Avoiding a recession: the Fed conundrum

LevyInstituteThe Levy Economics Institute has published their annual Strategic Analysis paper on the current state of, and prospects for, the US economy, which is always an interesting read. The Institute is non-partisan, but much of its research and output takes its inspiration from two great post-Keynesian economists of the past: Hyman Minsky and Wynne Godley, who both emphasised the importance of aggregate demand to the state of the economy, in the short run and the long run, and the interaction of real and financial factors.

A summary of this short paper can be found here, and the pdf can be downloaded here.

As the paper notes, the US recovery from the pandemic-triggered recession has been swift, with GDP now above its pre-pandemic level, and the employment rate almost there, thanks in large part to the extraordinary scale of the fiscal stimulus enacted by the government. However, it has also been associated with a deteriorating current account deficit and a rise in inflation. Continue reading

Can tax cuts reduce inflation?

TaxCutsHere in the UK, foreign secretary Liz Truss, leadership candidate for the Conservative Party and potentially our future Prime Minister, has promised immediate tax cuts should she win the contest. She claims that these cuts will boost economic growth and lower inflation. With this approach to policy she will thus somehow solve two of the major current afflictions of the UK economy. Although she has been criticised by a number of party grandees and former ministers, she is claiming Thatcherite precedent for her views. Her rival for the top job, former finance minister Rishi Sunak, has responded by framing her ideas as ‘fantasy’ economics. Indeed her pronouncements do have a whiff of what has been called ‘cakeism’ (ie having your cake and eating it too). This is a key character trait of our ‘caretaker’ Prime Minister Boris Johnson, who is famously unwilling to deliver bad news, preferring instead to rely on ‘boosterism’ to try and please his audience.

So how could tax cuts deliver the economic goodies? The UK economy has performed poorly since the mid-2000s, compared both with its own history and with other comparable countries. Growth in output and productivity has been weak. Raising productivity growth is vital to improving living standards, including the delivery of high quality public goods and services such as health, education and infrastructure, which also support a vibrant private sector. Continue reading

Inflation: should we take away the soup bowl? — Real-World Economics Review Blog

The graph below has been constructed by economists of the European Central Bank. It’s based on national accounts data. It shows that present day inflation is profit driven, not wage driven. Money flows to profits, not wages. What does this mean for monetary, fiscal and income policy, taking some other aspects of inflation into consideration? […]

Inflation: should we take away the soup bowl? — Real-World Economics Review Blog

Quote of the week: the administrative problems in achieving full employment

Copland-DouglasDouglas Copland was a Australian academic and economist, who advised a number of his country’s governments during his distinguished career. In this week’s quote, I again draw on the edited 1947 volume The New Economics: Keynes’ Influence on Theory and Public Policy. Here Copland discusses some of the practical administrative problems of the Keynesian policy of achieving full employment in a free democratic society. As he makes clear, it is unlikely to be easy. It requires cooperation between the state and the private sector, including certain controls on free enterprise, which the private sector may well resent or resist. Indeed this resistance, which could be overcome in times of national emergency such as war, is likely to be more challenging in peacetime. This proved to be the case as the post-war period progressed, and eventually the Keynesian social democratic consensus collapsed in the 1970s when it seemed to fail in its aim of securing full employment with moderate inflation, and many industrialised economies were beset by stagflation, with unemployment and inflation rising together. In the 1980s politics in the US and the UK in particular shifted to the right, with the rise of an ideology which argued for the retreat of the state and the restoration of greater freedom to the private sector. Continue reading

What’s causing accelerating inflation: pandemic or policy response?

Prominent Modern Monetary Theorist L. Randall Wray and Yeva Nersisyan have written a new working paper published by the Levy Economics Institute. In it they examine the possible causes of the current accelerating inflation in the US. They look at factors on the demand-side, in the form of the fiscal stimulus policy response to the pandemic. They also look at those on the supply-side which are more directly due to the impact of the pandemic itself, such as supply chain disruption, alongside the pricing power of large firms.

In the end, they mainly blame supply-side factors and conclude that a tightening of monetary policy in the form of rising interest rates is likely to be a crude and somewhat ineffective response to higher inflation. If it does work to reduce inflation, it will be accompanied by an economic slowdown or recession, rising unemployment, falling wages, rising debt distress, bankruptcy and even a new financial crisis. In Keynesian fashion the authors see these negative outcomes as hindering the adjustment of the economy. Tipping the economy into recession in order to reduce inflation would also undermine the current benefits of a tighter labour market which by increasing wages for the lowest paid can help to reduce income inequality. Continue reading

Anwar Shaikh on successful macroeconomic stimulus

Anwar-InterviewHere is a link to a short but interesting paper by Anwar Shaikh on the conduct of successful macroeconomic stimulus. Shaikh is the author of the magisterial Capitalism: Competition, Conflict, Crises and works in the tradition of ‘classical’ economics, being greatly inspired by Adam Smith, David Ricardo and Karl Marx, but also by John Maynard Keynes. His book is an attempt to integrate ideas and theories from these four greats into a comprehensive modern analysis of capitalism as an economic system.

