In Chapter 24 of The General Theory of Employment, Interest and Money, Concluding Notes on the Social Philosophy towards which the General Theory might Lead, John Maynard Keynes confronted the issue of the “arbitrary and inequitable distribution of wealth and incomes” in capitalist economies. The argument he advances in that Chapter of his 1936 book contains guidelines for the progressive left that some just cannot seem to grasp. In short, governments (as our agents) do not need the savings of the rich to ensure that society prospers. There was another interesting contribution in 1946 from the American statistician and economist – Beardsley Ruml – who wrote that “Taxes for Revenue are Obsolete”. The progressive left would be advised to study his work and stop building political policy platforms on the claim that governments needs to make the rich pay their fair share of taxes so that adequate public services and infrastructure can be provided. The incomes and taxes paid by the rich are largely irrelevant to the capacity of a national, currency-issuing government to provide first-class public services and infrastructure. It is time to re-frame the debate and the way in which progressive political forces state their policy aspirations. This bears on the current interesting struggle in Britain for the leadership of their Labour Party.
In Chapter 24 of the General Theory, Keynes considers that the:
… outstanding faults of the economic society in which we live are its failure to provide for full employment and its arbitrary and inequitable distribution of wealth and incomes.
He said his work (the General Theory) had obvious relevance for the first fault – “failure to provide for full employment” – because it demonstrated categorically that mass unemployment was the result of a deficiency of total spending in the economy and that governments could easily use their fiscal capacities (spending and taxation) to redress that ill.
This observation destroyed the existing ‘macroeconomics’ of the day which had maintained that unemployment was due to excessive real wages and that wage cuts would restore full employment.
In the early years of the Great Depression, the ‘Treasury View’ (wage cutting) was tried and failed dramatically. Keynes’ insights, which built on what Marx had already understood and explained in detail many decades earlier, were demonstrated to be valid as governments introduced major fiscal stimulus and job creation programs to combat the growing mass unemployment in the 1930s.
The onset of the Second World War and the rise in fiscal deficits as governments sought to prosecute their respective War efforts ended the Great Depression and set the scene in the subsequent peace time for several decades of full employment managed by appropriate fiscal policy use.
That era ended when the neo-liberals stormed back into the policy dominance.
Chapter 24 also noted that their were “two important respects in which … [the General Theory] … is relevant to the second” fault – the “arbitrary and inequitable distribution of wealth and incomes”.
Since the end of the nineteenth century significant progress towards the removal of very great disparities of wealth and income has been achieved through the instrument of direct taxation — income tax and surtax and death duties — especially in Great Britain. Many people would wish to see this process carried much further, but they are deterred by two considerations; partly by the fear of making skilful evasions too much worth while and also of diminishing unduly the motive towards risk-taking, but mainly, I think, by the belief that the growth of capital depends upon the strength of the motive towards individual saving and that for a large proportion of this growth we are dependent on the savings of the rich out of their superfluity. Our argument does not affect the first of these considerations. But it may considerably modify our attitude towards the second. For we have seen that, up to the point where full employment prevails, the growth of capital depends not at all on a low propensity to consume but is, on the contrary, held back by it; and only in conditions of full employment is a low propensity to consume conducive to the growth of capital. Moreover, experience suggests that in existing conditions saving by institutions and through sinking funds is more than adequate, and that measures for the redistribution of incomes in a way likely to raise the propensity to consume may prove positively favourable to the growth of capital.
In other words, the high saving of the rich actually undermine the capacity of the economy to achieve full employment and if they spent more then the government would not have to spend as much to achieve that aim.
But the idea that these savings were essential to fund government spending and could be accessed by taxing the rich was clearly understood by Keynes to be flawed reasoning.
In 1946, Beardsley Ruml published his 4-page article – Taxes for Revenue Are Obsolete – in the journal American Affairs (January 1946, Vol VIII, No 1), which carried the sub-title “A Quarterly Journal of Free Opinion”.
This journal was published by the – National Industrial Conference Board, Inc – which is now known as the Conference Board.
The article is one of those gems that make you wonder why economists and politicians have been able to obscure the truth for so long and generate millions of unemployed and poverty in the process.
