There is regular commentary here that seeks to argue that Modern Monetary Theory (MMT) is flawed, bereft or worse because apparently it avoids any discussion of the natural environment. This apparently arises from the inherent conclusion in MMT that growth in aggregate demand (and real GDP) is required to maintain high levels of employment, which are considered both economically and socially desirable. This is the first part of a two-part blog on this topic. We will see that MMT is highly sympathetic to the challenges posed by anthropogenic global warming (a catch-all term) and central policy indications that follow from an understanding of MMT (for example, the superiority of employment buffer stocks) lead to an understanding of how MMT is a green paradigm as opposed to mainstream (neo-liberal) economics and much of Post Keynesian thinking, the latter which relies on generalised expansion as the solution to entrenched unemployment. We conclude that those who seek to dismiss MMT because it doesn’t satisfy their particular pet solution to climate change issues have probably not read some of the earlier MMT literature nor understood fully what is required to develop and disseminate a new way of thinking about the economy. Further, MMT is not a theory about everything! What we will see is that when MMT advocates economic growth it does so with a very different view of what that economic growth might be comprised of and driven.
At an early Centre of Full Employment and Equity Conference (CofFEE) held in 1999 in Newcastle, Australia, I presented a paper, which probed the question of the “Future of Work” and the environmental constraints facing capitalist economies. This conference paper was subsequently published as W.F. Mitchell (2000) ‘The Job Guarantee in a Small Open Economy’. Economic and Labour Relations Review, Vol. 11, supplement). A scanned copy is available – The Job Guarantee in a Small Open Economy.
At the same conference, UMKC MMT colleague Mat Forstater gave an exceptional paper – Full Employment and Environmental Sustainability – where he outlined the way in which the central themes of MMT (with respect to policy implications) were consistent with the goal of environmental sustainability.
So it is clear that at least 14 odd years ago, the early developers of MMT were intent on placing their ideas within a debate about environmental limits and sustainability. There was no naivety, ignorance or disdain to the issues and it was obvious that a credible alternative economic framework had to be compatible with the broader challenges of our day.
Statement from commentators that MMT is not a valid theory because it does not provide a “full, rigorous and empirically supportable answer” to the issues of Limits To Growth and biospheric homeostatic boundary problems thus reflect the failure of the readers to appreciate the full MMT literature, how we have decided to develop the economic thought process, and the scope of the ideas.
Which leads me to admit, that unfortunately, MMT is not a theory of everything. It doesn’t provide any insights, for example, about Newton’s law of universal gravitation! It cannot tell us why the Planck constant orders microscopic action among physical forms. My, even the terminology – photons, wavelengths and the rest of the nomenclature of quantum mechanics is missing from MMT writing. MMT also will not help you understand why your sporting team loses continually.
But the point is that the early MMT work clearly recognised that economic growth and environment decay are intrinsically linked and an answer to the latter required a different approach than that offered by the mainstream economists (more about which later).
Given the macroeconomic imperative to achieve and sustain full employment, which requires economic growth in the usual meaning of the term – growth in output stimulates employment growth – we knew we had to address the apparent conflict between growth and environmental sustainability.
Further, the fact that I don’t write about these environmental matters every day or rarely in the context of this blog doesn’t mean that the challenges are ignored. Once we get people understanding the basic operations of a monetary system then we can move onto more sophisticated debates. The evidence is very clear – most people still have very little idea of how the economy works and why things happen the way they do.
Sustainability also cuts across dimensional boundaries. It was clear to the early MMT developers that defining full employment in terms of an adequacy of employment opportunities invokes a spatial dimension if we introduce another policy priority – the sustainability of social settlements – where people live and develop communities.
While neoclassical economics tends to think of space (inasmuch as it does) in terms of comparative and competitive advantage, I prefer to think that local communities are the building blocks of society.
The resilience and richness of communities, which in turn is predicated on the depth and strength of social networks, should be an intrinsic design element in a spatially-oriented macroeconomic policy whose aims extend beyond a concern with aggregate outcomes. An approach of this kind departs markedly from the pursuits of those who would merely supplement the Schumpeterian Post-National Workfare State (SPWS) with policies to promote ‘social capital’.