The paper notes some historical examples of successful (the US during WWII, Germany in the 1930s) and unsuccessful (many countries during the 1970s, Brazil in the 2000s) application of macroeconomic stimulus intended to accelerate economic growth and reduce unemployment. He comes to the conclusion that if such policies are not to be derailed by rising inflation and/or falling profitability for the economy as a whole, then an incomes policy is necessary to ensure that wages increase in line with productivity; an industrial policy is also needed to sustain rising productivity. Continue reading

The political economy of the current inflation

Contando_Dinheiro_(8228640)Today’s inflation is leading to calls for mitigating policy responses. The distributional outcomes of higher inflation are necessarily uneven, creating winners and losers across society and the economy. I outline some of the likely impacts on households, businesses, government, and the wider economy, as well as the effects of changes in economic policy.

In recent months rising inflation, termed ‘the cost of living crisis’ by the media, has become a major issue for households, businesses and, increasingly, governments and central banks, who are tasked with policy responses. Caused by a combination of bottlenecks in global supply chains and recovering demand as many economies emerge from severe pandemic-induced downturns, it has hit rates not seen for decades in countries such as the US and UK. What are the likely impacts on the various elements of the economy? It is important for decision makers across the economy, from ordinary workers to policymakers, to understand how higher inflation can affect livelihoods and behaviour. Continue reading

Questioning Modern Monetary Theory: Part 2

Contando_Dinheiro_(8228640)This is the second part in a new series which explores some aspects of Modern Monetary Theory. As I’ve said already, the series does not aim to be comprehensive. Rather, I cover the aspects which I find most interesting. Here I focus on fiscal policy.

How is the government budget different to a household budget?

Governments of all stripes, as well as many economists, often caution against running persistent budget deficits, with public spending exceeding tax revenue. They liken the situation to a household that cannot maintain spending greater than its income, and accumulates debt until the situation becomes unsustainable. However the government budget is very different to a household budget. Continue reading

Questioning Modern Monetary Theory: an introduction

TheDeficitMythI recently finished reading Stephanie Kelton’s The Deficit Myth which, judging by the number of reviews it has generated on amazon alone, has been a huge seller, at least for a popular economics book. Whether one agrees with her arguments or not, it was an enjoyable read.

The book makes accessible to a general audience the main ideas of Modern Monetary Theory (hereafter MMT), which has created much heat, and perhaps some light, across social media and the blogosphere. According to Michael Hudson, MMT sees money and credit as a public utility, and a creature of the state, which can potentially be used by governments to achieve all sorts of progressive goals, particularly full employment with moderate inflation, but also reduced inequality and poverty, a Green New Deal, improved public health, education and infrastructure, and so on. The mainstream focus on balancing the government budget, either over the economic cycle, or even, for some economists, at all times, is apparently shown to be misguided. Instead, the main economic constraint facing the government is inflation due to inadequate aggregate supply or a shortage of resources in the face of expanding aggregate demand, whether that is a shortage of labour or other factors of production.

Many MMTers argue that full employment can be achieved and sustained by a Job Guarantee (JG) scheme, so that all those otherwise unemployed who wish to work should be offered a public sector job at the minimum wage providing useful goods and services. In a recession with private sector employment falling, the JG scheme would automatically expand, employing the otherwise unemployed in the public sector. This would also cushion the economy from the usual recessionary fall in aggregate demand. As private sector employment recovers, the JG scheme would shrink, so that JG workers would transfer to higher wage jobs in the private sector.

Contrary to some popular criticisms, MMTers argue that their ideas are not an excuse for the government to print money and forget about budget deficits. If inflation rises above target, policymakers should raise taxes to reduce aggregate demand and shrink the deficit, reducing inflation that is believed to be mostly caused by a limited supply of real resources, as already mentioned. The JG scheme, since the jobs it provides pay the minimum wage, should help to stabilize inflation by anchoring wages across the whole economy to those set by the (public sector) scheme. To the extent that inflation can be caused by wages rising faster than productivity, with firms passing on such cost increases to output prices, the JG scheme can act as a sort of incomes policy by restraining wage inflation.

So MMT potentially offers all sorts of public policy goodies to the left, with apparently little cost economically.

This then is the introduction to a series of posts on MMT which aim to explore and critique (rather than criticise) some of its aspects. The series does not aim to be comprehensive. Instead, I will write about aspects which I find interesting, whether I think they are correct or otherwise. It will be set out as a series of questions and answers, which can be an appealing format, and one which focuses the mind on whatever topic is being suggested.