won't work because you think it depends on "rational action."

"rational action" being that people will not hold on to currency (save) because of inflation. We inherently know this is not true. So MMT proposes (well Mosler) making up for this savings (demand leakage) by pumping money into the economy to make up for it. Problem is saving does not = demand leakage over a 10 year period. It only shows up in short term periods (months to a year). So while you are worrying about demand leakage over a 1 yr period.. the person who is saving is saving for a very good reason in their eyes.

I'll use two personal example..

1) Two years ago, my brother said he'd visit my family wherever we were in the world for Christmas as I've done myself while he was in the military (spent 3 straight Christmases before I was married in South Korea). He told me he wanted to save for it and not to bother paying for flights or spending money (gifts and so forth) and so he did. He saved $10,000 for flights, buy gifts for rest of family and spending money (despite the fact I would have covered all of it). I did end up bumping up his economy class to first class using airline miles as a gift (loyal Lufthansa flyer).

2) When I was in my teens and working (delivery newspapers, $200 a month) and doing side jobs during winter (shoveling snow for neighbors at $20 a pop) to save for college.. over a 4 year period, I had close to $15,000. $15,000 to pay for College costs (books, rent, food so forth) as to limit by debt liability.

With MMT because my brother saved on average $5,000 a year and I was saving $3,750 per year that "demand leakage" meant under MMT that you "had" to make up for it in those years despite the fact every cent of those dollars saved were spent at later date. This leads to the problem MMT has. Because you assume people aren't saving for a purpose and that "demand leakage" is normal you end up pumping too many dollars in the market (economy). This leads to you having to raise taxes to cover inflation. But fail to realize inflation in itself is a form of taxation (though you disagree, money supply can cause inflation).

 

[JohnfrmClevelan]

"rational action" being that people will not hold on to currency (save) because of inflation. We inherently know this is not true. So MMT proposes (well Mosler) making up for this savings (demand leakage) by pumping money into the economy to make up for it. Problem is saving does not = demand leakage over a 10 year period. It only shows up in short term periods (months to a year). So while you are worrying about demand leakage over a 1 yr period.. the person who is saving is saving for a very good reason in their eyes.

I'll use two personal example..

1) Two years ago, my brother said he'd visit my family wherever we were in the world for Christmas as I've done myself while he was in the military (spent 3 straight Christmases before I was married in South Korea). He told me he wanted to save for it and not to bother paying for flights or spending money (gifts and so forth) and so he did. He saved $10,000 for flights, buy gifts for rest of family and spending money (despite the fact I would have covered all of it). I did end up bumping up his economy class to first class using airline miles as a gift (loyal Lufthansa flyer).

2) When I was in my teens and working (delivery newspapers, $200 a month) and doing side jobs during winter (shoveling snow for neighbors at $20 a pop) to save for college.. over a 4 year period, I had close to $15,000. $15,000 to pay for College costs (books, rent, food so forth) as to limit by debt liability.

With MMT because my brother saved on average $5,000 a year and I was saving $3,750 per year that "demand leakage" meant under MMT that you "had" to make up for it in those years despite the fact every cent of those dollars saved were spent at later date. This leads to the problem MMT has. Because you assume people aren't saving for a purpose and that "demand leakage" is normal you end up pumping too many dollars in the market (economy). This leads to you having to raise taxes to cover inflation. But fail to realize inflation in itself is a form of taxation (though you disagree, money supply can cause inflation).

We only care about net saving. While you and your brother were saving for this and that, other people were spending their savings. It doesn't matter if it was for a purpose or not. Businesses don't care what your purpose is.

 

[austrianecon]

We only care about net saving. While you and your brother were saving for this and that, other people were spending their savings. It doesn't matter if it was for a purpose or not. Businesses don't care what your purpose is.

And that's a flaw.. I was only giving a routine example that happens every year among the millions of other reasons. "Net Savings" goes up and down all the time and that's what MMT fails to recognize.

