MMT —it’s just neo-Keynesian macroeconomics

Jun 11, 2020·Alasdair Macleod

The doyenne of MMT, Stephanie Kelton, has published a book this week explaining modern monetary theory. This article examines the foundations of MMT which Kelton explained in an earlier video released last year.[i]


Macroeconomics has become so far removed from reality that its practitioners cannot understand what is happening in the real economy. Never has this been more obvious than today. While they claim to be economically literate, macroeconomists are in thrall to their paymasters; a combination of government, quasi-government and financial institutions with a vested interest in not looking too closely at the full consequences of government economic and monetary policies. From this neo-Keynesian macro world, the latest spinoff is modern monetary theory, which is little more than a logical extension of Keynesianism —justifying intervention by the state and the use of fiat currency being expanded limitlessly. MMT is the end of the line for arguments based on macroeconomic fallacies that have their origin in Keynes.

Stephanie Kelton’s book, The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy was released on Tuesday (9 June):

“Stephanie Kelton’s brilliant exploration of MMT dramatically changes our understanding of how we can deal with crucial issues ranging from poverty and inequality to creating jobs, expanding health care coverage, climate change, and building resilient infrastructure.”

That is the first sentence of Amazon’s sales pitch. If these claims are true, the world’s economic problems are easily solved. But we must put aside the marketing hyperbole and look at MMT seriously.

Deficit spending is MMT’s solution to everything

A short essay cannot do justice to a book just released —selected reviewers get pre-publication copies in good time for that purpose. Instead I shall comment on Kelton’s earlier explanation of MMT, which she provided in a video aired by CNBC, recorded in March 2019. Since we are talking of economic theory, it should stand the test of time, being as relevant today as when it was when recorded over a year ago. Therefore, we are entitled to assume her book is an extension of the main points she made in the video.

If the basics are not right, then the rest of it can be ignored and the book will only mislead its readers. In this article, I address each substantive point in the earlier video. “SK” is Stephanie Kelton, quoted verbatim, and my commentary follows.


MMT starts with a simple observation, and that is that the US dollar is a simple public monopoly. In other words, the United States currency comes from the United States government; it can't come from anywhere else. So, what that means is that the federal government is nothing like a household. In order for households or private businesses to be able to spend they've got to come up with the money, right? And the federal government can never run out of money. It cannot face a solvency problem with bills coming due that it can't afford to pay. It never has to worry about finding the money in order to be able to spend.


In other words, MMT is a rehash of the state theory of money, made famous by Georg Knapp in 1905. Which, incidentally, allowed Bismarck to finance Germany’s military build-up before the First World War and led to Germany’s hyperinflation, which destroyed the mark in late-1923. There is nothing new in this theory, and it has been lauded by inflationists of different stripes since unbacked fiat currencies emerged.

The argument deployed here is a common device used by economists in debate to mislead their audience into believing macroeconomics is somehow on a higher plain than human action. The statement that public finances differ from household finances is only true to the extent that a government with a fiat currency can for a period of time cover its deficit by printing money. In every other respect, it is governed by the same laws of finance and money as the rest of us.

But the state cannot print money indefinitely. The state’s insolvency is only deferred by monetary inflation for as long as it can pluck wealth from its population by debauching the currency. And the more it inflates, the more it has to inflate until it is forced by markets to face up to this fact.


So, the deficit definitely matters; it's just that it matters in ways that we're not normally taught to understand. Normally I think people tend to hear deficit and think it's something that we should strive to eliminate; that we shouldn't be running budget deficits; that there is evidence of fiscal irresponsibility. And the truth is the deficit can be too big. Evidence of a deficit that's too big would be inflation.


Here, Kelton presumes the state can control the degree to which it funds itself by monetary expansion. But the state is like a junkie: once hooked on free-and-easy money it is virtually impossible for it to stop using monetary debasement as an increasingly important source of finance.

