The debates about MMT are expanding. There are weird offerings springing up each day. I read something yesterday about how MMT is really just Marxism in disguise and therefore a plot to overthrow entrepreneurship. Well in a socialist society there will still be a monetary system! Most of the critiques just get to their point quickly – MMT is about wild printing presses undermining the value of the currency! That should summarise 25 years of our work nicely. But there are also other developments on a global scale. A few weeks ago there was a lengthy debate in the Japanese parliament during a House of Representatives Committee hearing considering whether the October sales tax hikes should continue. The Finance Minister, Taro Aso was confronted by Committee members who indicated that it was useless denying that Modern Monetary Theory (MMT) was some abstract theory that was wrong because the Japanese are already “doing it”. The Minister told the hearing that MMT was dangerous and would undermine financial markets if anyone said otherwise. An interesting discussion took place. It highlighted some key features of MMT. It also indicates that progress is being made in the process of education aimed at giving people a better understanding of how the monetary system that we live within operates.
The true agenda
The Reuters Report (May 17, 2019) – Brainard: Modern monetary theory would pose risks in diminishing Fed’s authority – is only three paragraphs long but tells us a lot about the true agenda behind the myth of central bank independence.
The article was reporting on comments made by US Federal Reserve Governor Lael Brainard about Modern Monetary Theory (MMT).
It said that:
The set of ideas known as Modern Monetary Theory could poses risks in shifting authority over the economy from the Federal Reserve to Congress or other institutions more tied to political considerations.
She was quoted as saying:
Putting those responsibilities in an institution that has a lot of oversight but a little bit of independence – there are some virtues to that. And to the extent that moves to a different setting there may be risks.
The risk? That the voice of the people, exercised through their elected representatives might actually determine policy settings and those politicians will have to take responsibility for their actions and not be able to deflect such to unelected and largely unaccountable cabals like central bank committees.
The neoliberal way is to depoliticise economic policy.
That is shorthand for compromising democracy.
The Japanese MMT Laboratory
The Japanese Diet (Parliament) has been debating whether the planned sales tax rise on October 1, 2019 should go ahead or not.
I have written about the Japanese experience with sales tax rises before:
1. Japan is different, right? Wrong! Fiscal policy works (August 15, 2017).
2. Japan returns to 1997 – idiocy rules! (November 18, 2014).
3. Japan’s growth slows under tax hikes but the OECD want more (September 16, 2014).
4. Japan – signs of growth but grey clouds remain (May 21, 2015).
5. Japan thinks it is Greece but cannot remember 1997 (August 13, 2012).
Everytime they hike sales taxes, it ends in misery – spending falls and economic activity comes to a crashing halt.
They saw that in 1997. And again in 2014.
In April 2014, the Abe government raised the sales tax from 5 per cent to 8 per cent.
After the sales tax hike, there was a sharp drop in private consumption spending as a direct result of the policy shift. At the time, I predicted it would get worse unless they changed tack.
It certainly did get worse. Consumers stopped spending and the impact of static consumption expenditure was that business investment then lags.
Here is the history of real GDP growth (annualised) since the March-quarter 1994 to the March-quarter 2015. The red areas denote sales tax driven recessions.
In both episodes, these recessions were followed by a renewed bout of fiscal stimulus (monetary policy was ‘loose’ throughout).
In both episodes, there was a rapid return to sustained growth as a result of the fiscal boost.
Nothing could be clearer.
And the debate is back on the table in the Parliament.
However, this time, the debate has introduced MMT understandings which make it more interesting and bring out some really important aspects of our work.
The debates prompted the Wall Street Journal (May 15, 2019) article – ‘We’re Already Doing It’: Japan Tests Unorthodox Economic Doctrine (behind paywall) – to write:
But in Japan, MMT is at the center of a policy battle with imminent consequences: whether to proceed with an Oct. 1 sales-tax hike designed to trim the deficit.
The government plans to increase the sales tax from 8 to 10 per cent and has wheeled out an array of mainstream macroeconomic arguments about the evils of fiscal deficits to justify the decision.
