What is Modern Monetary Theory?

Modern Monetary Theory (MMT) is a macroeconomic theory that can be summarized by the basic idea that ‘governments that issue their own currencies can never run out of money since they can always print more’. To elaborate, let us get a bit of a historical perspective.

The Origin of MMT:

In 1971, under President Nixon, the US decided to end the US Dollar’s convertibility to gold. Before this, one could exchange the currency for gold at a fixed price, meaning the value of the currency was based on the underlying gold. Under this system, governments could only expand their spending by either borrowing or increasing taxes since the supply of gold was limited. After 1971, countries started issuing ‘fiat currencies’ or currencies that were declared as legal tender by the government’s decree. These fiat currencies did not have any inherent value and also were not exchangeable for anything of value. This allowed the governments to print money without the constraint of having to back it with a commodity, like gold.

What are the arguments of advocates of MMT?

Proponents of MMT believe that governments that issue their own currency, like in the US, UK, Australia, and Japan, do not need to borrow money or impose taxes to fund government spending for projects as they have the power to print or create as much money as they need. However, this does not mean the government can print money without any constraints. In fact, modern monetarists believe the government is constrained by the limited amount of resources in the economy that can be employed, like workers, natural resources, etc. which would result in inflation after exceeding this threshold. Meaning, once all the resources are employed, any further creation of money will lead to inflation or a general increase in prices of goods.

As has been vaguely outlined before, taxes and government debt have traditionally been thought of as instruments that help the government support its spending. However, according to MMT, taxes and borrowing can be used to fight inflation. Proponents of MMT believe if inflation is a result of excess demand, taxes can be increased to take excess money out of the hands of the private sector to reduce demand; therefore, canceling inflation. Apart from this, modern monetarists argue that taxes can be a social policy instrument to encourage or discourage economic activities without being concerned about their revenue-generating capacity.

Criticism of MMT:

Critics of MMT believe that the model of spending proposed by MMT will eventually lead to the kind of hyperinflation seen in Weimar Germany where prices increased excessively and rapidly due to excessive supply of money. Critics also argue that debts and government spending under MMT would ‘crowd out’ private investment, which is a situation where increased involvement of the government in the economy leads to the private sector decreasing its investment. Apart from this, certain critics also argue that MMT is just old economic concepts under a new name, a criticism that some proponents of MMT do not dispute.

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About The Author

Wajhie Imtiyaz

Wajhie Imtiyaz is currently a student of economics at the university of Nottingham Malaysia campus. He believes a contentment is the ultimate goal of life. He also likes to read futurology in his free time.

References

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McKibbin, W., 2019. Is modern monetary theory too good to be true?. [online] Brookings. Available at: <https://www.brookings.edu/opinions/is-modern-monetary-theory-too-good-to-be-true/> [Accessed 24 December 2021].

Mitchell, W., Wray, L. and Watts, M., 2016. Modern monetary theory and practice. Callaghan: Centre of Full Employment and Equity.

YouTube, 2018. L. Randall Wray - Modern Money Theory for Beginners. [video] Available at: <https://www.youtube.com/watch?v=E5JTn7GS4oA&t=4s> [Accessed 24 December 2021].