Great Leap Forward

Warren Mosler & MMT: Deficit Lovers?

Here’s a piece from yesterday’s NYTimes by Annie Lowrey: Warren Mosler, a Deficit Lover With a Following 

While this is a mostly good piece on Warren, Lowrey gets enough of it wrong to call into question her ability as a reporter. Yes, Warren designed and built a yacht, and he designed and built great race cars (even if his first model was called one of the fifty worst cars ever–for its unorthodox looks, not for its performance). It is also true that Modern Money Theory has taken off in the blogosphere, where it has picked up tens of thousands of followers. And Warren just completed a whirlwind speaking tour in Italy that attracted hundreds of listeners even in small towns. (Try that, any other American economist!)

The rest of her piece is filled with bias and mistakes. First, while it is true that Warren’s former hedge fund lost money in a Russian deal, he had already sold out his stake and was not involved. Warren knew the risks of pegging a currency and opposed the deal from the beginning. Note however, that the deal was much more complicated than Lowrey implies. As I recall, the position was hedged but some major international banks defaulted on their promises; eventually Warren’s former firm collected damages. In any event, the risks of pegging a currency are well-known by followers of MMT and the Russian default is perfectly consistent with MMT’s teachings.

Lowrey also quotes Stephanie Kelton as saying ““These ideas definitely aren’t disseminated through published academic journals.”  “It’s all on the Internet.” Stephanie said no such thing. And of course, it is pure nonsense. There are dozens and dozens of scholarly papers published in the academic journals on MMT. There are critiques of MMT and responses to the critics. The ideas have been debated since the mid 1990s by PhD economists. Lowrey is a lazy reporter as this would have been easy to check; or she came to the story with a bias, trying to paint MMT as silly. Indeed, she likens MMT to Ron Paul’s gold buggism–which has no academic support at all. Yes, the internet blogs have been essential to spreading the ideas of MMT outside academia–and that is a good thing–but Lowrey’s attempt to dismiss it stinks of bias. One wonders if her famous NYTimes Nobel winning economics columnist colleague put her up to this.

She also quotes blogger Mark Thoma as follows:

“They deny the fact that the government use of real resources can drive the real interest rate up,” said Mark Thoma, an economics professor and widely followed blogger who teaches at the University of Oregon. After delving into the technical details of modern monetary theory for a few minutes, he paused, then added, “I think it’s just nuts.”

The last part rings true–I don’t think Thoma has spent more than a few minutes to try to understand MMT (and he doesn’t understand any of it). But if he did say that “government use of real resources” might “drive the real interest rate up”, then he’s far more confused about macroeconomics than I ever suspected. It is one of the dumbest statements I’ve ever seen in print, so I suppose she made it up. What nonsense.

The “real interest rate” is a compound term, comprised of the nominal interest rate and the rate of inflation. Technically, the real rate is the nominal rate less expected inflation. As we know, the Fed sets the overnight nominal rate. The real rate is then the Fed’s target rate less expected inflation.

Now it is possible that “government use of real resources” MIGHT raise expectations of inflation. That is what gold buggism is all about. So let us say Ron Paul whips up inflationary expectations. What happens to the real rate? Well, we are subtracting a bigger expected inflation number from the Fed’s target rate. SO THE REAL RATE GOES DOWN! Now, Thoma might think the Fed will also react to Ron Paul’s gold buggism and so increase its target rate. How much? Who knows. Is there any guarantee the Fed will raise it MORE than Ron Paul raises inflation expectations? I see no reason why one would jump to that conclusion. And historically, the ex post real rate does often fall when inflation rises (it even goes massively negative).

That is not proof that it is impossible for the real rate to rise when government uses real resources, but there’s no reason to think the real rate automatically goes up. It depends. On whether inflation expectations increase by less than the Fed raises the nominal rate target.