What Kelton does not tell us is that there is a cost to inflationary financing: the transfer of wealth from those that have savings and earnings valued and paid for in the state’s currency. The beneficiaries are the government, its agencies and its crony favourites — usually commercial banks and big businesses. In other words, by debasing money for its own benefit the state is impoverishing those it claims to help.

By regarding inflation as a rise in the general level of prices, Kelton seems to think that so long as price rises are contained by a ceiling, then the state can expand the quantity of money as much as it likes. But that assumption must be conditional on the state being able or willing to restrict the expansion of money if the objective is exceeded.

Because that is demonstrably not true, by changing statistical methods of measuring the general level of prices an alternative has been found. and the Chapwood index have concluded that the general level of prices has been rising at an annual rate closer to 10% than the 1.5–2% reported by US government econometricians. To the extent these independent estimates are correct, the evidence of inflation Skelton refers to is concealed, invalidating her proposition.

On every level this statement by Skelton is flawed. Correctly stated, inflation is not the rate of increase of prices but the rate of increase of the quantity of money. A rise in the general level of prices is the symptom, not the disease. This lack of proper definition by all neo-Keynesians, sometimes unconscious, sometimes deliberate, impedes understanding. By misleading us, and probably herself in this way, Kelton is simply following the established example common to all inflationists.


But the deficit can also be too small. It can be too small to support demand in the economy and evidence of a deficit that is too small is unemployment; so if you think of the government deficit as the difference between what the government spends into the economy and what it taxes back out then imagine a government that spends $100 into the US economy but it only taxes 90 of those dollars back out. We label that a government deficit; we record that on the government's books. What we forget to do is pay attention to the fact that there's now $10 somewhere in the economy that wouldn't have been there otherwise, that is put there by the government's deficit.

In other words their deficits become our surpluses and so when we talk about the government having all this red ink, we have to remind ourselves that their red ink becomes our black ink and their deficits are our surpluses and the question is then should you expand fiscal policy? Should you run bigger budget deficits in order to boost growth?


It is a common error to think that deficit spending is the solution to unemployment. The state lacks the entrepreneurial knowledge to direct capital resources to satisfy consumers’ needs and wants and it usually ends up satisfying its own non-commercial objectives instead. Furthermore, by diverting resources from free markets which allocate capital resources more efficiently, state intervention becomes an overall economic burden, reducing a nation’s economic potential.

Macroeconomists of all stripes believe in deficit spending to stimulate the economy, failing to realise that the monetary expansion sets in motion a cycle of credit. The Keynesian idea was to use deficit spending to reduce the impact of a business slump and to encourage confidence to return. The reduction in lending risk that followed then encouraged banks to expand bank credit, a means of monetary expansion which the banks are licenced by the state to provide. Invariably, bankers become greedy and when the boom has run its course, they realise they have taken on too much risk. Bankers’ greed rapidly turns to fear and bank credit contracts, driving the economy into the next slump.

It has been like this for nearly two centuries. Structural reform of the banking system to remove bank credit expansion is part of the solution. The other part is for governments to always run balanced budgets instead of making the credit cycle even more destabilising through deficit spending.

To state that a government deficit gifts money to the private non-financial sector that otherwise would not exist is the basic belief behind macroeconomics. It is misguided. Let us first assume the deficit is funded by savers. In that case, the economy is starved of investment funds which would otherwise have been more positively deployed, and Kelton’s $10 gift to the economy is borrowed from savers and is not an extra distribution. Alternatively, if its origin is an inflation of the currency, then the population itself has paid for it through monetary debasement.


So, what is the objective, what is the proper policy goal, and I think the right policy goal is to maintain a balanced economy where you're at full employment. You're guarding against an acceleration and inflation risk. And economists tend to understand that the kinds of things that you can do to boost longer term growth are investments in things like education, infrastructure, R&D. Those are the sorts of things that tend to accelerate productivity growth so that longer term real GDP growth can be higher.