Once again, it is consistent with today’s theme – that the viability of the spending programs of a currency-issuing government is not dependent on high-income earners or the wealthy for tax revenue or their savings.
At the tine Beardsley Ruml was the Chairman of the Federal Reserve Bank of New York and the bio in the “Notes on Contributors” in the Journal described him as “an audacious thinker in the new world of social fiscal policy”.
Ruml’s argument was straightforward:
… given (1) control of a central banking system and (2) an inconvertible currency, a sovereign national government is finally free of money worries and need no longer levy taxes for the purpose of providing itself with revenue. All taxation, therefore should be regarded from the point of view of social and economic consequences.
Regular readers will no doubt identify this sentiment with Abba Lerner’s Functional Finance theories, which provide essential underpinnings to Modern Monetary Theory (MMT).
Please read my blog – Functional finance and modern monetary theory – for more discussion on this point.
I will come back to that.
Ruml began by noting that:
Taxation is one of the limitations placed by government on the power of business to do what it pleases … issues in the taxation of business are not moral issues, but are questions of practical effect: What will get the best results? How should business be taxes so that business will make the greatest contribution to the common good?
Ruml said that before we answer those questions:
… We must first ask: “Why does the government need to tax at all?”
He noted that a “simple answer” was “likely to be a superficial one”:
… that taxes provide the revenue which the government needs in order to pay its bills.
He noted that this was not true because governments had demonstrated a capacity to borrow to “supplement their revenues”. He observed that when government became reliant on borrowing and hence “the sources from which the money can be obtained”, the bond markets have the power to push up interest rates.
Ultimately such a government had to fall back on taxation to get clear of the power of the bond markets and remain solvent.
But, and this was his substantive point:
The necessity for a government to tax in order to maintain both its independence and its solvency is true for state and local governments, but it is not true for a national government. Two changes of the greatest consequence have occurred in the last twenty-five years which have substantially altered the position of the national state with respect to the financing of its current requirements.
The first of these changes is the gaining of vast new experience in the management of central banks.
The second change is the elimination, for domestic purposes, of the convertibility of the currency into gold.
So, where the currency issued by the central bank “is not convertible into gold or into other commodity”, then Federal government “has final freedom from the money market in meeting its financial requirements.”
And this means that decisions to tax have to be made on non-revenue grounds as noted above. Ruml said “All federal taxes must meet the test of public policy and practical effect. The public purpose which is served should never be obscured in a tax program under the mask of raising revenue”.
Most recently, I have been critical of Jeremy Corbyn’s campaign for leadership which has emphasised taxing the rich to fund public expenditure on progressive programs.
Please read my blogs:
Ruml would have made the same criticisms.
Public purpose is the goal (however defined) and taxation policy should support that aim and never be justified as a means of raising funds to permit government to spend.
In 1943, American economist Abba Lerner published his article – Functional Finance and the Federal Debt:
Many of our publicly minded men who have come to see that deficit spending actually works still oppose the permanent maintenance of prosperity because in their failure to see how it works they are easily frightened by fairy tales of terrible consequences.
His aim was to provide a roadmap for governments aiming to eliminate “economic insecurity” and to elucidate the “principles by which appropriate government action can maintain prosperity”.
Lerner understood that people are “easily frightened by fairy tales of terrible consequences” when new ideas are presented. The sense of fright is driven by a lack of education that leaves people unable to comprehend how the economy actually operates.
His approach should be a source of empowerment to progressives. I have read a lot in the last few weeks in the context of Jeremy Corbyn’s campaign about how it is correct for him to adopt neo-liberal narratives (eliminating the deficit etc) because otherwise the electorate will reject him.
Lerner never believed that sort of surrender politics. To him it would have represented the anathema of leadership and public purpose pursuit.
Neo-liberals magnify that sense of fright, by demonising what are otherwise sensible and viable explanations of economic matters. They know that by elevating these ideas into the domain of fear and taboo, they increase the probability that political acceptance of the ideas will not be forthcoming.
That strategy advances their ideological agenda.
The basic rules that should guide government fiscal policy are, as Lerner noted, “extremely simple” and “it is this simplicity which makes the public suspect it as too slick”.
