Three Things to Keep in Mind About the MMT Debate

(Bloomberg Opinion) -- Despite having been slammed by several prominent economists, policymakers and top Wall Street corporate leaders, modern monetary theory is not going away anytime soon. If anything, the debate over MMT will continue to fuel an interesting conversation among academics, politicians and policymakers. The more this happens, the greater the need for market participants to be aware of the following three issues:

1. The MMT debate will continue to be energized by the coincidence of multiple current and historical factors.

The current window for the MMT debate has been opened by the protracted period of reliance on unconventional central bank policies that has followed the global financial crisis and the European debt crisis. Despite the initial concerns expressed by some economists, this period of ultra-low interest rates and ballooning central bank balance sheets has not led to any meaningful inflation scare or the crowding out of private sector activity.

MMT builds on that: If central banks could buy bonds to try to stimulate the economy through the impact of quantitative easing on financial volatility and financial assets (which are owned overwhelmingly by the better-off segments of society), why couldn’t central bank financing be used more broadly for the greater good? This idea relies on the persistence of low interest rates, stable and low inflation, well behaved credit risk spreads at a time of rising debt levels around the world, and the willingness of central banks to live with permanently bigger balance sheets.

Then there is the experience of Japan, which used monetary policy for decades to fund deficits and did not end up financially unstable as conventional wisdom might have predicted. And you can add to that a particular interpretation of the post-World War II “even keel” approach to fiscal-monetary policy coordination in advanced countries, which is seen by MMT proponents as having underpinned an extraordinary period of recovery and prosperity.

2. The MMT debate has planted the seeds of both deeper insights and analytical excesses. 

The debate has merit in stimulating greater discussion of whether the global economy’s changed structural parameters, including a permanently lower “r-star,” or natural rate of interest, allows governments to run larger economically sustainable deficits than was previously thought possible. (Additional structural influences include the disinflationary effects of technological innovations and demographic changes.) It comes at a time of concerns about a declining global growth rate, shrinking potential, and a deep inequality trifecta (of income, wealth and opportunity).

The main risk – those “analytical excesses” that I worry about — is that MMT proponents may go too far in building a secular case for fiscal priorities to dictate monetary policy and for printing money to enable ever growing government deficits. More generally, this would also erode central bank autonomy and undermine confidence in the policymaking process, especially during periods of economic/financial volatility and uncertainty.

3. Several themes are likely to play out as the debate intensifies.

One of the biggest risks is that the MMT debate will result in a polarization of views that diverts attention away from what is both feasible and desirable in the middle. One example that could win bipartisan support on Capitol Hill might be a program to modernize infrastructure, funded through a combination of cost-effective financing and public-private partnerships. The increasingly polarizing debate in economics and politics, including both across traditional economic wings and within the ranks of progressive economists, could make such concrete action increasingly difficult.

Complicating the picture is that all this is occurring at a time when the Federal Reserve has initiated a review of its policy framework and tools. This widens the scope for rendering the Fed more vulnerable to political interference.

We are also likely to hear more and more about “fairness” from the MMT camp. Given that experimental central bank policies have already been used to save the financial system, repress financial volatility, boost asset prices and de facto favor the wealthy who own financial assets, why not experiment further in order to target more broadly and more directly the well-being of society?

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Mohamed A. El-Erian is a Bloomberg Opinion columnist. He is the chief economic adviser at Allianz SE, the parent company of Pimco, where he served as CEO and co-CIO. His books include “The Only Game in Town” and “When Markets Collide.”

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