What Is Modern Monetary Theory (MMT)?
Modern Monetary Theory (MMT) is a policy model that states that governments do not have to worry about deficits as they can fund projects by printing new money via the central bank. It is a policy model that aims to fund government spending and a way out of the deficit.
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MMT opines that governments that can create and control their fiat currency can do so without limits. Accordingly, sovereign governments shouldn’t be concerned about taking on significant debt to expand their economies because they will never run out of money. Instead, new money is produced to address a nation’s economic demands.
Table of contents
- What Is Modern Monetary Theory (MMT)?
- Modern Monetary Theory Explained
- Principles
- Pros And Cons
- Modern Monetary Theory And Inflation
- Modern Monetary Theory vs Keynesian
- Frequently Asked Questions (FAQs)
- Recommended Articles
Key Takeaways
- Modern Monetary Theory (MMT) is a policy model that funds government spending. The theory suggests a way out of the deficit for countries.
- MMT calls for first spending proactively rather than taxing citizens. According to the theory, one cannot consider the federal surplus as a positive sign as the money is the result of not adequately utilizing the amount collected as taxes.
- According to the theory, credit expansion and money printing must keep growing as long as there is no inflation.
- MMT has various drawbacks, and adopting it for an extended time period can result in the deterioration of economies.
Modern Monetary Theory Explained
Modern Monetary Theory was developed in 1992 by Warren Mosler, an economist and theorist from the United States. Bill Mitchell, an Australian university professor, along with Mosler and a few others, has significantly contributed to its development. According to MMT, countries that can produce their fiat currency can print as much money as they require.
As a result, they are not subject to financing constraints. In other words, the theory believes there is no such thing as a financial limit on the government, and it cannot run out of money. Governments should work within a budget, but since the theory does not believe in it, the government need not worry about the deficit as it can print money to counter it.
According to modern monetary theory, taxes are not necessary. Since governments can print money, they should not raise taxes for essential expenses (such as paycheck protection program loans). MMT calls for first spending proactively rather than taxing citizens. Accordingly, the federal surplus is not a positive sign as the theory considers that the money is the result of not adequately utilizing the amount collected as taxes and returning it to the economy.
It advocates pumping money back into the economy as it believes the move will increase the purchasing power of citizens and result in economic growth. According to the theory, credit expansion and money printing must keep growing as long as there is no inflation.
Principles
Some of the modern monetary theory’s fundamental principles are:
- Government deficits are not always considered negative, as printing money can fix them.
- Governments are free to print additional money without risking an economic collapse.
- The government does not have to follow the same rules as household budgets because it issues the currency. As for individuals, their expenses should be within their income. If not, it will lead to debt since they cannot print money.
- There is a chance for a federal job guarantee scheme. Printed money can be an investment for human capital development. This is seen as a way to stabilize the economy.
- The federal interest rate ought to be zero percent. The increase and decrease of interest rates have to be done away with as they are irrelevant to growth and long-term business decisions.
Pros And Cons
One can adapt MMT to benefit from situations such as the financial crisis of 2008 and pandemics in countries like the U.S., where governments must incur debt under economic circumstances. However, extended periods of adoption can do harm in the long run, especially for developing economies.
Cons/Modern monetary theory debunked:
- MMT has a variety of drawbacks, such as the fact that it favors fiscal policy more than monetary policy concerning inflation. Accordingly, raising taxes is considered the best solution to counter inflation. However, the situation in the U.S. in the 1960s saw a period of raising taxes, a balanced budget, and yet persistently high inflation.
- Another major drawback is that it is okay with high debt levels. High debt accumulation can either result in high inflation or high taxation in the future.
- Similarly, as advocated by MMT, mass employment schemes tend to result in low productivity and little economic growth.
Modern Monetary Theory And Inflation
The inherent problem with printing money is that it makes it easily available to the public. Everyone will have money and start making purchases, and demand will rise. When demand for goods and services rises, prices increase to keep up with the supply. As a result, people will be forced to purchase the same amount of goods at a higher price. Inflation is a situation where the price increases and the currency loses value.
When the prices shoot up by higher percentages within a year, it is termed “hyperinflation,” as in the case of Zimbabwe in 2008 (this is a case of Modern monetary theory debunked). Under inflationary circumstances, the amount of paper used to print the money would be worth more than the value printed on it. Printing money to help production can result in a positive outcome. However, as suggested by the MMT, printing it when there isn’t more production and reducing the deficit would lead to economic collapse.
Modern Monetary Theory vs Keynesian
Some of the differences between modern monetary theory and keynesian economics are given below:
| Key differences | Modern Monetary Theory | Keynesian |
|---|---|---|
| Meaning | The central idea of MMT is that the government need not fear a deficit because it controls printing money. | Keynes’ theory revolves around aggregate demand. Aggregate demand is calculated as household, business, and government spending. |
| Government funding | MMT advocates funding government spending by printing currencies. | It advocates levying taxes and issuing bonds to fund government spending. According to modern monetary theory, taxes are not necessary. |
| Inflation control | MMT believes it can be done by altering fiscal policy and the government’s decision to increase taxation to control inflation. | According to this theory, the central banks of nations do inflation control. The bank sets interest rates to stabilize the economy. |
| Interest rates | MMT opposes setting interest rates and prefers them to be zero. | It believes that interest rates have to be set to stabilize the economy. |
Frequently Asked Questions (FAQs)
Two main arguments of MMT are considered major flaws as both can lead to economic collapse. First, there need not be an upper limit on government debt, and second, money can be produced without having an inflationary effect.
The answer depends on the economic situation. In downturns such as recessions, inflation is a needed solution, and MMT becomes essential. In most other cases, it can be deemed unnecessary.
A positive outcome with regards to the theory cannot be guaranteed. This is because, unlike what the theory suggests, unrestricted spending is not the answer to all problems. On a macroeconomic level, different causes and effects have to be considered before suggesting any solution as they can have big impact.
Recommended Articles
This article has been a guide to what is Modern Monetary Theory. We compare it with inflation and Keynesian, explain its pros & cons. You can also find some useful articles here –
- Liquidity Preference Theory
- Monetary Value
- M3 Money Supply
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