Motivation is provided by evidence that differentials in regional employment growth rates and regional unemployment rates have persisted in most countries since the early 1990s. In Australia, for example, despite relatively robust economic growth since the 1991 recession, which might have promoted convergence in regional labour market outcomes, spatial disparities in unemployment and employment growth have widened.
Some economic geographers (such as Bob Jessop) chart the development of the SPWS in advanced industrial economies driven by transformations in production technology and neo-liberal political strategies. The characteristics of these developments include a ‘hollowing-out’ of the national state in favour of regional devolution and supranational political forms (for example, NAFTA and the EU), the development of new forms of governmentality (facilitative, catalytic, involving partnerships with NGOs and private sector agencies), and a displacement of Keynesian welfare states with systems promoting international competitive advantage, often at the expense of declining ‘old industrial areas’.
Keynesians typically argue that regional employment varies with the changing distribution of industries across space and that the impact of aggregate factors is largely uniform within those industries.
However, even after controlling for industry composition, low growth regions experience stagnant labour conditions and negative shocks endure for a long time.
Neoclassical explanations for poor rates of convergence in regional outcomes tend to focus on wage differentials, low labour mobility and related structural impediments. I have published a lot of papers in the last decade which allows one to refute these claims and demonstrate that employment growth differentials and regional job accessibility strongly determine the health of regional labour markets.
There is strong evidence from various countries suggesting that low rates of job accessibility combine with patterns of local interactions to isolate the long-term joblessness. In this regard, the emerging literature on social interaction and dependence among economic agents and spatial spillovers is relevant to progressive economists who want to design full employment strategies.
These effects are compounded by agglomeration effects within industrial districts, which seem to be driven by ‘local information spillovers’ and capital accumulation processes.
Regional spillovers are most likely to exist in regions tightly linked by interregional migration, commuting and trade. These spill-over effects ensure that local shocks spread to neighbouring regions. Neighbourhood stratification and widening inequalities accompany these endogenous spatial dependencies.
These issues have occupied our research group for the last 15 years or so. What we argue is that full employment and the continuity and health of the social settlement are necessary conditions for achieving economic and social sustainability, which is the overarching aim.
However, they are not sufficient conditions. Without a balance being achieved between these elements and the natural (physical) environment, the macroeconomic situation is not sustainable.
Thus, a forward-looking, progressive macroeconomics – such as Modern Monetary Theory (MMT) – requires economic activity to be in balance with the natural environment. There are two aspects of this concept of ‘sustainability’ that are relevant to macroeconomic policy design: (a) the level of production (and consumption) must be consistent with the demands of the physical environment; and (b) locally- or community-based production should be encouraged.
All Post Keynesians agree that the orthodox (neo-liberal) unemployment buffer stock approach (NAIRU) to inflation control is costly and unacceptable. The neo-liberal solution to the resulting unemployment is to pursue supply-side policies (labour market deregulation, welfare state retrenchment, privatisation, and public-private partnerships) to give the economy ‘room’ to expand without cost pressures emerging.
Post Keynesians, in general, reject this strategy because the sacrifice ratios are high and the distributional implications (creation of under class and working poor and loss of essential services) are unsavoury.
However there is no alternative consensus. Some Post Keynesians, following closely the policy recommendations of Keynes himself advocate what I have termed ‘generalised expansion’, where the government ensures that spending is sufficient to purchase all available output.
In essence, this policy approach, purchases at market prices or provides incentives to profit-seekers to create private employment expansion. As a rule, public and private capital formation is targeted, although cash handouts to promote private consumption spending is also seen as being part of the generalised expansion toolkit.
Typically, Post Keynesians advocate generalised fiscal and monetary expansion mediated by incomes policy and controlled investment as a solution to unemployment. You will find no shortage of papers written by leading Post Keynesian economists advocating this approach.
Where MMT departs from this approach is that recognises that (indiscriminate) expansion in isolation is unlikely to lead to employment opportunities for the most disadvantaged members of society and does not incorporate an explicit counter-inflation mechanism.
It also fails to address the spatial labour market disparities. How can we be sure that the investment stimulated by fiscal expansion will provide jobs in failing regions? Upon what basis are the most disadvantaged workers with skills that are unlikely to match those required by new technologies going to be included in the ‘generalised expansion’? Where is the inflation anchor?
