I’d say the deficit debates were heating up again, but I don’t think they’ve let up since before last year’s Peterson Foundation Fiscal Summit (orthodoxy for neoliberal deficit hawks) and the grass roots Fiscal Sustainability Teach-In and Counter-Conference, both held on April 28, 2010. The Teach-In provided an important corrective, known as Modern Monetary Theory (MMT), to the false narratives of both deficit hawks and deficit doves.

Yesterday, Paul Krugman’s blog post Deficits and the Printing Press (Somewhat Wonkish), once again showed his ignorance of MMT, and in the process misinformed his readers (my emphasis):

Right now, deficits don’t matter — a point borne out by all the evidence. But there’s a school of thought — the modern monetary theory people — who say that deficits never matter, as long as you have your own currency.

I wish I could agree with that view — and it’s not a fight I especially want, since the clear and present policy danger is from the deficit peacocks of the right. But for the record, it’s just not right.

The bolded statement, as I’ll show below, is completely false. Fortunately, there are a couple of decades of scholarship available on the web (for example at: Levy Economics Institute of Bard College, Centre of Full Employment and Equity (CofFEE), Center for Full Employment and Price Stability, and EPIC), several specialist blogs (for example Warren Mosler, Bill Mitchell, New Economic Perspectives from UMKC and winterspeak) as well as naked capitalism and new deal 2.0 which publish posts by Marshall Auerback, Rob Parenteau, L. Randall Wray, Scott Fullwiler and James Galbraith for those of us who want to read and decide for ourselves (In my haste, I’m probably forgetting few names and links. But the above list should be enough to demonstrate the extent of information readily available).

What makes Paul Krugman’s error yesterday doubly frustrating is that it’s one he’s made before — in his July 17, 2010 post, I Would Do Anything For Stimulus, But I Won’t Do That (Wonkish) (my bold):

It’s really not relevant to current policy debates, but there’s an issue that’s been nagging at me, so I thought I’d write it up.

Right now, the real policy debate is whether we need fiscal austerity even with the economy deeply depressed. Obviously, I’m very much opposed — my view is that running deficits now is entirely appropriate.

But here’s the thing: there’s a school of thought which says that deficits are never a problem, as long as a country can issue its own currency. The most prominent advocate of this view is probably Jamie Galbraith, but he’s not alone.

Wrong in July and wrong again yesterday. Did Paul Krugman not read the responses, even in his own comments thread, correcting his false statement when he made the same mistake last year?

Here is James Galbraith’s reply:

I wrote — correctly and deliberately — that bankruptcy, insolvency and high real interest rates were not risks. Inflation *is* a risk.

By this, to be clear, I mean an ordinary garden-variety increase in the inflation rate is a risk — not the *infinite-inflation* scenario.

Inflation, though unattractive, is not remotely comparable to bankruptcy or insolvency, unless you get to Paul’s *infinite* inflation scenario. So what about that?

In his model, it is driven by his monetarist (quantity-theory) simplification, that the increase in money flows directly into prices. But this is just a modeling error. In the real world, especially in broadly deflationary conditions, people — and banks — simply hang on to cash. There is a Paul Krugman who understands this, from close study over many years of the Japanese stagnation.

Here is Scott Fullwiler’s reply:

Paul Krugman just showed his lack of understanding of the theory he is critiquing. That theory says solvency isn’t an issue, but inflation IS. That is, inflation is the constraint, not solvency. So, Krugman’s critique here is a complete straw man. That theory doesn’t say what he says it does.


And Paul Davidson takes Krugman to task for his model:

Dear Paul; Given all your assumptions, no wonder you reach your conclusion. For example you assume the quantity theory of money. But the quantity theory requires an assumption of neutral money in both the short run and the long run. But Keynes, in hisarticle for the Spiethoff festschrift specifically argued that in a monetary economy , money is never neutral — in eiher the short run or the long run. For Keynes, the neutral money axiom was like the “axiom of parallels in a non-Euclidean world [ See page 16 of THE GENERAL THEORY.]

And if you employ axioms that are not characteristic of our entrepreneurial economy, then the teaching will be, as Keynes noted, “misleading and disasterous”

If you load the argumen with biased assumptions then your conclusions willbe biased.

