In the latest edition of BofA’s closely-watched global fund manager survey, more than 200 panelists who together control some $600 billion in AUM were presented with a list of prospective structural shifts for the post-COVID world.
If you follow the narrative, you could probably make the list yourself. It’s widely understood that the pandemic will give rise to a reinvigorated protectionist clamor, a push to on-shore supply chains, and epochal shifts in the way we think about monetary and fiscal policy.
Participants in the BofA survey were asked to choose which of the following were the most likely to play out:
- Supply chain reshoring (localization)
- Rise in protectionism
- Higher and new forms of taxes
- Debt exemptions for private and public sector (MMT)
- Green energy and sustainable infrastructure
- New era of stagflation
- Another decade of disinflation or even deflation
- Introduction of universal basic income
- Global growth based on global trade cooperation
Not surprisingly, very few respondents see the pandemic ushering in an era of increased cooperation aimed at solving common problems, which is supremely ironic given that’s what’s arguably necessary to prevent future calamities.
In any event, the breakdown of responses is as follows:
Virtually all of those issues have been discussed here at length over the course of the past two months, including dozens of articles on the inflation/deflation debate (latest here, here and here) and the myriad contentious issues around deficit financing, taxation and debt.
Note that 42% of respondents to the BofA FMS think higher taxation is coming, while nearly a quarter see some form of MMT as likely. I touched on both issues in the context of Gary Cohn’s interview with Fareed Zakaria on Sunday in “Congress Needs To Be Ready To Spend $3-5 Trillion ‘At Any Given Moment’ In Crises“.
One of the most crucial points to grasp is that central banks have been monetizing government debt for years, it’s just that the general public never had much interest in connecting the dots between QE, deficits, and the superfluous middlemen (primary dealers) who effectively act as a very thin veil between central bank asset purchases and direct deficit financing.
Thanks to the COVID crisis, the public’s interest is piqued. As I wrote Sunday, if Americans have any sense about them at all, they will start to question the mechanics of this arrangement. Specifically, they will ask why, if this charade is as laughably transparent as it clearly is, we need the primary dealers in the middle of things. Why not just have the Fed directly finance the deficit? Taking it one step further, if all we’re doing in that scenario is issuing debt and buying it from ourselves, why issue the debt in the first place?
Well, if you ask Morgan Stanley, the close coordination of monetary and fiscal policy won’t necessarily usher in an era of overt MMT. To wit, from the bank:
While monetary and fiscal policies are now more coordinated, we don’t think that we have entered the realm of Modern Monetary Theory, as some have suggested. While central bank independence faces risks (more de facto than by legislative changes), particularly in EMs, we think that DM central banks are unlikely to relinquish their independence and commitment to inflation targets. They may not act at the first sign of inflation, but we expect them to react eventually, especially if inflation starts to rise rapidly and shows signs of overshooting symmetric inflation targets.
Of course, that assumes they didn’t relinquish their independence a long time ago, and it also seems to assume that MMT will automatically lead to inflation so far above target that developed market central banks would be forced to lean against it. That is by no means a foregone conclusion.
Whatever the case, I thought readers might be interested in the following brief summary from Morgan’s global head of economics, Chetan Ahya. (For anyone steeped in this, there’s nothing “new” in the excerpts below, but they may serve as a useful pocket guide for some, and in any case, they speak to how pervasive this topic is becoming and how prominent it will feature in the post-COVID world).
From Morgan Stanley
What are the key propositions of MMT?
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- Fiscal policy should be the primary tool for aggregate demand management: In a textbook on MMT published earlier this year, the authors argue that fiscal policy should be main tool to achieve economic objectives and describe MMT as a school of thought that “places the government at the center of the monetary system”.
- The central bank is not independent: In MMT, the central bank is part of the ‘consolidated government sector’ and provides direct funding to the government to accommodate spending as needed to reach its economic goals.
- The only check on government spending is inflation: As long as a country can borrow in its own currency, it doesn’t have any budgetary constraints as it can always print more money (in contrast to other economic agents such as households) to finance its spending. The only constraint to fiscal deficits and debt levels is inflation, which would require some adjustment in the fiscal stance. MMT proponents suggest that mechanisms can be put in place to ensure policies are adjusted to keep inflation under control.
What are the major deviations from the status quo?