Neo-liberals who have vested interests in ensuring that the public does not understand the true options available to a government that issues its own currency manipulate that suspicion. In the place of these simple truths, neo-liberals advance a sequence of myths and metaphors that they know will resonate with the public and become the reality.
Significantly, Lerner distinguished between what he called “functional finance” and “sound finance”, the latter being the orthodoxy he confronted.
‘Sound finance’, which also dominates the public debate in the current period, is usually expressed in terms of some defined fiscal and monetary policy rules. For example, governments should aim for a fiscal balance or not allow deficits to exceed 3 per cent of GDP.
Equally, the central bank should only allow the money supply to increase in line with the rate of output growth. These rules, which are rarely challenged, usually disguise an underlying conservative morality about the role of government (for example, deficits are characterised as “living beyond the means”).
Ruml clearly knew that this morality appeal was fallacious and diverted the public from the truth of the matter.
Abba Lerner considered a government should always use its policy capacity to achieve full employment and price stability and thought that fiscal or monetary policy rules based on conservative morality were not likely to help in that regard.
In contrast to “sound finance”, Lerner said:
The central idea is that government fiscal policy, its spending and taxing, its borrowing and repayment of loans, its issue of new money and its withdrawal of money, shall all be undertaken with an eye only to the results of these actions on the economy and not to any established traditional doctrine about what is sound and what is unsound … The principle of judging fiscal measures by the way they work or function in the economy we may call functional finance.The first responsibility of the government (since nobody else can undertake the responsibility) is to keep the total rate of spending in the country on goods and services neither greater nor less than that rate which at the current prices would buy all the goods that it is possible to produce. If total spending is allowed to go above this there will be inflation, and if it is allowed to go below this there will be unemployment. The government can increase total spending by spending more itself or by reducing taxes so that taxpayers have more money left to spend. It can reduce total spending by spending less itself or by raising taxes so that taxpayers have less money left to spend. By these means total spending can be kept at the required level, where it will be enough to buy the goods that can be produced by all who want to work, and yet not enough to bring inflation by demanding (at current prices) more than can be produced. (Emphasis in original)
Lerner”s “first law of Functional Finance”, recognises that the government responsibility should be to adjust its spending and taxation to ensure that all production is purchased and that this level of production generates jobs for all, such that the society cannot produce any more goods and services with its current available inputs.
What are the financial implications of this? Lerner noted that if in fulfilling its responsibilities, the government recorded a fiscal deficit, then it:
… would have to provide the difference by borrowing or printing money. In neither case should the government feel that there is anything especially good or bad about this result.
The goal is to “concentrate on keeping the total rate of spending neither too small nor too great, in this way preventing both unemployment and inflation” (p. 40). Importantly, assessments of “good” or “bad” are defined purely in terms of whether the government is achieving its goals.
Obviously, moral considerations enter at the stage of setting goals. It is clearly a values-based position to aim for a state where everyone who desires work can find it. Once agreed that this will be the societal goal, then we should be indifferent, if in different circumstances, a deficit of 1 per cent of GDP or a deficit of 5 per cent of GDP is required to meet that goal.
Thinking in this way flushes out the role of ideology. The neo-liberals obscure their disregard for mass unemployment by claiming that the 5 per cent deficit is dangerous and unsustainable.
If the public truly understood that the 5 per cent deficit is as sustainable as the 1 per cent deficit, then the neo-liberals would be forced to debate their preference for mass unemployment.
Clearly, the public would not generally accept that ideological preference and that is why the neo-liberals have to obfuscate their true motivations and hide behind the financial myths concerning the sustainability of government deficits and erect the metaphorical defense structures.
Lerner noted that:
… taxing is never to be undertaken merely because the government needs to make money payments … [it should] … be imposed only when it is desirable that the taxpayers shall have less money to spend”
Lerner also understood (as Ruml did) that a federal deficit could be matched by central bank credits (the so-called “printing money” option).
The term “printing money” is not used in MMT because it is not descriptive of the actual process that underpins government spending. The term also invokes irrational emotional responses about hyperinflation with the Weimar Republic or Zimbabwe immediately entering the conversation, and reasoned debate then becomes impossible.