L. Randall Wray replied at length in Deficits Do Matter, But Not the Way You Think, posted at new deal 2.0 (and cross posted at naked capitalism, creditwritedowns). Here are three key paragraphs:

There is an alternative view propounded by economists following what has been called “Modern Money Theory”, which emphasizes the difference between a currency-issuing sovereign government and currency users (households, firms, and nonsovereign governments) (See here and here). They insist that the notion of “fiscal sustainability” or “solvency” is not applicable to a sovereign government — which cannot be forced into involuntary default on debts denominated in its own currency. Such a government spends by crediting bank accounts or issuing paper currency. It can never run out of the “keystrokes” it uses to credit bank accounts, and so long as it can find paper and ink, it can issue paper currency. These, we believe, are simple statements that should be completely noncontroversial. And this is not a policy proposal — it is an accurate description of the spending process used by all currency-issuing sovereign governments.

The strangest criticism of all is that we MMT-ers argue that “deficits do not matter”. In a recent exchange in the New York Times, Paul Krugman put it this way: “But here’s the thing: there’s a school of thought which says that deficits are never a problem, as long as a country can issue its own currency.” In that piece he took Jamie Galbraith to task for arguing that “Insolvency, bankruptcy, or even higher real interest rates are not among the actual risks” facing a sovereign government. I won’t go into the details, but Krugman produced a simple model in which ever-larger budget deficits generate ever-rising prices. You can see the rest of that back-and-forth here. But the strange thing is that Krugman never actually addressed Galbraith’s points that insolvency, bankruptcy, or higher interest rates are non-issues for a sovereign government. Nor did Krugman even try to justify his claim that MMT-ers “say that deficits are never a problem”.

In fact, MMT-ers NEVER have said any such thing. Our claim is that a sovereign government cannot be forced into involuntary default. We have never claimed that sovereign currencies are free from inflation. We have never claimed that currencies on a floating exchange rate regime are free from exchange rate fluctuations. Indeed, we have always said that if government tries to increase its spending beyond full employment, this can be inflationary; we have also discussed ways in which government can cause inflation even before full employment. We have always advocated floating exchange rates — in which exchange rates will, well, “float”. While we have rejected any simple relation between budget deficits and exchange rate depreciation, we have admitted that currency depreciation is a possible outcome of using government policy to stimulate the economy.

This should have been the end of the story (although a correction by Krugman would have been nice). But, as Krugman’s post yesterday demonstrates, this apparently was not the end of the story. The misinformation continues….. and by a political ally!

Below are a few quotes from last year’s Fiscal Sustainability Teach-In and Counter-Conference, which I encourage interested readers to investigate further (Transcripts, presentation material, audio and video are available at the link).

Stephanie Kelton:

There is no revenue constraint for governments that control the money that sits at the top of the hierarchy. Does that mean that we should spend without limit? No. No. Emphatically no. As the economy recovers, spending will need to be regulated to prevent inflation. But I would argue, and I think what we’re all here to argue today is that it’s time to stop allowing the monetary system to limit our range of policy options. It is causing unnecessary human suffering and it’s time for us to begin to recognize the advantages of a Modern Monetary System.

Warren Mosler:

Spending is not constrained by revenues. Spending is changing numbers up; putting numbers into our checking accounts. Taxing is changing numbers down, taking numbers out of our checking accounts. Borrowing is moving numbers from our checking account to our savings account. There is no numerical limit to any of this. Paying interest is changing the number up in our savings account. The government can always make any payment of dollars it wants to make. This is all we’re talking about; it’s a nominal system; we’re talking about there are no nominal constraints.

The risk is inflation, and not insolvency or not-solvency; there’s no solvency risk.

Marshall Auerback:

The constraint as we’ve said is inflation.


I’d add that there are two additional constraints: ignorance and politics.

Dear Professor Krugman, Please read your own comments threads… or better yet, read Randy Wray’s book, Understanding Modern Money: The Key to Full Employment and Price Stability, and inform yourself before you misinform your readers any further. Thank you.


x-posted from my blog — selise