History’s Lesson for Democrats: Don’t Be Afraid of Economic Experiments
(Bloomberg Opinion) -- The raging debate over modern monetary theory is part of a larger struggle over what type of thinking should govern Democratic economic policy as the party looks ahead to retaking power in Washington in the 2020s. MMT — a school of thought championed by economist and Bloomberg Opinion contributor Stephanie Kelton that explores the fiscal possibilities open to a government that issues its own currency — is just the latest clash. As the 2010s wind down, we can see that heterodox risks taken over the past decade haven’t been damaging, as some thought they would be. In the same span, mainstream economic thinking has often fallen short. Democrats should give heterodox ideas more of a chance.
Three policy paths taken over the past decade have had their mainstream critics, but the fears have not come to pass.
The first was the fiscal and monetary stimulus in response to the financial crisis. Interest rates were cut to zero, and the Federal Reserve purchased trillions of dollars of securities via quantitative easing. Through automatic stabilizers and fiscal stimulus, the U.S. government ran trillion-dollar budget deficits for almost four years. Critics argued that would lead to inflation, a crash in the dollar, and a loss of faith in the U.S., but it didn’t happen. With the benefit of hindsight, in fact, the criticism now is that the government and the Fed could have done more to stimulate the economy, as the recovery for most of the decade has been slower than desired.
The second was a different approach to thinking about labor market slack, which has helped lead the Fed to tighten monetary policy more slowly than a conventional approach might have suggested. At the end of 2012, when the Fed was thinking about when to start its monetary tightening cycle, then-Chairman Ben Bernanke’s initial idea was not to hike until the unemployment rate fell to 6.5 percent, a level that was not breached until the spring of 2014.
Over time the Fed’s thinking on the labor market has evolved, with Bernanke’s successor Janet Yellen saying the Fed would look at a variety of indicators when thinking about the state of the labor market. Still others, like economists Adam Ozimek of Moody’s and Ernie Tedeschi of Evercore ISI, have suggested the key metric to focus on is the percentage of prime-aged people who are employed, which over the past two decades has shown a better link to wage growth than has the unemployment rate outright. As of now, that view has been more vindicated than the Fed’s thinking earlier this decade.
The third idea was the deficit-expanding tax cut put forth by President Donald Trump and congressional Republicans. The conventional Democratic thinking on this was that “pro-cyclical stimulus” — boosting economic growth — at a time of low unemployment would do little more than crowd out private sector activity and increase inflation to worrisome levels while expanding the budget deficit to unhealthy levels. While the tax bill’s record on stimulating investment remains unclear, 2018 did produce a year of 3 percent real economic growth with an acceleration in wage growth. Inflation has remained around the Federal Reserve’s target of 2 percent, and while the budget deficit did expand as predicted, longer-term interest rates and inflation expectations have not risen. The core fear of crowding out and higher inflation has not come to pass.
Mainstream thinking, on the other hand, looking back at the past few decades of evidence, has continued to let down workers. From the late 1970s through most of this decade real earnings for median workers have been stagnant. Fiscal and monetary policy have been tight — perhaps too tight, as policy makers were wary of effects from the national debt, budget deficits and inflation that never materialized. A laissez-faire approach to banking and financial markets allowed for excess speculation and leverage, leading the Fed to tighten monetary policy to contain financial market excesses even when inflation wasn’t at worrisome levels, harming workers.
So when Democrats encounter new approaches like modern monetary theory, which claims that real resource constraints rather than financial constraints are what to worry about when it comes to fiscal policy, they should be willing to give the heterodox ideas a chance. None of the recent experiments generated high inflation or significantly weakened the dollar.
After all, if inflation bubbles up, we’ve got plenty of mainstream thinking to fall back on.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Conor Sen is a Bloomberg Opinion columnist. He is a portfolio manager for New River Investments in Atlanta and has been a contributor to the Atlantic and Business Insider.
©2019 Bloomberg L.P.