Lerner was keenly aware that the conservative economists considered the “printing money” option to be taboo. He remarked that the:
… almost instinctive revulsion that we have to the idea of printing money, and the tendency to identify it with inflation, can be overcome if we calm ourselves and take note that this printing does not affect the amount of money spent.
To put it another way, the only reason the government would increase its deficit would be to fill a widening shortfall between the total spending required to maintain full employment and current private spending.
This would not be inflationary if the sales boost allows firms to maintain their current levels of production and eliminate unsold inventory. If governments expanded the deficits beyond that point then inflation would threaten. But the inflation risk lies in the spending growth rate, not whether the government matches its deficit with debt issuance or new money.
If the non-government sector, upon receipt of this new money, decided to reduce its current saving rate and to spend more, then the deficit would have to be lower to avoid higher inflation.
Equally, holders of government bonds could decide to liquidate their stocks and spend more. In the same way as before, this would require a lower deficit. The choice of debt issuance or new money creation is separate to the desire to avoid a surge in inflation.
For example, the Labour politicians in the United Kingdom confront the austerity debate with claims that they would “fix the budget” over a longer time period to avoid the massive damage that immediate austerity brings. Of course, even debating the “health” of the fiscal position in terms of some financial ratios is ceding ground to the conservatives, ground that is illegitimate.
Lerner (1951: 15) called progressives who argued in this way “proponents of organized prosperity” and said:
A kind of timidity makes them shrink from saying anything that might shock the respectable upholders of traditional doctrine and tempts them to disguise the new doctrine so that it might be easily mistaken for the old. This does not help much, for they are soon found out, and it hinders them because in endeavoring to make the new doctrine appear harmless in the eyes of the upholders of tradition, they often damage their case. Thus instead of saying that the size of the national debt is of no great concern … [and] … that the budget may have to be unbalanced and that this is insignificant when compared with the attainment of prosperity, it is proposed to disguise an unbalanced budget (and therefore the size of the national debt) by having an elaborate system of annual, cyclical, capital, and other special budgets.
Progressives should first and foremost seek to educate the public about how the economy and money actually operate and what opportunities the government has to act on our behalf to advance our well-being.
If we think in this way, then options that have been constructed by the neo-liberals to be “dangerous”, “radical” or “taboo” will start to appear reasonable and grounded in reality.
The next step is that they eventually become the mainstream orthodoxy. Progressives should avoid petty conversations that lead to statements such as ‘we will reduce the deficit more slowly than you but we will still reduce it’.
Ruml clearly was operating with this understanding. He said that “Federal taxes … serve four principle purposes of a social and economic character”:
1. As an instrument of fiscal policy to help stabilize the purchasing power of the dollar;
2. To express public policy in the distribution of wealth and income …
3. To express public policy in subsidizing or in penalizing various industries and economic groups;
4. To isolate and assess directly the costs of certain national benefits, such as highways and social security.
So the government might impose taxes:
1. To control inflation.
2. To redistribute purchasing power from the rich to the poor (high income to low income).
3. To alter the allocation of resources away from undesirable ends – such as tobacco taxes.
4. To provide some hypothecated public transparency for major projects/programs.
So from a functional finance perspective, taxation must be designed to advance these purposes and the public discussion must be about the idea of public purpose and never about raising revenue.
In my recent blog – Correcting political ignorance and misperceptions – I made the point that the progressive challenge is to reframe macroeconomics to ensure that the neo-liberal myths are exposed. But it must begin, not with discussions about “facts” and “logic”, but rather broader outlines of the the social purpose of government policy.
This broad vision is in sharp contrast with the neo-liberal view of the economy as a natural entity, separated from us, which gets sick if government attempts to alter its natural course.
The social purpose of government policy should be articulated and narrated in ways that will resonate with and activate the frames in our brains that constrain the way we interpret information.
This is what Ruml is on about when he said that the starting point are not “tax questions” but “questions as to the kind of country we want and the kind of life we want to lead”.