The adoption of MMT would imply a permanent change in the institutional framework as it would make fiscal policy the primary tool for managing aggregate demand at all stages of the economic cycle. Central bank independence would be abolished, given that central banks would simply accommodate the fiscal policy swings. In other words, the central bank would engage in ‘monetary financing’. As this form of direct funding is currently not allowed in most jurisdictions (central banks can only buy and sell government bonds on the secondary market), this would imply that the institutional set-up and the associated governing laws would have to be changed.
Consequently, the government would take a greater role in the allocation of resources in the economy: Depending on the spending programmes, this could change the incentive structure for both government and nongovernment economic agents significantly. For instance, most prominently in emerging market economies, there have been instances where the public sector intervenes directly in the labour market or distorts lending behaviour by offering credit subsidies. This has tended to distort the incentive structure and how resources are allocated, resulting in macro-stability risks such as higher inflation and/or widening external balances.
Main challenges and critique of MMT
In our view, the primary issue is that adopting MMT would lead to concerns about the credibility of policy-makers’ ability to achieve price stability. Those concerns are driven by the following potential issues:
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- Instilling discipline and long-term orientation in government policies: Fiscal spending programmes and tax policy will become even more heavily influenced by the political cycle, calling into question the ability and willingness of politicians to act on changes in the economic environment in a timely manner consistent with macroeconomic objectives such as maximum employment. Ensuring accountability for these policies would be a challenge, as a substantial lag could occur before the impact of a badly designed policy shows up in weaker productivity growth and inflation. Corrective action may also arrive with a significant lag, which could lead to greater volatility in key macroeconomic variables, such as growth and inflation.
- Erosion of inflation-fighting credibility: MMT argues that monetary policy should be conducted with the purpose of providing direct funding to the government. We believe that such a new institutional set-up will eliminate central bank independence. This will raise concerns about the credibility of preventing runaway or even hyperinflation, given that fiscal authorities historically have had a tendency to focus more on ensuring stronger growth in the near term, often at the expense of stable inflation.
The fact that the government is monetarily sovereign is not widely understood. The government spends money into existence. It does not borrow. Treasury securities are simply interest-paying savings accounts that provide a safe place to put dollars. They are NOT debt. There is no functional reason to have the veil of primary dealers skimming the milk that comes from the Treasury’s teat, it is a vestigial leftover from the gold standard. The national “debt” is NOT debt. It is a record of the funding of the economy.
The other serious misconception is the belief that too much money causes inflation. It is shortages that cause inflation. If the deficit spending is productive (spent on people and infrastructure… which includes education and healthcare), then there should be no shortages.
And finally, the value of a currency is determined at the FOREX auction and is based on confidence…not on how much the deficit is.
I don’t see how MMT ends in anything other than tears. Simplistically speaking, it gives the green light to politicians to spend as much as they need/want to, because they can “print” (digitally or otherwise) new money to pay for all the programs they want. The theoretical limitation on unlimited spending under MMT is inflation. However, it seems absurd to believe that politicians in the US (from either side of the isle) will actually have the discipline to cut back on spending when inflation begins to tick up.
You can see the evidence for this by looking at recent budget fights. The majority of politicians (at least profess to) believe that an out of control national debt would lead to disaster, and yet the solution to the most recent standoff over the budget was to give the Republicans hundreds of billions in defense spending in exchange for Democrats getting hundreds of billions in social program spending. All in the face of experts warning about the danger of running record setting trillion dollar deficits during “boom” times.
I don’t think that, given past experience, it is reasonable to believe politicians will run the “printing presses” right up to the threshold of undesirable inflation, and then moderate budgets accordingly. No, they’ll run the machines hot and right off the cliff.
Strongly agree.
I’ve read that the endogeneity in the inflation formula (Money Supply * Money Velocity) / GDP is the false assumption that M2 is always being used effectively for business generating activities, and therefore the decrease in Money Velocity is the dominant force for deflation today. In this context, yes, we’re looking at deflation short term. However, given the near doubling in the personal savings rates in the last three months, there has to be pent up demand once a vaccine is available. Money supply will have risen to extreme levels by that time. Couple this with a few supply shocks from permanently shuttered businesses, a voracious appetite for spending at whatever businesses are left, and the Fed’s assurance that it’s okay if you suck at an operation level because we’ll buy your junk debt anyway, you end up with a society willing to spend at a smaller body of companies that don’t really give a damn about the consumer because they’ve found that debt issuance is a much more profitable enterprise than actually selling something. Stagflation here we come.