Finally, Warren and “Deficit Owls” are by no means “deficit lovers”–so Lowrey’s title is misleading. There’s a time for deficits, a time for balanced budgets, and even a time for budget surpluses. It all depends on the other two sectors (reminder: Government Balance + Private Domestic Balance + Foreign Balance = 0). A more accurate title would have been: Warren Mosler: Not Afraid of Deficits.

At least Lowrey had the good sense to interview Jamie Galbraith. This is a nice statement:

 “There’s a whole deficit lobby of Peterson-funded groups arguing we’re turning into Greece,” said James K. Galbraith, an economist at the University of Texas at Austin. “They’re blowing smoke and the M.M.T. group has patiently explained why.”

Precisely. MMT tries to expose Peterson as running a dishonest scare campaign in order to push through his policy to gut the social safety net. It is not that we “love deficits”. It is that we hate dishonesty.


33 Responses to “Warren Mosler & MMT: Deficit Lovers?”

NeilWJuly 5th, 2013 at 2:21 pm

Getting noticed though.

I'm getting an increasing number of "you're just nuts" and "stop spouting pseudo-economics" responses. No engagement in the technicalities, or the issues at hand. Just ad-hominem attempts at character assassinations.

I'm no conspiracy theorist, but if there are people being paid to shoot down alternatives at least they have a job and are helping keep the economy moving along.

So from that point of view I'm duty bound to give them something to shoot at. I wouldn't want them to lose their job after all.

Rob RawlingsJuly 5th, 2013 at 3:21 pm

"They deny the fact that the government use of real resources can drive the real interest rate up"

If the govt paid for those resources by taxation (or suppressing private spending in some other way) then perhaps this could be true. But if it used borrowing then how could this not put upward pressure on real interest rates? For sure the CB could maintain the overnight rate at the old level and as inflation expectations increased then then the real interest would indeed fall. But if it kept the nominal rate fixed then those inflation expectations would be realized and inflation would then keep on increasing as real rates got ever lower.

The only way I can see that this could be avoided is to use fiscal policy to suppress private demand for loans. But this would end up being the same as if taxation had been used in the first place, wouldn't it ?

L. Randall Wray L. Randall WrayJuly 5th, 2013 at 3:50 pm

Rob: there are too many jumps in your argument for me to follow your logic.
1. No, government spending does not by itself push interest rates up, even if it is deficit spending. (Check Japan for last 20 years. Check USA for past 5 years.)
2. And you, yourself, note that if Fed holds nominal rate constant, then rising inflation is going to lower real rates.
3. I suspect that you, like Lowrey and maybe Thoma, have a loanable funds model in the back of your mind: govt borrows “savings” and competition drives rates up. But that is wrong, as we’ve known since Keynes’s GT

S.IzreigJuly 5th, 2013 at 4:28 pm

Thank you for the clarifications.

Seems like the first real profile of MMT in the NYT, so maybe it is no surprise that it is presented with skepticism and a hint of derision.

Here's hoping the next appearance of Warren in the Times is opposite Krugman in a policy discussion!

Rob RawlingsJuly 5th, 2013 at 4:45 pm

Thanks for the reply.

Yes, I admit I have a loanable funds model in my head with liquidity preference just a factor that affects the supply side in this model. The monetary authorities have the ability to increase/decrease the money supply to maintain whatever nominal interest rate they choose (but not the real nominal interest rate that this will drive).

In Japan for last 20 years and USA for past 5 year the loanable funds model would have given a negative underlying rate of interest. Govt borrowing in this scenario still puts upward pressure on rates – it took them closer to zero. As the underlying rate was still lower than the nominal rate the govt could borrow with no inflationary effects.

This seems like a historical anomaly though – normally govt borrowing will put upward pressure on a positive equilibrium rate and if the govt does not adjust the nominal rate accordingly (or tighten fiscal policy) then inflation will surely result.