In his annual – Speech on Fiscal Policy by Minister of Finance Aso at the 198th Session of the National Diet (January 28, 2019) – the Finance Minister said that the Government was making:
… steady efforts to achieve economic revitalization and fiscal consolidation … secure a stable source of funds by raising the consumption tax rate in October this year.
The context of these remarks was the “the declining birthrate and aging population” and the need “to establish a social security system oriented to all generations and secure its sustainability”.
So the usual suspects – government cannot afford to pay pensions as the society ages and thus needs to cut deficits to increase its capacity to fund said pensions.
The Finance Minister (Taro Aso) was quoted in the WSJ article as saying that:
It could loosen our fiscal discipline and be extremely dangerous.
He also claimed that “he didn’t want Japan to turn into a ‘test site’ for foreign economic theories.
Well I am sorry to say that Japan has been a great ‘laboratory’ for demonstrating the underlying principles of MMT for decades now, given that it has been the first nation to really explore what we might think of as the ‘extremes’ of fiscal and monetary policy.
Relatively high and sustained fiscal deficits.
Relatively high gross public debt to GDP ratios.
Zero interest rates.
Negative 10-year Japanese government bond yields.
Low inflation to deflation.
In Chapter 2 of our new MMT textbook – Macroeconomics – (published by Macmillan, March 2019), which is titled “How to Think and Do Macroeconomics”, we have a section “What Should a Macroeconomic Theory be Able to Explain?” and in that discussion we discuss “Japan’s persistent fiscal deficits: the glaring counterfactual case”.
Consult almost any other macroeconomics textbook and you will find the following propositions stated, in some form or another, as inalienable fact:
1. Persistent fiscal deficits push up short-term interest rates because the alleged need to finance higher deficits increases the demand for scarce savings relative to its supply.
2. These higher interest rates undermine private investment spending (the so-called ‘crowding out’ hypothesis).
3. Persistent fiscal deficits lead to bond markets demanding increasing yields on government debt.
4. The rising public debt-to-GDP ratio associated with the persistent fiscal deficits will eventually lead bond markets to withdraw their lending to the government and the government will run out of money.
5. Persistent fiscal deficits lead to accelerating inflation and potentially hyperinflation, which is highly detrimental to the macroeconomy.
To the ‘we knew it all along’ crew or the ‘MMT is crazy’ crew or derivations, they have to confront the fact that the 5 mainstream propositions are all disproven by the realities that Japan provides.
Japan has run a persistent deficit since 1992. A massive build-up of private indebtedness associated with a real estate boom, accompanied the five years of fiscal surpluses from 1987 to 1991. The boom crashed spectacularly in 1991 and was followed by a period of lower growth and the need for higher deficits. The convention in Japan is that the national government matches its fiscal deficit with the issuance of bonds to the non-government sector, principally the private domestic sector.
Unsurprisingly, given the institutional practice of issuing debt to the private bond markets to match the fiscal deficits, the debt ratio has risen over time as a reflection of the ongoing deficits that the Japanese government has been running to support growth in the economy and maintain relatively low unemployment rates
If the mainstream macroeconomic propositions summarised above correctly captured the way the real world operates, then we should have expected to see rising interest rates, increasing bond yields, and accelerating inflation in Japan, given the persistent fiscal deficits.
Did the persistent fiscal deficits in Japan drive up interest rates and government bond yields? The answer is clearly no!
The overnight interest rate in Japan, which is administered by the central bank, the Bank of Japan has stayed exceedingly low and has not responded adversely to the persistent fiscal deficits.
Long-term (10 year) bond yields (interest rates) on government debt have also stayed very low and not responded adversely to the persistent fiscal deficits. If investors considered the government debt had become increasingly risky to purchase, they would have demanded increasing yields to compensate for that risk. There is no such suggestion – that bond market investors have become wary of Japanese government bonds – to be found here.
The corollary is that the investors have also not signalled any unwillingness to purchase the debt; demand for the bonds remains high and yields remain low.