"Demand Leakage" can't be accurately accounted for in a yoy time period so MMT will fail in keeping up it or cutting for lack of it. And what do MMTers believe is the best way to soak up excess dollars? Taxation. That means you need a tax policy which is modeled of adjustable interest rates. Which goes back to what I said.. and you didn't address, Because you assume people aren't saving for a purpose and that "demand leakage" is normal you end up pumping too many dollars in the market (economy). This leads to you having to raise taxes to cover inflation. But fail to realize inflation in itself is a form of taxation (though you disagree, money supply can cause inflation).

 

[JohnfrmClevelan]

And that's a flaw.. I was only giving a routine example that happens every year among the millions of other reasons. "Net Savings" goes up and down all the time and that's what MMT fails to recognize.

"Demand Leakage" can't be accurately accounted for in a yoy time period so MMT will fail in keeping up it or cutting for lack of it. And what do MMTers believe is the best way to soak up excess dollars? Taxation. That means you need a tax policy which is modeled of adjustable interest rates. Which goes back to what I said.. and you didn't address, Because you assume people aren't saving for a purpose and that "demand leakage" is normal you end up pumping too many dollars in the market (economy). This leads to you having to raise taxes to cover inflation. But fail to realize inflation in itself is a form of taxation (though you disagree, money supply can cause inflation).

You know, you don't have to replace demand leakage to the dollar. And a bit of extra demand (over and above demand leakage) isn't going to cause inflation as long as the economy can meet the increased demand. And you don't need to adjust for inflation until you get inflation, which is nowhere on the horizon. There is plenty of wiggle room in there. There seems to be this strange belief that the least bit of government addition to demand is going to result in inflation, and I just don't see the reasoning there. And any increase in the money supply would just be a by-product of greater employment (via govt. spending) and greater demand, so it's not a "more dollars chasing the same amount of goods" situation anyway.

 

[Absentglare]

And that's a flaw.. I was only giving a routine example that happens every year among the millions of other reasons. "Net Savings" goes up and down all the time and that's what MMT fails to recognize.

"Demand Leakage" can't be accurately accounted for in a yoy time period so MMT will fail in keeping up it or cutting for lack of it. And what do MMTers believe is the best way to soak up excess dollars? Taxation. That means you need a tax policy which is modeled of adjustable interest rates. Which goes back to what I said.. and you didn't address, Because you assume people aren't saving for a purpose and that "demand leakage" is normal you end up pumping too many dollars in the market (economy). This leads to you having to raise taxes to cover inflation. But fail to realize inflation in itself is a form of taxation (though you disagree, money supply can cause inflation).

And yet you seem to have the claim that we should cut spending and embrace DEFLATION.

I think you will find no reputable economist who suggests we should embrace deflation, which we've flirted with because deficit spending is too low.

 

[csbrown28]

Hey csbrown28, long time.. :2wave:

While not addressed to me.. this is one of the many flaws of MMT as for it to work it has to assume rational actions of humans. We all know humans act irrationally. Even in current mainstream economics projections are either revised up or down because they can not account for human action or motive in economic theory.

Hey bro!...Hows things! :2wave:

I don't believe that irrational behavior is a limitation of MMT at all. After all irrationality is virtually unpredictable, by any economic theory. I mean, a theory that embraces irrationality would seem to me, by definition to to be irrational. I mean the only thing that we can predict given a large enough sample size is that some people will act irrationally.

I remember once an experiment that said, if you put 100 people in a room and one person started shooting, on average with startling regularity, 95 people would run from the gunfire and 5 would move towards it, but until you fire the gun all you know is the percentages, it doesn't help tell you who is going to act which way. Predictable uncertainty....

Back to economics....Take for instance the loss of confidence in the dollar. If people understood it better, then they would not fear a default and they might not lose confidence in the dollar. If you'll grant that statement is true (at least for the sake of the point I'm making or till the end of this paragraph, whatever comes first), then the dollar could decline or fail for political or resoans of perception, not economic ones. Is that really a failing of MMT, or is it a failure to understand economics and the ensuing irrational behavior brought on by a lack of understanding that has lead it the failure?

