I read the headline in the UK Guardian from yesterday (September 15, 2010) – Unemployment claimant count rises unexpectedly which apparently confounded forecasts. The hopes for an export-led recovery as the expectations of the forthcoming public austerity damage private spending plans took a further hammering with the data release showing the “highest balance of trade deficit on record” in Britain and “surveys of the services and construction sectors showing employer sentiment deteriorating sharply”. Why is this surprising? The fact that the so-called analysts and the press are surprised only tells me that they do not understand the way the macroeconomic system works. When there are already severe aggregate demand constraints and the government announces that soon enough they will brutalise public spending what would you expect but a further decline in economic activity? When the rest of the world is easing the fiscal stimulus under the concerted attack by the deficit terrorists why would you expect the balance of payments to dramatically improve? None of this surprises me at all. It is exactly what an understanding of the monetary system would lead one to predict.The reality is that to lower unemployment you need to spend more. There are no surprises in that.

The headline news for today was that the actor Kevin McCarthy died at the age of 96. He was the star of the legendary 1956 science fiction movie the Invasion of the Body Snatchers which was about a doctor who tried to tell the world that it was being invaded by the emotionless alien Pod People. The movie was in the “so bad that it was good” category. Given the ending was open, perhaps we can persuade some of the Pods to return and subsume a few neo-liberals and also some progressives who have neo-liberal tendencies. There has been a lot of noise lately about why Modern Monetary Theory (MMT) is essentially misguided because it ignores the dangers of the external sector. The claim goes that while there is no financial constraint on government spending, expansionary policy leads to an expanding current account deficit and rising foreign debt levels which are unsustainable over any period longer than a few years. Okay, we have heard this all before. Here are some thoughts.

I have noticed a few commentators expressing concern about the dangers that might arise if a nation runs a persistent current account deficit. There have been suggestions that this area of analysis is the Achilles heel of Modern Monetary Theory (MMT). I beg to differ. A foundation principle of MMT is that to be able to freely focus on the domestic economy, the national government has to be freed from targetting any external goals – such as a particular exchange rate parity. The only effective way for this to happen is if the exchange rate floats freely. In this sense, the exchange rate is the adjustment mechanism for external imbalances.

There are several strands to the mainstream neo-liberal attack on government macroeconomic policy activism. They get recycled regularly. Yesterday, I noted the temporal sequencing in the attacks – need for deregulation; financial crisis; sovereign debt crisis; financial repression and so on. Today, I am looking at another faux agenda – the demand that central banks should be independent of the political process. There has been a huge body of literature emerge to support this agenda over the last 30 odd years. The argument is always clothed in authoritative statements about the optimal mix of price stability and maximum real output growth and supported by heavy (for economists) mathematical models. If you understand this literature you soon realise that it is an ideological front. The models are note useful in describing the real world – they have no credible empirical content and are designed to hide the fact that the proponents do not want governments to do what we elect them to do – that is, advancing general welfare. The agenda is also tied in with the growing demand for fiscal rules which will further undermine public purpose in policy.

Given I am currently in Washington DC, I thought a local story would be appropriate for today’s blog. In February 2010, the IMF published a Staff Paper which reversed its long-standing position on capital controls. Staring at the hard evidence that nations, which had imposed constraints on surging capital inflows to attenuate the negative economic impacts, fared better in the recent global financial crisis, the IMF has acknowledged that their previous position based on free trade back by total liberalisation of cross-border financial flows was unsustainable. They now argue that controls on capital inflows can be effective if well designed and safeguard an economy from the costs of speculative attacks. Some progressives are calling this a revolution. I am less convinced. From a Modern Monetary Theory (MMT) perspective, I would solve the problem by placing total bans on speculative flows that do not back real production (for example, that reduce foreign exchange exposure in cross-border trade). But this is another example of the zealous position that has been long-advocated and implemented by the IMF has failed to safeguard national economies from the destructive forces released by the increasing financialisation of the global economy.

Today I wasted 20 minutes reading about the end of the World. But before I did that I read some so-called progressive literature that was calling on the UK government in tomorrow night’s budget to seek a balanced budget. You say what? That’s right, what goes for progressive thought these days is what used to be the exemplar of fiscal conservativism not so long ago. While the current crisis exposed most of the myths that mainstream economists have promoted for years it seems that progressives are not seizing the day but trying to sound more reasonable (read: right-wing conservative) than the conservatives. The crisis has also pushed all these opinionated loonies like Niall Ferguson into prominence. Its getting pretty lonely out here …. wherever I am (and don’t say the left word)! (<= joke).

