Pandemic Relief: A Win for Modern Monetary Theory?
Raj Ashar | March 2021
(Clockwise) Rep. Alexandria Ocasio-Cortez, Federal Reserve Chair Jerome Powell, Sen. Bernie Sanders
n recent years, Modern Monetary Theory (MMT) has gained significant popularity after amassing support from several prominent politicians, including Representative Alexandria Ocasio-Cortez (D-NY) and Senator Bernie Sanders (D-VT). The theory is controversial to say the least, and has been characterized as “just wrong” by Federal Reserve Chair Jerome Powell.
Dr. Stephanie Kelton, one of the most prominent economists in favor of MMT explains the theory in this video, holding that the US dollar is technically a “public monopoly” in that the U.S. government is the only supplier of an extremely valuable good: the U.S. dollar. Following from this, the US government is not akin to a household; it can print more money any time it needs to pay off debt, and therefore avoids the necessity of relying on tax revenue to balance its budgets. The theory claims that deficits are not inherently an issue; it is only when the deficits cause inflation that they become problematic. As a result, spending debates should not be centered on budgetary impacts, but rather they should focus on inflation.
If put into practice legislatively, MMT-based policies could potentially stimulate massive amounts of investment in the U.S. economy, through both short term and long term programs, at least until inflation rises, at which point MMT advocates prescribe a tax hike to cool down the inflation. In this sense, it differs from heterodox theory, which instead views control over interest rates as a vehicle through which inflation can be regulated.
To many, MMT sounds almost too good to be true, and has often been portrayed as the senseless, endless printing of money, neglecting upward pressure on prices. Dr. Paul Krugman criticized the theory’s unclear explanation of how increased spending lowers interest rates, as well as its idea that expansionary fiscal policy is automatically expansionary monetary policy. In an American Economic Association (AEA) paper, Dr. N. Gregory Mankiw found the inflation related to the theory’s propositions to be too pervasive for the theory to be considered as a valid policy solution.
Most economists, both liberal and conservative, are not embracing the theory at this point in time. This is in part due to the aforementioned points brought up by Krugman and Mankiw, but also due to the lack of economic empirical evidence. Many MMT advocates point to Japan as a country whose economic policies have already put MMT into practice, but Japanese leaders disagree with this claim. Without real-world examples of the theory in action, it will be hard for any future economic literature to be convincing.
MMT and the Pandemic
Given MMT’s fringe status, why should it be discussed? Amid the COVID-19 pandemic, the federal government has enacted a flurry of spending policies: increased economic disaster loans for small businesses, stimulus checks, and increased unemployment insurance, just to name a few. The aforementioned policies appear to have accomplished much in curbing the economic effects of the virus, as the unemployment rate dropped from 14.8% in April 2020 to 6.2% in February 2021. These policies resulted in a federal deficit of $3.1 trillion in fiscal 2020, which was triple the deficit in 2019 and the highest deficit percentage of GDP since 1945. Despite this expansionary spending, inflation was low: 1.4% in 2020. Admittedly, this was likely in part due to the massive drop in aggregate demand resulting from the pandemic-related shutdowns, which resulted in downward pressure on prices. However, for many MMT supporters, this could be seen as a positive sign that more government spending can work without causing rampant inflation.
Several policies enacted by the government, including the Paycheck Protection Program (PPP), were passed with the idea of retaining as much employment as possible, or ensuring any pandemic-related unemployment was only temporary. Due to the pandemic, the federal government has taken an active role in ensuring employment in the US economy, arguably a more expansive role than ever taken in the past. MMT supporters advocate for loose fiscal policies somewhat similar to those enacted in response to the pandemic, but on a larger scale and on a regular basis in order to achieve consistently full employment in the economy.
From a political perspective, the success of these policies along with President Biden’s recent $1.9 trillion stimulus bill point to the idea that MMT might be here to stay, at least in political discourse. There are issues with the theory that need to be answered, but with the recent pandemic-era legislation, MMT seems to have enough momentum for an increasing number of politicians to adopt the theory in order to justify their policies. Now, it is important that I say “politicians” rather than “economic policy officials.” Given MMT’s still-fringe status in the economic community, I do not think we are close to the day where the next Jerome Powell or Janet Yellen will be an ardent supporter of MMT, and this obviously will limit the theory’s potential hold on the legislature. Nevertheless, it seems that the government’s pandemic-era active spending could foreshadow the ascendance of MMT into more serious policy debates in the future.