It's kind of ironic....The failure seems to be our failure as a nation to fully transition from gold backed money to a fiat currency.

 

[James972]

And yet you seem to have the claim that we should cut spending and embrace DEFLATION.

I think you will find no reputable economist who suggests we should embrace deflation, which we've flirted with because deficit spending is too low.

yes deflation is bad because, like inflation, 1) it distorts price signals and 2) it gives you an excellent reason not to buy anything and cause a depression.

 

[austrianecon]

Hey bro!...Hows things! :2wave:

I don't believe that irrational behavior is a limitation of MMT at all. After all irrationality is virtually unpredictable, by any economic theory. I mean, a theory that embraces irrationality would seem to me, by definition to to be irrational. I mean the only thing that we can predict given a large enough sample size is that some people will act irrationally.

Yes, irrationality is unpredictable by all economic theory but it's irrational to try and to model an economy knowing that there irrationality. Embracing irrationality is actually the best thing to do in the world of economics. It's why Game Theory and Chaos Theory is making strides in certain economic schools.

Keynesian theory (and MMT in this topic) rely on assumption based models. For example.. The stimulus (whatever you think of it) was designed on assumption based model.

I remember once an experiment that said, if you put 100 people in a room and one person started shooting, on average with startling regularity, 95 people would run from the gunfire and 5 would move towards it, but until you fire the gun all you know is the percentages, it doesn't help tell you who is going to act which way. Predictable uncertainty....

Well, not to be a stickler.. but if you put 100 people in a room.. and 1 starts shooting. You'd have 99 which would have to make that choice. :2razz:

But this is the problem with the question on face value (of course) is that it's not that its predictable uncertainty (this is linear thinking) and based on a zero sum outcome (it's past knowledge) so you can say this and have some predictability. But rather in reality it's predictable probability. That probability changes as time goes on. So having a model that can do predictable uncertainty but can't do predictable probability you end up with hits and misses as you are modelling on past knowledge (data points). This is why you can have huge misses or huge gains that aren't predicted in the economy. You know when numbers are reported and people are "surprised" by the numbers. That's model failure.

I know it's a strange concept to accept models are flawed as we have for almost 90 years ran economies on models. But models can be "right" (on what we assume will happen) and be "wrong" (probability) at the same time.

George E. P. Box wrote: "Remember that all models are wrong; the practical question is how wrong do they have to be to not be useful." George E. P. Box was one of the greatest minds in Statistics in 20st century.

Back to economics....Take for instance the loss of confidence in the dollar. If people understood it better, then they would not fear a default and they might not lose confidence in the dollar. If you'll grant that statement is true (at least for the sake of the point I'm making or till the end of this paragraph, whatever comes first), then the dollar could decline or fail for political or resoans of perception, not economic ones. Is that really a failing of MMT, or is it a failure to understand economics and the ensuing irrational behavior brought on by a lack of understanding that has lead it the failure?

How can I grant something that isn't true? How can you understand a loss of confidence better and not fear default or inflation? We routinely see this around the world, especially in our own Hemisphere (South America). We also use it as a form of economic warfare. People aren't stupid when it comes to what they earn and what it costs to live, people are highly rational when it comes to currencies. They'll except some levels of inflation. Nobody has overthrown the US Government despite the 2295.1% inflation between 1913-2015. Or the 485.5% since 1971. It's rather political parties which seeks stupid people to incite their political hacker and bull**** to push an agenda.

Now can you grant the rule of 72? It's an absolute fact in math. Basically, it's the measure of how you double value or decrease value by half and how long it takes. So if inflation is average 2%, it will take 36 years for the dollar you hold today would require $2 to replace it. So you understand that's increasing the money supply if just $500, is increasing it by $13.88 a year.