In the 1999 paper I mentioned above, I wrote that:
Even if it were possible to expand demand enough to promote growth sufficient to keep pace with labour force growth and productivity growth and mop up the huge stocks of long-term unemployment, how could the natural ecosystems, already under great strain, cope? There is a need to change the composition of final output toward environmentally sustainable activities. It is not increased demand per se that is necessary, but increased demand in certain areas of activity.
Which provides the clue to the approach that MMT takes when advocating economic growth. Growth is necessary for employment but it cannot be unfettered and left to the market. It has to be a very guided growth with new tools not normally used by economists to help governments decide on what their contribution should be and how they should regulate the contribution of the non-government sector.
It is clear that MMT places the government at the centre of the solution to environmental problems. In the paper by Mathew Forstater cited above we read:
Because competition compels firms to base their decisions on private cost minimization, there are considerable obstacles to producing green products, utilizing cleaner technologies and alternative energy. Absent a comprehensive environmental program, expanding the private sector through Keynesian stimulus all but assures increased use of nonrenewable resources, more pollution, and more products with short life cycles and that harm the environment. Pumping up the private sector does not address the issues regarding the composition of output and the technological structure of production, so crucial for sustainability
This raises the issue noted above of how economists conceive of decision-making and policy frameworks. In this blog – Australia’s response to climate change gets worse … – I outlined for non-economists how carbon taxes and trading schemes work.
I also reported on a public forum that I was invited to speak at in 2009 on the future for Australian coal. This invitation stemmed as a result of a lot of modelling I have done with my CofFEE colleagues on the employment impacts of replacing coal with renewables.
I provided links to the program content (it was an ABC national production) in this blog – Climate change – Australian government further entrenches the market myth.
At that Forum, I argued for a rules-based regulation approach rather than a market-based approach to this issue. This distinction – policy choice – is not central in the public debate because of the dominance of the neo-liberal ideology. Even The Greens are not advancing rules-based regulation in any coherent way.
The important point is that carbon trading schemes (CTS) are neo-liberal constructs which start with the presumption that a free market is the best way to organise allocation.
They recognise market-failure – that is negative externalities arising from the fact that the true cost of carbon use is not reflected in the final price we pay in the goods and services that rely on it and hence we over allocate resources to those industries. The ETS aims to reduce emissions through price incentives. But as I argued (see the blogs cited) they are deeply flawed as a result of their rationalist underpinnings.
Emission trading schemes amount to nothing more than a privatisation of the commons asset which we call the atmosphere. It is hard to see why progressive thinkers (including The Greens) would ever contemplate supporting such an approach. Emission trading schemes create private property relations over public space.
While I outlined a number of flaws in the market approach to climate change, one issue which is of paramount relevance here is that markets are insensitive to biological systems. The mainstream economics approach is that you can pay for pollution through more growth. We have to generate wealth before we can clean the place up. Many progressives also believe this line.
Mainstream economic theories about resource efficiency are based on the idea of a production possibilities frontier where maximum output is obtained through some optimal mix of inputs (including pollution). The only thing you need to do is make sure the true costs of all resources are reflected in the mix.
That theory underpins the idea of an emission trading schemes. Any type of cap scheme assumes that there is some known pollution level that is safe. But market systems do not know when a biological system dies – so we need to be more risk averse than economists would recommend.
There may be a point – that we certainly cannot predict with any accuracy – beyond which there is no trade-off between pollution and other goods and services. After that point the planet dies.
Further, it is clear that the tools that mainstream economists use to guide policy design and in particular regulation designed to address environmental challenges are inadequate.
Mainstream economics approaches the issue of environmental sustainability in a way that makes little distinction between the intrinsic qualities of the resources being used in production. They are all productive resources and come at a price which should be minimised by the techniques chosen.
The problem of environmental pollution and resource depletion is seen as a problem of incomplete specification of property rights (after the work of Ronald Coase) such that the market price for the use of the natural resources is unable to be correctly arrived at. Correctly means in terms of the “market optimum”.
This is sometimes related to the statement that capitalist firms make decisions based on private costs and benefits and aim to minimise those costs in the pursuit of the private objective. So if a resource that forms part of the overall resource mix is not paid for in the same way as other resources then it is not considered in the decision-making process.
For example, a firm might emit pollution in a river which impacts on people downstream. But if there are no enforceable property rights on that river then the firm will not consider the “cost” of that pollution and thus overproduce the product that causes the emission.