For example, the most recent 10-year bond auction was on May 3, 2019 (Issue No. 353) carried a nominal coupon rate (yield) of 0.1 per cent. There was 2,200 billion yen on offer and the Ministry of Finance recorded 7,609.5 billion competitive bids for the debt. The yield at the “lowest accepted price” was 0.00.
You can access all data – Auction Results for JGBs.
In terms of inflation, after the property boom crashed and the Japanese government began to run persistent and at times, large, fiscal deficits, the inflation rate has been low and often negative. There is clearly no inflationary bias in the modern Japanese economy, as persistently predicted by the mainstream economic theories.
The conclusion is obvious.
First, despite persistent deficits and a rising public debt-to-GDP ratio, along with a downgrade of Japan’s credit rating by international ratings agencies, including Fitch in April 2015, international bond markets have not ‘punished’ the Japanese government with high ten year interest rates on public debt nor has the central bank lost control of the overnight interest rate.
Second, the persistent deficits have not led to high rates of domestic inflation.
It is clear that the mainstream macroeconomic explanation of the relationships between fiscal deficits, interest rates, bond yields and inflation rates is unable to adequately capture the real world dynamics in Japan.
Such a categorical failure to provide an explanation suggests that the mainstream theory is seriously deficient.
In later chapters of the textbook we provide a detailed MMT explanation of these empirical outcomes.
The point is that the body of work we now call MMT has an impeccable record of capturing the dynamics of the Japanese monetary system and provided sound explanations for the data movements.
So Mr Aso – Japan is already ‘testing’ MMT. Thank you.
The Diet Records
If you go keep tabs on the discussions in the Japanese House of Representatives (the Diet) you will have come across some interesting discussions last month surrounding the sales tax debate.
The 198th National Assembly Finance and Finance Committee 12th met on Wednesday, April 17, 2019. Taro Aso was in attendance as were a host of Finance Ministry officials.
The Transcript of Proceedings – 第198回国会 財務金融委員会 第12号(平成31年4月17日(水曜日)) – makes interesting reading and is where the WSJ report comes from (even though the report was 2 weeks after the hearing.
The Finance Minister was asked by a Committee member:
There has been a lot of debate about MMT in the United States … Those who are proposing it say that Japan is ‘doing’ MMT currently – the Bank of Japan is carrying out a lot of fiscal actions and keeping interest rates low. They say that Japan is a good example of the principles of MMT. Do the Ministers agree with that?”
Money, Monetary Theory … MMT for short … this is often spoken about now by politicians, various people …
I don’t think we need to explain the theory here … there are many people in the US – many officials including Larry Summers who are against it … But to do it in Japan … and think about that kind of reaction the market would have … I do not intend to make Japan an experimental site for it.
To which a Committee member responded:
By the way, MMT stands for Modern Monetary Theory, so please do not continue to make a mistake …
But it remains that MMT proponents are saying that the Japanese government and the Bank of Japan have been demonstrating the principles of MMT for many years. Does the Minister think that they are mistaken?
As I said before … we are not experimenting with Modern Monetary Theory.
But do you think it is a sound theory … please tell us whether you have a positive or negative impression.
A Committee member then said:
I think MMT is just an excuse to delay fiscal consolidation and I think it is an outrageous argument. As Finance minister I think you should be more resolute in your rejection. It seems like you are vague about it. If so, I think that confidence in Japanese finances will fluctuate. Do you think that is okay?
Japanese public finances are not shaky. Interest rates are not rising in the current situation and our finances are fine in the medium- to long-term. We are reducing bond issuance by more than 10 trillion trillion yen.
We have transmitted to the market our intent to consolidate and there has been no adverse market response – no sudden fall in government bond tenders and no rise in interest rates …
We must continue in this direction which is why we have to increase the consumption tax …
The point is that the government has controlled the market and has kept interest rates low so that the government could make the debt environment easier and fiscal consolidation has been delayed … This is the essence of MMT and it says that Japan demonstrates best practice.
In other words, MMT proponents say that the Japanese government should postpone fiscal consolidation …
We repeat the same point … as a finance minister, do you think that MMT is correct or do you think it is wrong? Please answer only that point.
… I think I cannot follow such a dangerous story.
And so it went.