Last week (February 10, 2010), the ever-louder irrational rantings of Niall Ferguson about debt got another airing in the Financial Times in his article – A Greek crisis is coming to America. My two word reaction – which might be better than writing a whole blog was – Oh really! But the article demonstrates how desperate conservative academic commentary is becoming. The inflated self-importance of these characters quite obviously craves for ever increasing attention. However, not only does Ferguson demonstrate a poor attention to detail; a confusion about which monetary system is which; and a denial of history – but he also discloses such a vivid imagination that he might productively turn his hand to writing children’s fairy tales. Except then he would have to lighten up a bit or the kid’s would be having nightmares. As for the rest of us, we should be getting the lifeboats out if he is right. For me, I am staying on dry land except in the mornings when I chase those waves!

Today I have had the misfortune of reading the latest Australian Government Intergenerational Report, which is really a confection of lies, half-truths interspersed with irrelevancies and sometimes some interesting facts. Why an educated nation tolerates this rubbish is beyond me. The media has been making a meal of the latest report and all the doom merchants – those deficit terrorists – a claiming we have to get into surplus as soon as possible. They seem to be ignoring that we are still embroiled in a major economic crisis requiring on-going fiscal support. But more importantly, they haven’t a clue what their policy proposals actually would mean in a modern monetary economy where external deficits are typical and the private sector overall is desiring to increase their saving. Anyway, read on … its all downhill.

In a sea of conservative media, two articles stood out this weekend which captures a debate that should be raging but will be quickly buried under the re-emerging neo-liberal hubris unless significant new alliances are formed. In recent weeks, as different economies are showing some signs of recovery, some key players within mainstream economics have been coming out in defence of the profession. They have been accusing critics of misunderstanding what economics is all about and saying that economists have actually saved the world. I covered some of this sort of positioning in Friday’s blog. In this blog I continue that theme but from a different angle. The conclusion is that if we want real change then “one should become more radical as one grows older”. We will see what that means as we go.

In the past, when I have advocated setting the central bank policy rate to zero and leaving it there several readers have suggested that this would set off uncontrollable asset price bubbles particularly in the housing sector. Indeed, the view among mainstream economists is that lax monetary policy in the US caused the sub-prime housing crisis. It is an intuitively attractive view for those who do not really understand how the monetary system operates and the complex distributional impacts that varying interest rates have. Today’s blog considers a US Federal Reserve research paper that has just been released which rejects the notion that “loose” monetary policy was to blame. It is an interesting research exercise.

Several readers have E-mailed about the concept of a multiplier in macroeconomics particularly in light of comments I made yesterday about the current debate as to whether the deficits will be expansionary and whether it would be better to cut taxes rather than increase spending. There appears to be a lot of confusion about the most basic concepts involved so this blog seeks to address some of those issues. It is not a comprehensive literature review.

Today the Australian Bureau of Statistics released the September quarter National Accounts data which gives us the rear-vision mirror view of how the economy has been travelling while we have all been speculating. The good news is that real GDP continued to grow. The bad news is that the Australian economy is creeping along the bottom. It just managed to keep its head above zero line in the September quarter courtesy of the strong public investment associated with the now, daily-maligned, fiscal expansion. The labour market was clearly spared the worst by declining productivity. As productivity returns to more reasonable rates of growth, unemployment will rise unless GDP growth turns significantly upwards … quickly. Having said all that – there is nothing in today’s data to warm the frozen hearts of the conservative deficit-haters. They should just find a ship to get on and boost our exports.

Today I was in Sydney for some meetings and also I attended the first sessions of the Society of Heterodox Economists conference. I took some papers with me to read on the train coming back to Newcastle. Sitting on the train for 3 hours presents a good opportunity to catch up on back-reading. While I would have been better off reading the Phantom comic that I had in my bag, I chose, instead, to read the latest fiscal analysis provided by the IMF. The paper I discuss here is typical of the whole debate at present. It cannot provide any evidence to advance its scary “deficit and public debt” vision, but it doesn’t let the facts get in the way of presenting it anyway. My professional assessment. These guys should get a real job.

I was in Sydney today doing various things (see below). It was an interesting day but this morning’s activity gave me some hope that there are community leaders out there who want to fight back and jettison the neo-liberal garbage that is constraining their ability to deliver social equity and job security for their members. My input to the discussion was to tie this in to the macroeconomic debate. These macroeconomic matters – which I write hundreds of thousands of words every year about – really lie at the heart of the problems facing low wage workers and the unemployed. Unless we successfully counter the orthodoxy then tinkering around the edges will be all that we can do. I realise the macroeconomic concepts are difficult to talk about in an accessible way. I also realise that the neo-liberal orthodoxy has been incredibly successful in inculcating notions that the Federal budget is akin to a household budget. Readers of this blog will know it can never be that way. So the challenge for our community leaders is to develop a macro narrative which can permeate the public debate and slowly redefine how we see government; what goals we want the government to pursue (full employment) and how they do business with employers. That is an interesting challenge and I like things like that.