The mainstream approach is to argue that the property rights to clean water should be defined and enforced which would give those downstream legal recourse and push the “price” of the product up, and according to market logic, drive the demand down to some optimal and equilibrium level – reflecting the true use values and costs.
The obvious question is: What if the river dies and cannot be replaced in the same way that a worn-out piece of machinery can be replaced or renovated?
The market solution considers that once the property rights can be priced then optimal transactions will occur.
In that case, CBA will be the essential decision-making tool to determine whether a course of action will be followed. CBA seeks to monetise all the costs and benefits of some proposed action. That is, all aspects of an activity are quantified in dollar terms.
Then the framework delivers a straight-forward (so-called objective) result by analysing the discounted monetary flows over the course of the “project” – that is, the present values. If the net benefit-cost ratio (in present value terms) exceeds one then the project deliver net benefits. Projects are then ranked according to the size of the ratio.
The technique has led to economists proposing the most outrageous estimates of the “value of a human life”. For example, in Mankiw’s textbook – Principles of Economics – we learn about the “value of a statistical life” (VSL), which is defined as the is “the value placed on changes in the likelihood of death”.
This article (October 7, 2008) – How to value life? EPA devalues its estimate – is an interesting introduction to these notions.
Forensic economists apply these mindless tools to valuing the loss of a limb or integer etc. Always a market-based approach is taken. And, I would argue, always is the estimate grossly wrong.
In 2005, there was an interesting paper published by the Georgetown Law Scholarly Commons – Applying Cost-Benefit to Past Decisions: Was Environmental Protection Ever a Good Idea?. It was also published under the same title in the Administrative Law Review, Vol 57, 155-192, but you need a subscription for that version.
The paper is interesting because it probes the issue of whether CBA delivers good outcomes to regulators. The authors note that “(o)ne of the most contentious issues in contemporary debates over environmental policy is whether regulators should use cost-benefit analysis in evaluating their decisions”.
Economists have long tried to argue that CBA “is a neutral tool” although the critics have responded by suggesting that CBA is just a “one-way street to deregulation”.
The paper then asks a simple question:
If this analytical device had been applied in the 1970s and earlier, would it have endorsed the early successes of health and environmental regulation? Or would it have resulted in negative judgments wherever and whenever it was applied? The latter is the more accurate answer, with just a few exceptions …
They investigate three major case studies – the “removal of lead from gasoline in the 1970s and 1980s”; “the decision not to dam the Grand Canyon for hydroelectric power in the 1960s” and “the strict regulation of workplace exposure to vinyl chloride in 1974”. Each of these decisions, now hailed as being successful, were not arrived at via CBA.
So given how beneficial the decisions have been, the authors suggest they should also have easily passed the CBA criteria.
The conclusion (it is a very interesting article and approach to read in detail) is that if the respective decisions had have relied on CBA then the resulting protective legislation and/or decisions would not have been taken.
For example, the authors say that:
… cost-benefit analysis would have shown that vinyl chloride regulation was too expensive for the benefits it produced. It would seemingly have been optimal, in cost-benefit terms, to have allowed more workers to die of cancer every year in order to have cheaper vinyl siding on the market.
The upshot is that the reason that these beneficial decisions were taken is because “economics has not been the gatekeeper, allowed to make the final decision on which regulations will take effect and which will not”. If economists had have been given the latitude to make decisions using CBA then the nation would have:
… in retrospect, have gotten the wrong answer time after time.
On of the reasons why the standard economics approach fails is because in environmental instances (and most cases for that matter) many of the important societal benefits are unquantifiable and thus ignored in CBA.
The authors summarise this by saying that:
In a word, the benefits are priceless.
Their results are consistent with other retrospective evaluations. For example, the US Environmental Protection Agency (EPA) performed a “multi-year, peer-reviewed study … of the first 20 years of the Clean Air Act (1970-90)” – Retrospective Study – 1970 to 1990 – (published in 1997). This study “found benefits from air pollution regulation equal to about forty times the costs”.
But the point is that this result could not have been adduced from CBA at the time the Clean Air Act was legislated because a “huge proportion of the benefits found by the EPA were due to regulating emissions of fine particles in the air–but the full magnitude of the harm done by such particles was not known for many years after the Act was first implemented”.