It's kind of ironic....The failure seems to be our failure as a nation to fully transition from gold backed money to a fiat currency.

We full transitioned. We are limited by bonds and global competition in currencies.

 

[austrianecon]

And yet you seem to have the claim that we should cut spending and embrace DEFLATION.

I think you will find no reputable economist who suggests we should embrace deflation, which we've flirted with because deficit spending is too low.

I never said such a thing. Rather.. if we go by net savings as MMTers say.. in 2008-2010 (go look at the link I provided).. the US government would have added no currency to the market as NET Savings was negative.

 

[Absentglare]

I never said such a thing. Rather.. if we go by net savings as MMTers say.. in 2008-2010 (go look at the link I provided).. the US government would have added no currency to the market as NET Savings was negative.

Net savings isn't the only mechanism by which money can exit the domestic private sector.

It doesn't make much sense to cut spending right now- just to clarify, you agree with this ?

 

[austrianecon]

Net savings isn't the only mechanism by which money can exit the domestic private sector.

It doesn't make much sense to cut spending right now- just to clarify, you agree with this ?

But this isn't what JfC claimed or MMT claims as Mosler ("father of MMT") classifies Net Savings as a form of Demand Leakage.

No, I've actually argued SEVERAL times here that I'd be okay with a mass infrastructure bill (you keep forgetting that). Rather, I am showing how you can lead a horse to water and they will drink it up. MMT is bull**** because 2008-2010, there was ZERO DEMAND leakage (Net Savings in the US economy) and if you apply MMT you end up removing money from the economy.

What most fail to recognize here is I really don't give a crap if we are Keynesian or not. But I will not stand by will MMTer just peddle crap that was used by the Germans during the Wiemar Republic. Back then it was called Chartalism and all MMTers did was change the name and hoped the world would forget about.

 

[JohnfrmClevelan]

I never said such a thing. Rather.. if we go by net savings as MMTers say.. in 2008-2010 (go look at the link I provided).. the US government would have added no currency to the market as NET Savings was negative.

You are misinterpreting MMT here. There is always going to be a desire to net save (who doesn't want to net save?); but when the government doesn't run a sufficient deficit, people will not have the ability to net save. When the crisis hit and people started to lose their houses and jobs, they went into debt as a matter of necessity, not as a matter of choice. You could always manufacture a situation where people are forced to disburse their savings - just hold back enough government spending, and (in conjunction with our normal trade deficit) you will cause a crisis.

The aim of the job guarantee is to stabilize potential shocks (like 2008) by making sure that everybody has an income at all times. It is proactive, not reactive (as you suggested MMT was, above) when it comes to the government spending sufficiently. Were there a JG in 2008, the program (and therefore govt. spending) would have increased as people lost their private sector jobs, softening or eliminating the shock.

 

[JohnfrmClevelan]

But this isn't what JfC claimed or MMT claims as Mosler ("father of MMT") classifies Net Savings as a form of Demand Leakage.

No, I've actually argued SEVERAL times here that I'd be okay with a mass infrastructure bill (you keep forgetting that). Rather, I am showing how you can lead a horse to water and they will drink it up. MMT is bull**** because 2008-2010, there was ZERO DEMAND leakage (Net Savings in the US economy) and if you apply MMT you end up removing money from the economy.

You need to apply some common sense to the way you interpret these things.

First of all, there was tremendous demand leakage, as always, in the form of a trade deficit. Second, you have to be realistic when you consider what really happens with domestic net saving, and sometimes you have to dig a bit further to understand how the numbers got where they got.

You should remember that a lot of people lost homes and/or jobs, then went into debt because of that. Any spending helps demand, but spending out of savings (or just increasing debt) like that isn't sustainable. If I dig into my savings in 2008 in order to pay my mortgage because I have lost my job, that is going to negatively affect my spending for years to come, as I will be using future income to deleverage. If a bunch of my spending ends up as interest and penalties paid to the bank, I have less to spend on other goods and services. Even if I managed to keep my job and house, the value of my house took a dive, and that affects my spending as well. Finally, total income took a hit as well. It all matters.