In the news brief – [PDF] 衆議院財務金融委員会ニュース (April 17, 2019) – which reported on the Committee proceedings it was stressed that it was necessary for the Minister to show a resolute attitude in rejecting MMT so that the market confidence in Japanese government finances was not undermined.
It was also stressed that if people started to follow MMT then the environment for fiscal consolidation would not be favourable.
I found this exchange really interesting. Think about it in relation to Lael Brainard’s fear that if politicians get hold of fiscal policy then they might pursue more “expansive social programs”.
The amazing thing about the Japanese discussion is that MMT provides a superior understanding of the dynamics of their monetary system.
It is not a matter of adopting MMT.
MMT should not been seen as a regime that you ‘apply’ or ‘switch to’ or ‘introduce’.
As I have noted regularly, MMT is rather a lens which allows us to see the true (intrinsic) workings of the fiat monetary system.
It helps us better understand the choices available to a currency-issuing government and the consequences of surrendering that currency-issuing capacity (as in the Eurozone).
It lifts the veil imposed by neoliberal ideology and forces the real questions and political choices out in the open.
An MMT understanding means that statements such as the ‘government cannot provide better services because it will run out of money’ are immediately known to be false.
Such an understanding will change the questions we ask of our politicians and the range of acceptable answers that they will be able to give. In this sense, an MMT understanding enhances the quality of our democracies.
By providing a detailed analysis of the link between fiscal policy and bank reserves, for example, MMT clearly helps us understand why the Japanese interest rates and bond yields have been maintained at very low levels indefinitely even though the fiscal deficits have been relative large for decades.
You do not get that understanding from reading a mainstream macroeconomics text book. Their predictions were completely wrong because their monetary framework, inasmuch as there is one, is deeply flawed – basically articulating a fictional world.
When mainstream economists say there is ‘nothing new’ about MMT or ‘we knew it all along’ they are simply lying and trying to cover their deep ignorance of the operations of the monetary system.
I challenge anyone to produce a mainstream textbook current or past that provides the deep insights about reserve operations, fiscal deficits and can explain the Japanese situation.
So poor Mr Aso – he thinks if he admits all that then the financial markets will go crazy. Yet, the financial markets already know all this stuff. While they may not call the reality they trade in MMT, the fact is that it is.
They haven’t been scared off in the last several decades and will not be if anyone dares to admit the obvious. MMT is all around us. Get used to it.
During the Japanese government discussions it was also highlighted that the Bank of Japan has been buying up an “increasing proportion” of government bonds which means that there is no real need for the bond market auctions anyway … another central MMT proposition.
This prompted a government member to tell Mr Aso that “You’re totally wrong. We’re already doing it”.
Finally, the other feature of the Committee discussions was in that the proponents of MMT in the House of Representatives spanned the ideological range.
There are two groups who are opposed to the sales tax rise and have invoked MMT as a defense:
1. “Ruling party conservatives”.
2. Communist Party members – one MP said that “MMT is gaining popularity in the US and Europe … it was a public backlash against austerity policies and the accumulated dissatisfaction has finally exploded. The same applies to Japan”.
The point is that MMT is agnostic about policy bar its preference for an employment buffer rather than an unemployment buffer to discipline inflation.
In general, it makes no sense to talk about an “MMT-type prescription” or an “MMT solution”.
To make that MMT understanding operational in a policy context, a value system or ideology must be introduced.
MMT is not intrinsically ‘Left-leaning’.
A Right-leaning person would advocate quite different policy prescriptions to a Left-leaning person even though they both shared the understanding of how the monetary system operates.
That is highlighted by these recent debates in the Japanese Parliament where conservative politicians and Communist party members have invoked MMT understandings to argue against sales tax hikes designed to reduce the fiscal deficit.
Progress is being made.
Now MMT is entering parliamentary debates and is the subject of condemnation motions and all the rest of it.
Things are moving along nicely.
And I hope Mr Aso can sleep well once he works out that MMT is all around him and the sky remains well above his head.
That is enough for today!
(c) Copyright 2019 William Mitchell. All Rights Reserved.