By contrast, cost-effectiveness analysis doesn’t seek to apply a monetary value to the decision-making framework. CEA still attempts to compare “the relative costs and outcomes (effects) of two or more courses of action” but uses different (non-monetary) measures to define the benefits of the proposed actions.
For example, in medical examples where the cost of a human life is notoriously evasive of monetary valuation, CEA migth use as the denominator the “a gain in health” measured perhaps by “years of life” or “premature births averted”. The costs are the monetary outlays associated with the particular health gain.
The other important point, which stems from this basic difference in approach is summarised by my colleague Mathew Forstater, in the paper I cited earlier. We read:
In cost-benefit analysis (of which Pigouvian and Coasian analyses are particular forms), the ends of policy are determined by the (economic) analysis itself. The amount of pollution to be emitted, the amount of a resource to be depleted, or wetlands to be preserved, will be the amount corresponding to the equilibrium. In cost-effectiveness analysis, on the other hand, the ends are determined outside the economics, say by a democratic political process informed by scientific information regarding the biophysical limits. Economics is then employed to try to find the most cost-effective means for attaining those independently determined ends. This is a huge difference. To get the point across, for some it may be more useful to mention that cost-benefit analysis can be used to derive the optimal level of child labor, the optimal level of slavery, or the optimal level of crime.
So once again, the ignorance of the possibility of a biological limit is central to the flawed mainstream approach.
MMT proponents see the economy as a vehicle for human welfare rather than an end in itself. The economy is the means and should be managed in that manner.
This fits in well with a rules-based approach to environmental issues. The society decides that they want clean air and rely on the government to advance that agenda. The government, in turn, employs various techniques (including CEA) to ensure that the policies they choose to achieve the collective end are efficient (that is, not wasteful or counter-productive to other policy goals such as full employment).
MMT proponents don’t consider an “optimal level of pollution” is a valid concept.
In Part 2 I will address these issues in more detail. As a inkling to where the argument will go consider this.
While environmental constraints militate against generalised Keynesian expansion, Job Guarantee proponents emphasise the regional dispersion of unemployment. Higher output levels are required to increase employment, but the composition of output remains a pivotal policy issue.
Job Guarantee jobs would be designed to support local community development and advance environmental sustainability. Job Guarantee workers could participate in many community-based, socially beneficial activities that have intergenerational payoffs, including urban renewal projects, community and personal care, and environmental schemes such as reforestation, sand dune stabilisation, and river valley and erosion control.
Further, those who criticise the Job Guarantee from a Kaleckian viewpoint have to address the issue of binding constraints. Kalecki comes from a traditional Marxian framework where industrial capital and labour face each other in conflict. The goals of capital are antithetical to those of labour.
In this environment, the relative bargaining power of the two sides determines the distribution of income and the rate of accumulation. Industrial capital protects its powerful position by balancing the high profits that come from strong growth with the need to keep labour weak through unemployment.
However, the swings in bargaining power that have marked this conflict over many years have no natural limits. But the concept of natural capital, ignored by Kalecki and other Marxians, is now becoming the binding constraint on the functionality and longevity of the system.
It doesn’t really matter what the state of distributional conflict is if the biosystem fails to support the continued levels of production. The research agenda for Marxians and Kaleckians has to embrace this additional factor – natural capital.
Paul Hawken said in 1999 that:
We fire people, perfectly capable people, to wring out one more wave of profits. Some of the restructuring is necessary and overdue. But, as physicists Amory Lovins and Ernst von Weizsšcker have repeatedly advised, what we should do is fire the unproductive kilowatts, barrels of oil, tons of material, and pulp from old-growth forests — and hire more people to do so.
Happy New Year
This is the last blog for 2012. It has been a mixed year but overall progress towards the abandonment of the dominant neo-liberal paradigm has been very slow.
Millions of people will not be enjoying the heralding of 2013 tonight because their governments have deliberately forced them to endure long-term unemployment and increased poverty rates.
The dominant paradigm has failed but still maintains its hegemony. More effort is need in 2013 to spread the alternative approach (MMT) and empower people to challenge the elites and invoke a collective spirit.
So onto next year – which I hope is a happy one for all my readers.
That is enough for today!
(c) Copyright 2012 Bill Mitchell. All Rights Reserved.