Integrating Fiscal and Monetary Policy

To provide a little more background on Modern Monetary Theory (MMT) and its significance, I though it would be helpful to discuss some additional MMT-related material.

In this post I want to focus on a recent blog post by Dan Kervick at the New Economic Perspectives site (which I mentioned in an earlier post).  The title of Kervick’s post is Toward Monetary Enlightenment: An Integral Approach to Macroeconomic Policy.  I think it does a good job explaining how conventional wisdom regarding the difference between fiscal and monetary policy is “misconceived and outmoded” and suggesting how a more “integrated” approach would be more reflective of reality, and also more beneficial (all bolding is mine).

One staple of economic policy debate is the running conflict between those who lean toward a reliance on fiscal policy and those who lean toward a reliance on monetary policy. Fiscal policy is concerned with the use of government spending and taxation to achieve desired changes in economic activity. Monetary policy concerns actions by monetary authorities that seek to affect the quantity of money in circulation, or its rate of increase or decrease, in order to achieve economic ends that are believed to be influenced by monetary phenomena. The debate over the relative effectiveness of the two approaches is, as I say, standard fare. But it also tends to be carried on in ways that I believe are both misconceived and outmoded…

Part of the power of Modern Monetary Theory, or MMT, is that it adopts an analytic perspective on economic activity and economic policy that derives from taking a consolidated view of government operations…Crucially, both the central bank and the various arms and accounts of the public treasury are seen as sharing the same balance sheet...

One thing that has prevented a more rapid shift to a more enlightened and integral approach to economic policy, I believe, is that we continue to rely on outmoded institutional structures that predate the monetary system under which we now live.

While Kervick acknowledges the existence of operational and institutional distinctions between fiscal and monetary policy in most countries, he points out that these can be changed “by either legislation or bureaucratic initiative, and are usually not part of the deep constitutional structure of the government.”  This allows us, as citizens, to “ask ourselves how well those laws and institutions perform, and realistically consider whether they should be reformed , or even abolished altogether and replaced by other institutions.”

In the modern era, many national governments are both the issuers of the national currency and the regulators of the national money of account…These governments combine the traditional taxing and spending role of a sovereign fiscal authority with the currency issuing role of a sovereign monetary authority. But while these facts are broadly understood, many people seem not have made the conceptual leap or shift of perspective that is needed to crystallize the consequences of these facts into a fully modern and integrated view of economic policy.

One reason for this, says Kervick, is “a very strange ideological phenomenon and theoretical bias [that] has taken root among many pundits and professional economists.”  He calls this unfortunate and misguided tendency “central bankism,” which he describes as “the notion that the central bank is the institution of government charged with, and possessing the power to control, the entire macroeconomic policy of the country.”

Kervick sees this “central bankism” bias resulting from four main drivers.

  1. “[T]he strong ideological opposition to an activist and engaged government playing a large role in the economic sphere.”
  2. A “pathetic desire to believe that there is a simple answer to a very large social problem, an answer whose solution lies at the policy desk of a single omnipotent individual, a Wizard Banker whose inaction can be blamed as the main source of government failure, and who could heal our sicknesses and fix most of what is wrong with us all by himself.”
  3. “[I]t appeals to those who are attracted by clean, elitist, technocratic approaches to governance, and repelled by the squalid disorder and messy results of democratic struggle and legislative policy-making.”
  4. “[T]he brazen aggression of the Washington and Wall Street war on ordinary Americans and their democracy is so shocking, and even frightening, that good people seem determined to turn their attention elsewhere and look for saviors where they can find them rather than accept the political risks and burden of a political war on the enemies of equality and broad democratic prosperity.

Rather than clinging to the hope that an almighty central banker (part hyper-smart technocrat and part financial wizard) will save the economy, says Kervick, “macroeconomic policy, like everything else, should be in hands of the people and their legislative representatives.”

A macroeconomic policy determined by the political wrangling of a democratic legislature will frequently be messy and ungainly. Economists seem to dislike instinctively this approach to economic policy. They dream of the perfect “policy rule”, some mathematical formula that is applied with technocratic precision in a politically controlled and detoxified environment. But economic policy is always engaged in the pursuit of multiple, sometimes conflicting goals: full employment, equity, price stability, national progress and development. Perhaps it is a mistake to think all of these goals can be captured in a single rule. Might it not be better for the policy to emerge from the struggle for conflicting aims among engaged democratic citizens?...

Of course, some people are horrified by the suggestion that a legislature, responding directly to voters, might carry out monetary policy. Some people seem convinced that money is a kind of economic uranium, a substance so deadly and volatile that it is too hot for ordinary mortals to handle, and whose careful manipulations must be left to a few expert technicians. There is something to be said for this attitude, but it is overwrought. One might have heard a few centuries ago that parliaments could not control national budgets, and could not set tax policies and spending policies without creating economic disaster. But the era of legislatively controlled taxing and spending policies has been an era of unprecedented prosperity. I see no reason to think that legislatures cannot assume the same responsibilities for monetary policy. The passing of monetary policy from the secluded private conclaves of a few central bankers into the public sphere, where it will become a matter of spirited and engaged public debate and activism, will be salubrious for our democracy…

An integral macroeconomic policy approach should be organic, democratically accountable, nimble, responsive and flexible. It should be forged by broad public debate and discussion, and will no doubt require the messy contention of political factions and regions. But elitism and technocracy have not served us well. Let’s try democracy.

I should note that, while I agree with Dan, I’m also pretty disgusted by the current state of our democracy and the corruption of our political system.  While I’ll be considering this big and important topic in future posts, let me close here with a suggestion that readers who share my appreciation for Dan’s perspective AND my concerns about the health of our democracy, check out Larry Lessig’s new book entitled “Republic, Lost: How Money Corrupts Congress–and a Plan to Stop It.”



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