Modern Monetary Theory and the End of Recessions
In 2006 and 2007, I was running my own planning and engineering firm, working for small and mid-sized cities across Minnesota. In my reports and presentations, I was asserting—in some cases, more forcibly than made good business sense—that things were not going well.
I did not anticipate the housing crisis and all that came after, but I was struggling with a wave of development requests that were completely irrational, especially from the perspective of my clients, who were city and township governments. We had many cities that we worked with day-to-day, but quite a few we only got involved with when they had a bigger project that they needed an expert to assist with. These bigger projects were getting crazier and crazier.
Developers, equipped with money from banks that (we would discover later) had themselves gone crazy, were ready to spend amounts of capital they could never—NEVER!—hope to recoup purchasing raw land and developing property. I would ask them basic questions about their development plans, and they, if they bothered to answer, would make some remark about me being a government bureaucrat who didn’t understand business. (Keep in mind I had been running a private-sector consulting firm since 2000.) These people were idiots; most of them lost everything and are now working for non-idiots.
I was less worried about the developers than the cities I represented. Often those cities were financing the infrastructure to support these development schemes, with the understanding that they would get their money back when the developed land sold. In those and other instances, local governments were also assuming the long-term maintenance obligation for development that had no hope of creating enough tax base to pay for it. I had all the charts and spreadsheets to prove it and was rather zealous about sharing them. In the rush for more growth that dominated those pre-recession years, it made me rather unpopular. (Ironically, there were more than a few council members that thoroughly enjoyed not renewing my firm’s contract when their city subsequently had budget shortfalls. Painful at the time, but it’s worked out for me.)
A couple of weeks ago I wrote about Modern Monetary Theory, the financial experiment underlying proposals to pay for the Green New Deal. I’ve since been inundated with people sending me stuff—both those in support of the theory and those suspect of it. And over the weekend I fell back into the topic when The Ezra Klein Show had a discussion between theory advocate Stephanie Kelton and skeptic (but definitely sympathetic) Jason Furman, the highlight of which was this exchange at around the 58:00 minute mark:
Kelton: “...the currency, the monetary regime, underwent this fundamental change [in 1971] and we just didn't really update the narratives and the models as we should have.”
Furman: “I think that frankly borders slightly on slander of a large portion of the economics profession.”
Modern Monetary Theory is having its day, and that’s a good thing. As one of our contributors, members, and frequent commenters Alexander Charlie-Dobbs Dukes correctly pointed out (and I begrudgingly acknowledge he’s correct), Modern Monetary Theory is a more accurate description of our current economic approach than the Keynesian-inspired parables we’re now applying. Where Alex and I part ways is in how we feel about this. For my part, I find our current economic approach to be multiple layers of interwoven insanity, confusion, swindle, and delusion. Yes, MMT does a better job of wrapping that into a package than the tortured way we’re now approaching it.
I started this post with my pre-Great Recession struggles because there is a moment in that Stephanie Kelton lecture I shared with you last week that I think perfectly summarizes the practical insanity of Modern Monetary Theory and, really, the rote application of any macro-management theory of the economy that tries to deliver optimum GDP growth, full employment, and stable inflation. It starts at the 49:30 mark. Here is what she says:
We are all so used to hearing people say deficits are too big; no one ever suggests that the deficit could be too small.
And interestingly, every single time, with no exceptions, that the government’s deficit gets too small….we’ve had a recession. Every single time.
The deficit [today] is back below 3.1% and I think it's creating drag in the economy that puts us at risk for going back into recession.
(Note: I’ve taken the liberty to tighten her words up, but please listen and you’ll see I’ve been true to what she said.)
In the years before the Great Recession when the economy was growing and deficits were shrinking, I was running around screaming at the cities I worked for that the projects they were getting from the developers walking in the door were financially insane. In those same years, Stephanie Kelton suggests we should have increased the deficit and poured more fiscal stimulus into the economy.
Simultaneous with the largest buildup of fiscal imbalances in the housing and real estate market ever seen (up to that point) in the history of North American economics, Modern Monetary Theory would have suggested that more money needed to be injected into the economy to optimize output.
That. Is. Insane.
Modern Monetary Theory suggests that recessions can be avoided—along with lots of unnecessary pain—if policymakers are only willing to commit the resources to preempt them. This is a step beyond modern Keynesianism, which suggests that the pain of recessions can be minimized if policymakers are willing to commit the resources to overcome them. Both approaches have the mentality of the U.S. Forest Service approaching fire fighting in the mid-20th Century: suppress at all times.
What if a little recession is a good thing? What if it’s actually necessary to keep the economic ecosystem healthy? What if the thing we should fear isn’t the tension of theoretically sub-optimal growth but the reality of economic conflagration?
These are theoretical questions that serve no practical purpose. Having demonstrated that we can put out financial forest fires, that we can counteract recessions and restore economic growth, who among our leadership is going to credibly stand up and demand that we let it all burn? Especially now that we’ve ensured that any recession won’t be a small, helpful correction but a massively destructive upheaval?
Modern Monetary Theory is the proper parable for our macro-economy from this point forward, until it isn’t. When we reach that turning point, those places and institutions who have gone a different direction—those who intentionally gave up growth in pursuit of stability—will have the best chance to avoid the chaos.
If you fear this insanity like I do, the proper response is to start making yours a strong town.
With interest rates rising, the cost and availability of housing are becoming increasingly popular topics of debate. But most of these discussions fail to challenge the root of the issue: the absurdity of mortgages as an investment vehicle.