In a Washington Post op-ed piece dated March 4, Lawrence Summers, one of the most deliberative and experienced economists, issued dire warnings on the risks associated with Modern Monetary Theory, a new school of thought.
It proposes that in an era of low interest rates, central banks could finance increased government spending by increasing money supply to stimulate economic growth or protect against a recession.
The warnings were directed at the extreme or asymptotic conditions of the theory. But, while it was a valid idea, the article disappointed by not expanding on why, when or how the theory could be practicable or useful.
Of course, stretched-out, abused and misused Modern Monetary Theory is silly and will lead to both increased inflation and currency depreciation. But this is like saying “alcohol will destroy mankind” without realizing that used in moderation and only by responsible people, it might have beneficial and enjoyable effects.
Also, directly comparing it to supply-side economics can be confusing. The former deals with central bank monetary policy while the latter, associated with the still unproven Laffer-curve theory — where tax cuts would pay for themselves by promoting growth — deals with fiscal policy. Two totally different kinds of policies that could each be economically beneficial when pursued in moderation, but damaging when misused.
The legacy of supply-side economics is easy to see. Repeatedly overused tax cuts produced larger budget deficits which accumulated over the past 20 years to unsustainable levels. The U.S. public debt is now more than $22 trillion, galloping at a faster growth rate than that of the GDP.
Just recently the Bureau of Economic Analysis came out with its first-cut GDP growth numbers. After unprecedented tax cuts more than $2 trillion, the economy grew at 2.9 percent in 2018 while producing another budget deficit approaching $1 trillion. By comparison, the U.S. economy had also grown by the same 2.9 percent in 2015 but with a deficit about half as large and without tax cuts taking the national debt to unwelcome heights..
When will economists and politicians admit that George H.W. Bush was right when he called misguided overreliance on tax cuts “voodoo economics”?
It seems reasonable therefore that before we consider which monetary theory to embrace, we should first extricate ourselves from what has been a demonstrably misguided mindset of fiscal policy, without falling in the mental traps of right vs. left wing classifications.
As to monetary policy, without dwelling on the merits of modern versus classic monetary theories, the time has also come to reduce the reliance on the Federal Reserve to sustain America’s prosperity.
The latter results from other forms of proactive policies, focused on productivity gains by boosting the value and reach of a nation’s human capital versus the shuffling of interest rates or money supply. Laissez-faire economics is a lazy man’s sport, not the champion’s approach to global competitiveness.
The good news is that none of this is unknown to the Fed, America’s central bank. It would be surprising if Alan Greenspan, Ben Bernanke, Janet Yellen or Jerome Powell thinks otherwise.
If the Fed thinks we can finance increased infrastructure or public-works spending (i.e. constructive, accretive investments) through increased money supply without sacrificing the value of the dollar or inviting a spike in inflation, they may be more accommodating. But they will have to fit in a grander, bolder vision articulated by Congress that should form the basis to revise the Fed’s new mandate.
What will that revised monetary policy be called then? It doesn’t matter as long as it is done in tandem with prudent fiscal policies, both pushing in the same direction versus one sabotaging the other.
Simply put, the days of burdening the Fed with supply-side economics (i.e. fiscal follies) are over. The question is what will we have instead in a decelerating economy where thoughtful policy leadership has never been more critical since the 1950s.
Moris Simson is a fellow of the IC² Institute at The University of Texas at Austin and a member of the American College of Corporate Directors.
A version of this op-ed appeared in The Hill.