Dorsey FiskeJuly 5th, 2013 at 5:24 pm

"One wonders if her famous NYTimes Nobel winning economics columnist colleague put her up to this;" if by that comment you mean Paul Krugman, I am totally confused. It seems to me that Krugman's theory on government spending agrees with Mosler.

mprJuly 5th, 2013 at 7:39 pm

When I first read Thoma's quote I thought he was being unfair to MMT, but your response may have convinced me otherwise. In the given example with Ron Paul whipping up inflationary expectations "real rates" should be the *expected* Fed target rate – expected inflation (expected over the term of the loan).

Now suppose we have an all seeing Fed, which sets the path of the overnight rate so that inflation is always at 2% (that is what they are aiming for after all). Then real = nominal – 2, and the question becomes whether we should expect rates to be higher with more government spending.

I think its clear that we should: We're assuming, with or without the spending, that the total level of economic activity is consistent with 2% inflation. Unless we're in a 'zero bound' situation, this means government spending crowded out some private investment or consumption. Now exactly because we are *not* in a loanable funds model the only transmission mechanism for this crowding out is higher rates.

[email protected]July 5th, 2013 at 7:40 pm

Note on Loanable Funds …
The loanable funds theory is incorrect because it presumes that the loaned funds simply disappear. This is obviously incorrect. The government quickly spends the amount of money borrowed back into the economy, which puts those funds right back into the loanable funds pool. No matter who borrows from that pool, the borrowed funds always go right back into it, making even the idea of loanable funds unnecessary.

Note on Borrowing by the Currency Issuer …
The currency issuer cannot borrow in its own currency because it does not incur a liability it didn't already have (other than future interest payments). If for example the currency issuer had one trillion dollars in liabilities associated with issuing its currency and then "borrowed" half a trillion dollars, it would still have a liability of one trillion dollars. [If you don't understand this, set it up as double-entry bookkeeping.] All the currency issuer has done is exchange (swap) one form of its currency for another, in our case, dollars for bonds. (In MMT terms, the government obtains no additional fiscal capacity to spend because it has incurred no additional liability.)

anonymousJuly 5th, 2013 at 7:44 pm

Maybe she should have gone with …

Warren Mosler, a Private Sector Net Financial Asset Lover With a Following

After readers 'got over' their initial impression that this means he's just 'some rich dude' they would get to the land of self-reflection and realize the full implications of the government deficit: it is private sector wealth – i.e., of you, me, we, 'us all,' etc. – and might 'switch on' the analytic fuse needed to understand the truths modern monetary theory and its advocates continue to patiently explain.

Thanks for cleaning the article up.

L. Randall Wray L. Randall WrayJuly 5th, 2013 at 7:51 pm

Dorsey: scroll back through the GLF blogs to see my responses to many of P.K.’s dismissive comments on MMT. PK is NOT MMT. He’s a Deficit Dove, not an Owl. Owls are smarter, you know.

L. Randall Wray L. Randall WrayJuly 5th, 2013 at 7:55 pm

mpr: central banks target overnight nominal interest rate targets. They hit them (within the wiggle room they choose). they do not target and hit inflation. they do not have the lever to do that, any more than that they can change the orbit of Pluto around the sun.

Rob RawlingsJuly 5th, 2013 at 8:20 pm

"The loanable funds theory is incorrect because it presumes that the loaned funds simply disappear"

That's not true. The loanable funds model is perfectly compatible with Fractional Reserve Banking theory which explains precisely why and how loaned funds don't "simply disappear". What you describe would be true no matter who borrowed the money. That does not change the fact that if the govt enters the market for loanable funds as a borrower it will tend to cause the market clearing rate of interest to increase , and if the CB does not adjust its interest rate target upwards (so that it is in line with this underlying rate) then inflation will occur (unless we are at the zero bound when the govt entering the loan market just means that the underlying interest rates is less negative than it was before so we will not get inflation).

