Donkey Economics

Here’s a piece in the LA Times by Stefanie Kelton of MMT fame. The piece is titled:

Congress can give every American a pony (if it breeds enough ponies)

The basic gist of the article is that the US government has a printing press and it can afford to buy whatever quantity of output that it wants. It is not constrained by the quantity of funds that it can obtain, rather, it is constrained by the real resources available to buy.

This is nothing new to anyone reading this website. I’ve advocated some of the MMT views over the years and I think they do an important service in putting real constraints in the right perspective. The “USA is bankrupt” crowd has been wrong all along in part because they think the US government is going to run out of money. That’s just not true. But I do differ with the MMT people in an important sense. The US government cannot “afford” to do things just because it has a printing press and many of the things the US government can “afford” today could make those same things unaffordable tomorrow. The economy is not merely constrained by its ability to mobilize resources. It is constrained by its ability to mobilize productive resources.¹

Let’s talk about the example that Kelton uses in the article – ponies. She says the US government could buy everyone in the USA a pony assuming we produced enough ponies. This, in my opinion, is an extraordinarily bad example and does not help the important case that Kelton is trying to drive home. You see, the problem with producing ponies is that they’re incredibly unproductive and expensive animals. So, assuming we could even produce all the ponies, if we actually gave everyone a pony then people would have to find a way to support those ponies. They would have to house them, feed them, pay their vet bills, etc. So while the pony isn’t doing anything productive for the economy it is saddling its owners with a liability that forces them to divert their spending away from other more productive endeavors and into horse care. All this does is drive up the price of taking care of horses without providing anything productive to the broader economy.

In the long-run the economy will weaken because our consumption of unproductive goods results in less productive investment in other parts of the economy and forces people into debt to service this unproductive endeavor. It becomes a positive feedback loop until these people file for bankruptcy or try to sell all of their horses which won’t happen because there won’t be a market for horses because we inflated the supply of them. And all the while we’re losing all of the demand and investment spending that might have otherwise occurred in other parts of the economy. None of this is good for the economy in the long-run. Yeah, it stimulates the horse care business (which will actually crash when the pony bubble crashes), but it will almost certainly hurt everything else in the long-run as demand declines in other parts of the economy and productive investment slows. The decline in productive investment is especially harmful as it hurts the very creation of investment spending that so importantly adds to household net worth in the long-run.

Now, this is obviously a very extreme example. But the point is that it’s not always wise to spend money on things just because you can “afford” it. And the reality is that the US economy definitely cannot “afford” to have the US government buy everyone a pony just because the Treasury has the keys to the printing press.²  This would be a jack ass decision that would make all of us look like donkeys in the long-run.³

¹ – See my critique of MMT here. This critique also touches on some of the operational misunderstandings in the piece such as the idea that taxes “take money out of the economy”. Taxes do not remove money from the economy. Taxes finance future spending, and as such transfer deposits from one taxpayer to the recipient of spending. It would be better to say that a deficit creates financial assets since it results in the creation of a new T-Bond while a budget surplus results in less financial assets since it effectively “pays off” a T-Bond. 

² – See, Can a Sovereign Currency Issuer Default?

³ – The article was more specific about how we might produce the real resources to match a certain amount of spending. Kelton writes “all we have to do is produce enough hospitals, doctors, nurses, universities and teachers.”. That’s “all”! We just have to produce a ton of productive people, hospitals and universities. MMT likes to say that the only constraint in the government’s spending is inflation, but the real constraint is productive resources. Importantly, idle resources are not the same thing as having idle productive resources. I think Liberals have to be more careful about how they frame this discussion because they’re losing the half of the population who thinks our government is incapable of spending productively. When you use silly metaphors like free ponies you only advance the notion that our government is a big free lunch machine which is precisely what many people voted against in the 2016 election.  

NB – Please don’t confuse this article for being ideologically against productive government spending and investment. That is not the case I am making. But I think it’s important that we not think of the government printing press as a free lunch that gives it the ability to do whatever it likes. There is an important distinction in there and our government should be more mindful of how it spends taxpayer funds.