 So, there are ways in which the government can make investments today that increase deficits today that produce higher growth tomorrow and build in the extra capacity to absorb those higher deficits.


Kelton states a government should maintain a balanced economy with full employment. Beside the slippery notion of a balanced economy, she skips over several inconvenient truths. The first is the embodiment of Say’s Law (in common with all neo-Keynesians she would doubtless reject it), which describes how and why we divide our labour, specialising in what we are most skilled at producing in order to satisfy our broader needs and wants. It follows that if a non-productive state detracts from the division of productive labour by taxing it, telling it what it should need and want, and devalues its medium of exchange, the human progress produced by an unfettered economy is compromised.

The government is not needed to provide education, infrastructure and R&D, all of which are provided more effectively by private individuals cooperating with each other. The longer-term benefits, which she describes as productivity and real GDP growth should not be the concern of governments. With respect to productivity, that is the business of employers who in an unfettered economy will always seek the most efficient use of capital resources, of which labour is but one.

GDP is just a money total, and the deflator to yield “real” GDP serves no purpose other than for those who define inflation as rising prices. And even that statistic is tamed: if the true rate of inflation is closer to independent analysts’ forecasts, such as those of Shadowstats and the Chapwood Index as mentioned above, then the evidence of the magnitude of wealth transfer from the productive economy to the government would be revealed as extremely destructive.

In setting an appropriate level of deficit financing, Kelton says the state can guard against “an acceleration and [of?] inflation risk”. There is no evidence this is the case, and, furthermore, she has been contradicted by central banks who have now openly stated they will inflate without limit.


So, it's impossible really to put a number on it. Nobody can know how much debt is too much debt. If you look at Japan today you see a country where the debt to GDP ratio is something like 240%, orders of magnitude above where the US is today or even where the US is forecast to be in the future. And so the question is how is Japan able to sustain a debt of that size. Wouldn't it have an inflation problem? Would it lead to rising interest rates? Wouldn't this be destructive in some way? The answer to all those questions as Japan has demonstrated now for years is simply, no. Japan's debt is close to 240% of GDP, almost a quadrillion. That's a very big number. Again, long term interest rates are very close to zero. There's no inflation problem and so despite the size of the debt there are no negative consequences as a result. I think Japan teaches us a really import lesson.



Following the Second World War there were two successful monetary systems set up: Germany’s until it was folded into the euro, and that of Japan. Both shared the same characteristic: the encouragement and preservation of savings, which provided the financial capital for post-war recovery. The Japanese and German states did not intervene, pursuing generally sound money policies. They were deemed by observers at the time as economic miracles, compared with the stagnation of Keynesian-driven and socialistic economies intent on redistributing wealth. Japan’s population still retains the savings ethos, which means that when the Bank of Japan expands the money supply it is banked by the population when they receive it, fuelling investment, rather than spent on inflating consumer prices. That is the explanation for why Japan’s economic system, despite the state’s best efforts to undermine it, shows little price inflation and continued stability.

To use the Japanese model as the basis for a comparison with the US economy is dangerously wrong-headed.


Think about what happened after World War Two when the US national debt went in excess of 100% –close to 125% of GDP. If we were talking about it the way we talk about it today as burdening future generations, as posing a grave national security risk, we would have to scratch our heads and say, wait a minute; do we think that our grandparents burdening the next generation with all of those bonds that were sold during World War Two to win the war, build the strongest middle class – all that  produced the longest period of peacetime prosperity. The Golden age of capital; all of that followed in the wake of fighting World War Two, increasing deficits massively, increasing the size of the national debt. And, of course, the next generation inherits those bonds. They don't become burdens to the next generation, they become their assets.

The only potential risk with the national debt increasing over time is inflation and to the extent that you don't believe the US has a long-term inflation problem you shouldn't believe the US is facing a long-term debt problem.