He understood that a primary role for taxation was “the maintenance of a dollar which has a stable purchasing power … the avoidance of inflation”:
If federal taxes are insufficient or of the wrong kind, the purchasing power in the hands of the public is likely to be greater than the output of goods and services with which this purchasing demand can be satisfied.
The result would be inflation. Note that implicit in this statement is that the government wants to command a certain quantity of the available real goods and services to fulfillits socio-economic program.
The excessive private sector purchasing power is thus assessed relative to the total available real output and the government’s desire to command some of that output.
He went on to discuss the other purposes of taxation and when a tax might be considered a “bad tax”, which he considers undermine the capacity of corporations to advance public purpose. I will leave it to your interest to read the rest of his argument which really just illustrates his substantive point that “Taxes for Revenue Are Obsolete”.
Interestingly, in the same issue of American Affairs, there was an article by a Bradford B. Smith, who was introduced as a “one of the brilliant young economists on the conservative side”. His article – “Why We Can’t Buy Full Employment” – was a textbook exposition of what we would now consider to be neo-liberal thinking.
Lerner would have considered it to be one of those “fairy tales of terrible consequences” that scare people into conservativism.
How one could construct Smith’s exposition as that of a “brilliant” mind is beyond me. He goes through the “three ways to find the money” that the government would need to generate full employment and concludes they would all be disasters.
He focused on “The Printing Press” – that is the central bank just crediting bank accounts on behalf of the government. His argument against this essentially comes down to this:
If the government should print money wholesale it would scare people, for too many of them have heard about “continentals,” “greenbacks,” the “trillion-to-one” depreciation of the German mark. So, just to print money in too obvious a fashion would require a great deal of explaining and reassuring, and this could well prove rather inconvenient.
If that wasn’t enough, he went on to claim that allowing a government to pursue full employment via increased fiscal deficits would “constitute a major victory for totalitarianism in America.” Forced labour at slave wage rates follows.
Hmm, not much has changed in nigh on 70 years has it.
Beardsley Ruml was an important contributor to our understanding of the opportunities available to a government which uses its central bank to advance public purpose.
His insights – as the Chairman of the Federal Reserve Bank of New York – were consistent with the body of work that Abba Lerner provided under the guise of Functional Finance.
Both economists contributed to the literature that has been woven into what we now refer to as MMT.
In the current context, it demonstrates how lame the British Labour leadership debate is. The statements from Jeremy Corbyn’s opponents appear to be asinine in the extreme when one applies a deep understanding of the issues being debated.
But as I have said previously, statements about eliminating the deficit are also based on false premises and should be abandoned.
As Lerner said when he addressed the problem of progressives who present their arguments in a conservative way because the public might not understand the fundamentals of functional finance:
The scholars who understand it hesitate to speak out boldly for fear that the people will not understand. The people, who understand it quite easily, also fear to speak out while they wait for the scholars to speak out first. The difference between our present situation and that of the story is that it is not an emperor but the people who are periodically made to go naked and hungry and insecure and discontented – a ready prey to less timid organizers of discontent for the destruction of civilization. (Emphasis in original)
Developing comprehension is just the first step. A bold confidence is also required to withstand the vilification that comes with expressing ideas that are contrary to the neo-liberal norms.
Upcoming Event – Reframing the Debate: Economics for a Progressive Politics, London, August 27, 2015
The NHA is very pleased to be able to present an evening with Professor Bill Mitchell, Professor of Economics and renowned proponent of Modern Monetary Theory, during his visit to the UK at the end of this month.
Come and join Professor Mitchell in conversation with Richard Murphy (Tax Research) and Ann Pettifor (Prime Economics), both currently economic advisors to Jeremy Corbyn”s campaign.
The original venue has proven to be (very) small relative to demand. It was fully subscribed in a few hours. The organisers are now seeking a larger venue.
All readers who have E-mailed me indicating that you wanted to attend but could not get tickets please go to the WWW site for Registration and use the Contact link (at the bottom) to send your name and contact details to the organisers so they can ensure you get in to the new venue – should they find a larger venue.
The Event will be held on Thursday, August 27, 2015 from 18:30 to 20:30 (BST)
That is enough for today!
(c) Copyright 2015 William Mitchell. All Rights Reserved.