The only ray of hope to counter your conclusion is that, while businesses may fail leaving us with a smaller body of companies, the entrepreneurial and enterprising human spirit will still exist. Assuming our system allows for the creation of new (small) businesses to replace the old, we should eventually return to more supply and competition.
A future where the only dining choices are Subway, McDonalds, and Taco Bell is very grim indeed.
Artificially intelligent made a key point. Inflation is caused by shortages, not printing too much money.
Product shortages, not money supply shortages. When you’re talking about M2 money stock, excessive money printing that fails to keep up with GDP results in inflation when money velocity is constant.
If you honestly think inflation will cause debt monetization, money printing, etc to slow or stop you are either naive, a fool, insane or stupid. The people in charge will either falsify the numbers and when caught just print more. The economic catastrophe of either that or slowing/stopping it will both be disastrous. Of course, those in power or close to power will navigate it well while the average person will once again be on the losing end.
The only way out is education, innovation, investment, hard work, and productivity. There is no easy way out.
H you know that.
I’m struggling with the whole “get something for nothing” aspect of MMT.
On that infallible resource Wikipedia, I recently read “As of May 1, 2020 federal debt held by the public was $19.05 trillion and intra-governmental holdings were $5.9 trillion, for a total national debt of $24.95 trillion”.
Just to make sure there’s no downside to literally printing money to pay for government programs, let’s first print US$25 trillion and pay off all the outstanding US Treasuries to see what happens…
“something for nothing”
Where do you imagine the money came from for the Fed to buy trillions upon trillions upon trillions in assets for the past 10 years? those would be the purchases that helped levitate stocks and corporate bonds. (narrator: they conjured it out of thin air)
Folks we are already doing this. That’s what everyone refuses to admit. The only difference is the primary dealer middleman.
These articles about MMT that generate much debate are very worthwhile. Thank you.
I also like the observation that we are pursuing MMT without formalizing it or optimizing the process, to the benefit of the big banks which are keeping their cards close to their chest on this one.
I do understand the Fed’s balance sheet expansion following the GFC was essentially through the same process of “printing” (digital entries, or however they do it). But until about 18 months ago, the intent was for the balance sheet to shrink (through at least “run off” or potentially asset sales) so in theory this would be the de-printing of the same money created to buy the assets. But if the jig is up and this “printed” money is never removed/”paid back” then it’s MMT with different stripes.
“The best-laid plans”
I think we have been invited to a Free event and Free lunch .. plus a pocket full of money to spend … At the end they locked all the doors but one and in a soothing voice told us on our way out to please deposit our personal belongings in the bin at the gate … Thanks for your attendance and be sure to come next week for more…. Be careful driving and don’t worry , trust us…. we have everything under control….
If they don’t have everything under control who exactly will be left standing?
As soon as responsible states/local governments realize that the Federal Government is going to electronically send billions to Illinois, New Jersey, Connecticut (just to name a few), then the responsible states are going to go on a spending spree. Why not?
As more people realize that the government is printing money and sending it to anyone that needs bailing out (students, corporations, states, local governments, pension plans, etc.), the responsible parties will become irresponsible. There will be absolutely no incentive to be financially responsible. In fact, there will be a disincentive.
Corporations figured this out years ago during the GFC and took full advantage with a dutiful GOP handing out tax cuts on top of it all
Am I wrong or in the face of inflation part of MMT credo is to raise taxes. Raising taxes when paychecks buy less is a hard political proposition.
The egg has a crack and a beak. MMT now or not does not matter at this time unless a Depression and across the board bankruptcies are preferred to prove a point.
What is the point of collecting taxes if the money can be printed as needed?
Party on, Wayne! Party on, Garth!
Heisenberg, your articles on MMT have been consistently among the best on the web. Thank you for your diligence in covering this topic. You were the first to bring it to my attention in January 2019, linking to the MacroTourist summary — https://heisenbergreport.com/2019/01/30/one-trader-delivers-everything-you-wanted-to-know-about-mmt-but-were-afraid-to-ask/ — and I’ve learned from every subsequent article, whether on Stephanie Kelton or, like here, other leading figures. Well done, sir.