L. Randall Wray L. Randall WrayJuly 5th, 2013 at 8:43 pm

Rob: both loanable funds theory as well as the fractional reserve banking deposit multiplier theory are fatally flawed. You are barking up the wrong tree. There’s 90 years worth of theory you need to catch up on. Those were wrong in the 1920s and we’ve moved way beyond them.

mprJuly 5th, 2013 at 9:08 pm

Extraterrestrial hyperbole aside, are you saying that central banks are not good at hitting their inflation targets via adjusting rates or that there is no transmission mechanism from rates to inflation, so that they can't hit them in principle ?

I agree that if you assume that the CB control over inflation is weak, then the relationship between real rates and government spending is not obvious. However then your argument depends critically on this assumption, and you didn't spell this out. Your criticism of Thoma becomes "Thoma is an idiot because he thinks CB's more or less hit their inflation targets".

In any case, one can also do the analysis non-financially without assuming the CB hits its target. Merely assume inflation is relatively stable. Think of all the productive projects in the economy listed in decreasing order of real (risk adjusted) rate of return. The government comes in and uses some real resources. The projects with the lowest real rate of return will get bumped. The transmission mechanism must be that those projects were no longer funded, because the real interest rate went up.

JoeJuly 5th, 2013 at 10:00 pm

Thanks professor Wray, I read this last night and was wondering when you would have something to counter. Finally have your book on the way, too bad it's not offered electronically yet

Rob RawlingsJuly 5th, 2013 at 11:35 pm

OK. So leaving aside loanable funds and FRB I am struggling to understand the logic of your view.

Here is a simplified version of what I think would happen in this situation:

1. The CB sets an overnight rate and banks lend out all they can based on that rate
2. The govt decides it wants to borrow some additional funds
3. It sells bonds either to the public or to the fed at the current nominal rate
4. The govt buys stuff with the money it has raised.
5. If we are at full employment then they are surely bidding stuff away from existing buyers
6. This must be inflationary unless either the fed raises rates and reduces lending to the private sector, or the govt raises taxes to slow down AD and the demand for goods

Which of my steps 1-6 is incorrect ?

L. Randall Wray L. Randall WrayJuly 6th, 2013 at 12:17 am

Numbers 1 to 4 are completely wrong. 5 and 6 are ok, but you’ve got no explanation as to how you got there.

L. Randall Wray L. Randall WrayJuly 6th, 2013 at 12:18 am

Right. And Wrong. Unemployment exists where there are too few jobs and too many seekers.

LRWrayJuly 6th, 2013 at 12:19 am

This comment is to Robert who writes: Unemployment is said to be the result of market distortions (e.g. the minimum wage).

I do not know what happened to his comment, lost among the extraterrestrials.

L. Randall Wray L. Randall WrayJuly 6th, 2013 at 12:21 am

mpr: well are angels on pinheads also extraterrestrial? If so, you are guilty. Let us assume Fed can control inflation (Pluto’s orbit), then the rest follows, of course: Fed can control inflation and Pluto’s orbit.


Rob RawlingsJuly 6th, 2013 at 1:05 am

I'm guessing that MMT theory says that you can achieve steps 1-4 in a different way? Perhaps the govt can run a deficit with no need to either tax or borrow ?

In that case you can skip straight to step 5.

However Thoma said

"They deny the fact that the government use of real resources can drive the real interest rate up”

If my step 5 and 6 are correct then doesn't that imply that the denial holds only at the expense of either inflation or fiscal tightening ?

L. Randall Wray L. Randall WrayJuly 6th, 2013 at 11:22 am

Rob I have no idea what point you are trying to make. Thoma’s statement is wrong and I explained why. Yes, we agree that at full employment in order for govt to get more resources it must bid them away from other uses and hence you can get inflation. for reasons i explained, that would tend to push real rates down, not up as thoma seems to (wrongly) claim–unless fed raises target rate by more than inflation rises.

