Modern monetary theory

Definition

Modern Monetary Theory (MMT) is an economic framework that argues that a government that issues its own currency can never 'run out' of money in the same way a household or business can. This theory posits that such governments can and should use their ability to create money to achieve full employment and stimulate economic growth without the constraint of budget deficits, as long as inflation is managed. MMT redefines how we view fiscal policy, connecting it to broader discussions about economic stability and social welfare.

5 Must Know Facts For Your Next Test

1. MMT emphasizes that currency-issuing governments can finance spending through money creation without needing to rely solely on tax revenues or borrowing.
2. According to MMT, inflation is the primary constraint on government spending rather than budget deficits, suggesting that as long as there is unused economic capacity, additional spending can be beneficial.
3. Proponents of MMT argue that it provides a pathway for achieving full employment by advocating for job guarantee programs funded by government spending.
4. Critics of MMT raise concerns about the potential for runaway inflation and the impact of excessive money creation on financial stability.
5. MMT has gained traction in recent years, particularly among progressive economists and policymakers who seek alternative approaches to traditional economic theories.

Review Questions

• How does Modern Monetary Theory redefine our understanding of government spending and fiscal policy?
  • Modern Monetary Theory changes the perception of government spending by asserting that governments that control their own currency can create money to fund spending without the traditional constraints imposed by deficits. This perspective shifts fiscal policy discussions from worrying about balancing budgets to focusing on maximizing employment and economic output. MMT encourages policymakers to prioritize full employment initiatives over deficit concerns, suggesting that with adequate resources, the economy can absorb more spending.
• Discuss the potential implications of adopting Modern Monetary Theory for managing inflation and public services.
  • Adopting Modern Monetary Theory could lead to significant changes in how inflation is managed and public services are funded. MMT proponents argue that as long as there is unused economic capacity, additional government spending won't necessarily lead to inflation. However, they emphasize that once full employment is reached, care must be taken to avoid inflationary pressures. This could change how public services are approached, advocating for expansive funding to enhance social welfare programs while keeping an eye on inflation metrics.
• Evaluate the criticisms of Modern Monetary Theory and their relevance to contemporary economic debates.
  • Critics of Modern Monetary Theory point out several risks associated with its principles, particularly the threat of runaway inflation due to excessive money creation. They argue that while MMT provides compelling arguments for government spending in times of economic slack, it underestimates the complexities of monetary systems and market reactions. These criticisms are relevant in contemporary economic debates as policymakers grapple with managing post-pandemic recovery while considering MMT-inspired policies. Understanding these criticisms is essential for a balanced view of MMT's applicability in real-world scenarios.

Related terms

Fiscal Policy: Government decisions on spending and taxation aimed at influencing economic activity and achieving macroeconomic goals.

Inflation: The rate at which the general level of prices for goods and services rises, eroding purchasing power.

Deficit Spending: The practice of spending more money than is received in revenue, often funded by borrowing or creating new money.