Despite a brief moment in the sun during the depths of the pandemic, Modern Monetary Theory or MMT, somewhat disappointingly remains on the fringes of economic and financial market analysis. Mainstream economists, but particularly politicians from both ends of the spectrum, continue to stoke fear of ballooning government debt, and flag inflationary concerns that simply haven’t arrived despite two decades of ‘unconventional’ monetary policy.
According to well-known fixed income and bond investor, Vimal Gor of Pendal Group, the pandemic has “blown apart the myth that governments that own the printing press need taxpayers to finance their spending.”
Despite not referring to this modern lens for understanding the economy, anyone with even a basic knowledge of MMT knows this is the central thesis. It is not, as many traditional economists suggest, the fact that inflation will never come, but rather an explanation of the way the financial world works in the era of fiat money.
“Who will pay for this?” and “we are burdening our children” became all too familiar questions and statements on any number of talking-head programs, with the ABC’s Q&A wont to parade a series of young Australians seemingly viewing “the debt” as an existential crisis.
According to Gor, “these calls ignore the basic fact that governments don’t need taxes to spend,” they can create their own money just as they have over the last 12 months.
Unlike the rest of us, he explains, “they spend money first and tax later.” Simply put, the government is able to fund itself as the ‘independent’ central bank has ultimate authority and a responsibility to purchase the debt issued by the government.
One of the often-forgotten parts of this discussion is that when the government spends money, this money goes into people’s pockets, creating activity with the ultimate aim being to increase employment. That is, a government deficit is a private-sector surplus, evidenced by the fact that Australian household savings have expanded significantly over the last year.
Similarly, what is given can just as easily be taken away. Where there is excess capacity in the economy, as in 2021 where multiple sectors are running well below capacity, this can be “drained back through taxes” but only enough to ensure inflation doesn’t spiral.
Ultimately, according to Gor, “the net result, or budget position, is merely an accounting outcome in the search for low inflation and full employment.”
But, we still have to repay it?
Of course we do, but it isn’t an existential crisis, nor is it a decision that should have any urgency. One only needs to look back at the events after the GFC when Tony Abbott set about “repaying Labor’s debt” and the impacts this austerity budget had on the living standards and strength of the Australian economy.
So, what are the options?
The first choice, according to Gor, “is to drain the money back by issuing Treasury bonds so that money spent is all accounted for by taxes and bond issuance.” Alternatively, the debt can be “left out there” with the RBA monetising it by simply buying the bonds that are issued. “The government is quite rightly financing itself,” he says.
The biggest and most misunderstood question is what happens when the bonds held by the RBA mature, as they always do. Traditional economists suggest they must be repaid, effectively making the government insolvent, but this couldn’t be further from the truth.
If the economy is booming, and inflation is a concern, then clearly the government should be “draining money from the system.” with Gor suggesting a healthy government deficit be used to fund the repayment.
Alternatively, if inflation is not a problem and excess capacity remains, whether through greater productivity or weak demand, “then the RBA should simply roll its bond holdings,” just like the Bank of Japan, he says. That is, it issues new bonds to repay the old bonds, as in the case of Japan; where more than 50% of the economy is being funded this way, with little sign of inflation in 20 years.
Gor’s concluding comments are likely his most powerful, stating “the needs of the Australian economy remain high, both short term and long term,” and “government deficits and debt matter far less than most of us had been led to believe.”
It’s a refreshing article that will hopefully challenge the policy makers and economists who continue to drive debt and inflation rhetoric despite little evidence.