Nobody in MMT is blindly focused on the sectoral balance numbers. We use them to more fully understand what is going on. You, on the other hand, are using one shallow interpretation of a number and trying to form an attack out of it. You really underestimate the depth of MMT.

 

[csbrown28]

Yes, irrationality is unpredictable by all economic theory but it's irrational to try and to model an economy knowing that there irrationality. Embracing irrationality is actually the best thing to do in the world of economics. It's why Game Theory and Chaos Theory is making strides in certain economic schools.

Keynesian theory (and MMT in this topic) rely on assumption based models. For example.. The stimulus (whatever you think of it) was designed on assumption based model.

Isn't everything we do based on assumption or probability? I would agree that not all assumptions are equally valid, but every action we take, makes assumptions, so I'm not clear on why this claim should raise a single eyebrow.

Now if you want to claim that MMT makes irrational assumptions then, let's have them.....

Well, not to be a stickler.. but if you put 100 people in a room.. and 1 starts shooting. You'd have 99 which would have to make that choice. :2razz:

You don't get to be right much, so I'm gonna let you have that....:mrgreen:

But this is the problem with the question on face value (of course) is that it's not that its predictable uncertainty (this is linear thinking) and based on a zero sum outcome (it's past knowledge) so you can say this and have some predictability. But rather in reality it's predictable probability. That probability changes as time goes on. So having a model that can do predictable uncertainty but can't do predictable probability you end up with hits and misses as you are modelling on past knowledge (data points). This is why you can have huge misses or huge gains that aren't predicted in the economy. You know when numbers are reported and people are "surprised" by the numbers. That's model failure.

Mmmmmm..ok?

I know it's a strange concept to accept models are flawed as we have for almost 90 years ran economies on models. But models can be "right" (on what we assume will happen) and be "wrong" (probability) at the same time.

George E. P. Box wrote: "Remember that all models are wrong; the practical question is how wrong do they have to be to not be useful." George E. P. Box was one of the greatest minds in Statistics in 20st century.

We are faced with the study of something that evolves rapidly over time with the added problem that identifying changes can have serious economic consequences for certain individuals or groups.

I spent some time creating game economies in persistent worlds (online games that never reset). One thing I learned was that players got wealthy when they unbalanced the system. So while the player was highly motivated to unbalance the system, it was the developers job to maintain that balance.

In much the same way, powerful individuals reap the highest profits when the system is unbalanced. Using wealth to influence others to help tip that balance is a very real thing and something that makes it difficult to discern the difference between change in the economy and manipulation of it.

How can I grant something that isn't true? How can you understand a loss of confidence better and not fear default or inflation? We routinely see this around the world, especially in our own Hemisphere (South America). We also use it as a form of economic warfare. People aren't stupid when it comes to what they earn and what it costs to live, people are highly rational when it comes to currencies. They'll except some levels of inflation. Nobody has overthrown the US Government despite the 2295.1% inflation between 1913-2015. Or the 485.5% since 1971. It's rather political parties which seeks stupid people to incite their political hacker and bull**** to push an agenda.

And no one is pinning any medals on any chests for the 6560% increase in salaries from 1913-2015, or the 1211% since 1971....

Now can you grant the rule of 72? It's an absolute fact in math. Basically, it's the measure of how you double value or decrease value by half and how long it takes. So if inflation is average 2%, it will take 36 years for the dollar you hold today would require $2 to replace it. So you understand that's increasing the money supply if just $500, is increasing it by $13.88 a year.

Monetary inflation is irrelevant when not looked at relative to the things that people want. I mean, I can create true hypotheticals where the money supply is shrinking and there could still be inflation. So talking about inflation divorced from productivity and wages is like asking what direction you should go without knowing where you are going and when you have to be there.

We full transitioned. We are limited by bonds and global competition in currencies.

Practically yes, mentally, no.