During the Second World War, it is true that US government debt had expanded enormously, but again Kelton skips over the subsequent facts. On the back of the Marshall plan and other US dollar post-war foreign financing schemes — many of which were to keep emerging nations out of the USSR’s sphere of influence — American corporations expanded their activities abroad, bringing employment and wealth back to America. Dollars were being printed for export, and not just to pay for expensive wars in Korea and Vietnam. This sleight of hand was finally exposed when the London gold pool collapsed in the late sixties.

The Bretton Woods agreement in 1944 tied the dollar to gold, permitting foreign central banks and certain intra-national organisations to demand gold from the US Treasury in exchange for dollars at the official rate of $35. In 1945, after the agreement was implemented, the US Treasury had amassed 17,848 tonnes of monetary gold, which by 1950 had increased to 20,279 tonnes. In 1950, the estimated above-ground stocks were 51,760 tonnes, of which total monetary gold was 31,096 tonnes.

In other words, in 1950 the US had a virtual monopoly on monetary gold and its holding was about 40% of all above-ground stocks. This enabled the US to keep the inflationary symptoms of monetary expansion at bay, at the expense of its gold stockpile. The belief that the expansion of debt, which is fundamentally the consequence of monetary expansion, was benign and will continue to be so is therefore badly flawed. This became evident following President Nixon’s ending of the Bretton Woods agreement in August 1971, since when measured in gold the dollar has lost 98% of its purchasing power.

Today, we lack the monetary stability that the golden fig-leaf of the Bretton Woods era provided, and the consequences of the expansion of national debts in all currencies, advocated by MMT, will turn out to be very different from those of the post-war period. Inheriting government bonds, as Kelton puts it, is likely to turn out to be a worthless legacy.

As to the belief that the US does not face a long-term debt and inflation problem, current events are now undermining that supposition.


So, the best defence against inflation is a good offence and what MMT does is to try to be, I think kind of hypersensitive to the risks of inflation. I don't see any other macro school of thought pay as careful attention as we do to the inflation risk question.


Kelton appears to be contradicting herself in this extract. The context suggests a dispute with, offence against, or dismissal of those who worry about inflation. All while MMT claims to be hypersensitive its dangers.

As stated above, inflation is the expansion of the money quantity, not an immeasurable price effect. Her claim to be hypersensitive to inflation cannot stand scrutiny unless it is applied to money, not prices. But her statement that MMT pays more attention than any other macro school to price inflation exposes all macro schools to the accusation of inflationism — correctly.

We can agree on that slender point. But she fails to mention Austrian economic theory, particularly that espoused by von Mises who persistently condemned inflationism, based on sound economic theory and deductive reasoning. This omission might be explained on the basis that Austrian economics is not a neo-Keynesian macroeconomic theory. But Kelton, like most neo-Keynesians, may not be aware of the existence of the Austrian school let alone the rigorousness of its methods.


So what we would say is, look, if you are Congress and if you are considering a new spending bill, instead of thinking about the ways in which that new spending will add to the deficit or add to the debt you should be thinking about the ways in which that new spending has the risk of accelerating inflation and then avoid doing that. So instead of going to the Congressional Budget Office and saying we'd like to know what this bill will do to the debt and the deficit over time, instead go to the Congressional Budget Office or other government agencies and say we're considering passing this trillion-dollar investment in infrastructure. This is our bill. Would you look at it, and we plan to do this spending over the course of the next five years. Tell us if that would create problems in the real economy. Evaluate the inflation risk and come back to us and give us some feedback. That's the kind of responsible budgeting that I think that I would like to see Congress begin to move towards.


For Kelton to earlier observe that MMT pays more attention to inflation risk than any other form of macroeconomics and then to imply Congress is over-concerned with inflation — the consequence of budget deficits — is, to say the least, inconsistent.

The central problem with asking the CBO and similar advisory bodies to forecast spending effects is that economic calculations are being asked of administrators and bureaucrats unequipped for the task. Furthermore, the economists among them are all trained and employed to enhance the role of the state, with limited understanding and usually with no commercial experience of the non-financial private sector.