Rob RawlingsJuly 6th, 2013 at 1:47 pm

I'm not trying to make a point, just to understand your model, and with your last comment I am pretty sure I now get it.

Thanks for taking the time to respond to me !

LakeErieLiberalJuly 7th, 2013 at 2:17 pm

Professor Wray,

I was also wondering, with the rise of "Market Monetarism" which suggests that the FED should engage in open market operations with the hopes of targeting a certain level of nominal gpd, would you also suggest that just as the FED is unable to target inflation, the money supply and the orbit of pluto, the FED is also unable to target nominal gdp?

L. Randall Wray L. Randall WrayJuly 7th, 2013 at 9:53 pm

Lake: Yes. The CB can hit its overnight nominal interest rate target, within a margin of error it can determine. The notion that that gives it the power to set inflation, nominal GDP or the orbit of Pluto is without foundation.

LakeErieLiberalJuly 8th, 2013 at 12:16 am

Professor Wray,

I saw this quote on the San Francisco Fed's Letter describing the "natural rate of interest".

"Laubach (2003) finds that increases in long-run projections of federal government budget deficits are related to increases in expected long-term real interest rates;"

Might this be what Professor Thoma is referring to? Even so, as MMT points out, wouldn't it be the case that for there to be "increases in expected long-term real interest rates", that would mean investors would expect the FED to pull a Volcker and raise short term interest rates.

I imagine if we lived in a world wherein bond investors were fully versed in MMT and didn't expect the FED to raise short term rates to combat inflation expectations or something such a relationship about expecting higher long-term real interest rates, would not hold.

Am I wrong on this?

GaryJuly 8th, 2013 at 11:06 am

Rob Rawlings, I think the overly simple explanation is that the Govt does not IN FACT borrow in order to acquire funds to spend.

Nor do banks "borrow" customer funds in savings accounts to create loans. Banks create loans by expanding their balance sheets. They don't borrow from Peter to give to Paul. They create a Loan Agreement, Paul signs it, and that signature is the new Asset of the Bank that becomes the basis for the Deposit given to Paul (or designee car seller or home seller). Asset – Liability = 0.

If you take a $1M deposit to your bank, they won't turn you away because they are "too deep in debt" to afford the additional $1M liability added to your savings account.

The Govt in fact "borrows" (sells T-Bills) in order to let's say "sop up" excess Reserve Balances, created by banking operations (loans create deposits = more reserves). The Govt "borrows" to provide a SAFE NO-RISK ASSET for savers (who are mostly semi-rich to super-rich by definition) to store their surplus wealth in a form slightly different from cash … the same way the Bank provides customers with CDs at 3,6,9,12 month terms.

This "borrowing" does not finance spending, operationally. Randy explains, or see shorter version in Warren Mosler's 7DIF article/book.

Actually, due to archaic rules (1935), Congress MANDATES that the Fed cannot buy T-Bonds directly from Tsy. The Tsy auctions are closed except to a handful of VIP "Primary Dealer" banks that make a nice profit re-selling those Govt Bonds, including by selling those directly to the Fed or to other banks that want them.

Spending happens by Treasury ordering a payment which is processed by the Fed, which increases recipients checking account balance, via back room operations on the target bank's reserve account. Those numbers do not "come from" anywhere.

entrepostoJuly 9th, 2013 at 12:44 am

It is a rather rude exchange but to weigh in…

Clearly, as Prof Wray has pointed out, over the time periods controlled by the nominal interest rate that the CB controls, the effect of higher inflation caused by higher infusions of money from gov't spending is to lower the real rate. Which is a fascinating thought in and of itself. But, I don't believe Thoma was referring to controlled short term interest rates in his statements, but rather to market-determined long term rates. Without CB control, the higher level of inflation will tend to encourage nominal long term rates to rise as per Fisher's description of the real rate as being indicative of the willingness of investors to take less today in order to receive more tomorrow.