Modern Monetary Theory states that Rachel Reeves, in her second Autumn Budget, should raise taxes on the poor and lower them on the rich. As we know that is not going to happen, so much for Modern Monetary Theory.
Rather more fun is that absolutely none of the MMTers out there are recommending these actions despite their being, by the logic of the theory itself, exactly the right — indeed, the only! — thing to be doing. So much for MMT then — or perhaps for MMTers.
For those indulging in rational ignorance of new economic misunderstandings, MMT is the idea that government just prints money and spends it as it wishes. This is actually in all the old textbooks, as monetisation of fiscal policy — usually with warnings about Ancient Rome, Henry VIII in our own silver girt isle, Weimar Germany, Zimbabwe and Venezuela. (That last example managing what I consider the wondrous feat of asking De La Rue to print banknotes for them then trying to stiff the printer on the bill — for the second to last the final print run of $ hundred trillion notes wasn’t valuable enough to buy the ink for the next.) MMT says that it’s all different now because when inflation does arrive we just tax back the excess money. Simples!
Spending money is fun and collecting taxes is not
This could run into a certain problem —that spending money is fun and collecting taxes is not. Therefore not quite enough taxation might occur and we’re back with our five earlier examples.
But OK, let’s run with the insistence of the theory that we’re going to have — aha, aha — fiscally continent politics. We can still test the validity of the theory — or perhaps more accurately of those pushing the theory.
The insight about the tax is that inflation comes from “too much” money chasing “too few” goods. We’ve printed more money, people have more money to be able to bid for things, they do, prices rise. So, if we suck that extra money back out of the economy then prices will stop rising. Even if we suck lots out then prices will fall, we’ll get deflation. No economist would disagree at this point. Nor disagree with this next.
There’s something called “the marginal propensity to spend” or its inverse, the marginal propensity to save. Jargon, of course, but a simple enough idea. Some people spend every penny that falls into their hands, others save some. The marginal bit is just what is this effect upon the next pound that anyone has to splurge or scrooge?
We even know that this varies, observably, by income. Poor people tend to spend everything they get — the value of an extra crust is greater than a saving for a pension they’ll not live to see. Rich people will save some portion of extra income — there are only so many handbags even the most priapic of billionaires can be bothered to buy for mistresses. Don’t take these numbers as completely accurate but in vague terms the marginal propensity to save of the poor is zero, of the rich 15 per cent and this gives us an overall societal savings rate of say 5 per cent. Vary a bit by time and place and so on but, you know, circa.
Inflation is money actually being used to bid up the prices of goods. The poor spend all their money, the rich save some of it. So, if we want to withdraw money from the economy to reduce inflation we’ve got to take it off the poor — because they’re the people who spend all of their money.
We can also observe that the rich, in their actual consumption, are not budget constrained. Restrict their income, tax them more, and they’ll spend down some of their savings in order to maintain that handbag supply — priapism, see? Taxing the rich doesn’t reduce inflation that is. Because taxing the rich doesn’t reduce the amount of money being spent upon consumption — it being the amount of money chasing consumption that creates inflation.
For true completists, one might say that when the rich save, they drive up asset prices, thereby making shares, houses, and similar assets more expensive — by removing from circulation the money they would otherwise spend. Yet house prices have been falling relative to incomes for some years now. Share prices, at least in the case of the FTSE 100, remain below their 1999 peaks. (A little secret here: stock-market indices are not adjusted for inflation.
In other words, we have already experienced deflation in the very assets that the rich predominantly buy. This means, especially with share prices, that we would actually prefer them to at least stay flat. For there is another side to the economy: those savings are invested in new production, which increases the supply of goods and services that people can buy with the excess money floating around the system.
The rich save, which leads to investment and so more production — this reduces inflation as there will be more things to buy. The poor only spend, which increases the amount of excess money chasing the insufficient number of things we’ve got to buy with the excessive amount of money in existence.
Therefore, modern monetary theory ends up saying that if we have inflation then we should tax the rich less and the poor more for an overall increase in taxation. So, do we have inflation? Yes, yes we do. The monthly numbers bounce around a bit but inflation is about twice the 2 per cent target. So, our MMT says we must tax more to reduce inflation. Further, proper MMT says tax the poor — not the rich. Tax the poor more and the rich less.
I’m aware that this is an odd result. I’m not greatly in favour of it myself — I’m with Adam Smith in that taxation should be more than in proportion to income. But the result does indeed flow ineluctably from the assumptions of this new, modern, monetary theory. Given that MMT is quite the very thing over on the left then this is what a Labour government should do. We should also see all those advocating MMT not just pushing but insisting upon this taxation policy that follows, ineluctable-like, from the theory. So, do we?
Do we ‘eck.
This gives us a few possible explanations. One of those MMT is crock but that’s not actually true. It’s the implications which are difficult, not the description. Another is that those pushing MMT don’t understand it — and given that I actually read their dreck, that’s something I’m willing to believe. The third, and probably most accurate, is that it’s not, in fact, a theory at all. It’s an excuse. Of course we can have more spending, because, see?
Modern Monetary Theory does indeed say that when we have inflation over target we must tax more. Further, it holds that we must tax the poor more and the rich less. As no promoter of MMT does in fact advocate that then and therefore the promoters are …
As to what Our Rachel should actually do, there is always that option of just spending less. But the very difficulty of doing that, even with a budget deficit of 5 per cent of GDP, is exactly why none of us rational types believes the MMT idea of go spend and sort out the inflation later. For the sorting never does happen, see?