Quantifying the risk of price inflation — which is what she actually refers to — is impossible. It is naïve to assume that the money spent on a project has different impacts on the general level of prices in ways that can be quantified beforehand. Assuming it is funded by means other than of savings, all state spending is inflationary and dilutes the existing stock of money to the advantages of some and the disadvantage of others. Furthermore, it is often erroneously assumed that government debt acquired by the banks and not subsequently sold to the Fed represents investment as opposed to inflationary funding.

It is doubtful that anyone in government agencies or Congress fully understands the impossibility of forecasting the consequences of government spending, particularly when they rely on inappropriate economic modelling. It is clearly nonsensical to say spending a trillion on one project is going to be less inflationary than spending it on an alternative one.

Congress always pushes for extra spending, and whatever the CBO or other agency might say, any advice is bound to be modified in the legislative process; this is the basis of pork-barrel politics which is likely to be further encouraged by MMT’s free-spending policies.


 So the question about what to do if inflation becomes a problem is a different one and I think the first thing you have to do is say is what is driving inflation, because to think that the inflation that is going to become important at some future date is likely to be the result of too much aggregate spending is really hard to believe. I mean the US economy hasn't experienced what we might call demand-pull inflation for almost a century. The types of inflation that have been important in the US have almost always come on the cost side: what we call cost-push inflation. They come about because of things like oil price shocks. You might see increases in headline inflation rates because the housing component or healthcare and so when you think about how to fight inflation if you’ve got inflation resulting from energy price increases you probably not going to do much to have the Fed raise interest rates or even have Congress raise taxes. You got to do something else that's going to work so I reject the idea that MMT is about using taxes to fight inflation. That's a mischaracterization of pretty much everything we've written but people say it all the time.


We have already pointed out Kelton’s mischaracterisation of inflation. In this final part Kelton makes the additional mistake of segregating inflation drivers to cost or demand factors. The error is to not understand that the role of money is to permit the consumer to make choices, to compare one good or service with another in pursuit of want satisfaction. If oil prices rise, the consumers’ preferences will simply change to accommodate that fact. Changes like this happen all the time, even under a gold standard. The key to understanding what drives prices is that consumers make choices, valuing one good against another, and money is simply the mechanism for doing so.

Kelton’s allocation of inflation to cost-push factors is consistent with the cost of production theory of prices. While usually true of government monopolies and being the basis of Marxian philosophy, it is not true of free markets. Instead, MMT-ers are effectively advocating policies whereby consumer choices should not have to be made and money is expanded so that consumers can acquire more or less everything they desire. Economically, this is simply nonsense.



By taking little more than a few moments to consider MMT we find there is little in it that is new. It adds nothing to neo-Keynesian macroeconomics except its extremism. On Tuesday (9 June) Professor Paul Krugman tweeted; “I agree with Kelton about deficits not being a problem.  But I get that from perfectly conventional macroeconomics, not MMT. What does MMT contribute here?”

Just so.

Kelton makes naïve claims about controlling inflation, which she believes is an increase in the general level of prices. Unwarranted faith is placed in the state’s management of the economy, and in her belief it can use money responsibly as its primary management tool. This is despite all the empirical evidence to the contrary, and it flies in the face of properly reasoned economic theory.

There can only be one conclusion: MMT is an ephemeral macroeconomic cult which tells us much about the psychological condition of a wider belief system running out of road. It is perhaps symptomatic of peak macroeconomics, about to slide down the other side of diminishing influence into catastrophic failure, then ultimately, it’s rejection.

The evidence of a final catastrophe for macroeconomics is mounting. Decades of increasing state intervention, driven by neo-Keynesian economic policies from which macroeconomics owes its origins, have led us to the edge of the greatest economic chasm since the 1930s, and possibly much worse than that. And the MMT-ers favourite tool of economic management, fiat currency, will almost certainly be with us for not very much longer.



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