–A reminder about why Modern Monetary Theory (MMT) is wrong about inflation

Mitchell’s laws: Reduced money growth never stimulates economic growth. To survive long term, a monetarily non-sovereign government must have a positive balance of payments. Austerity = poverty and leads to civil disorder. Those, who do not understand the differences between Monetary Sovereignty and monetary non-sovereignty, do not understand economics.

Thanks to all of you who responded to my post titled “Why Modern Monetary Theory’s Employer of Last Resort is a bad idea.” Your responses were informative and thought provoking.

That post touched on one of the two primary differences between Monetary Sovereignty and what popularly (though perhaps erroneously) is known as Modern Monetary Theory (MMT).

Today, Cullen Roche published a very short and very good post about the Employer of Last Resort (ELR) discussion, and its role relative to MMT. While early founders of MMT believed ELR to be central to the basic concept, I suggest it is at best peripheral, and really more of a hypothetical departure.

MMT (and Monetary Sovereignty – MS) have the same center, the unlimited ability of a Monetarily Sovereign government to control its money supply and to pay any bill of any size, an ability monetarily non-sovereign governments do not have. The U.S. acquired this ability in August 15, 1971, when it went completely off any gold standard.

The center of MMT and MS is merely a factual description of the real workings of a monetary system. (Unfortunately, that “center” does not have its own, unique name, a situation that creates misleading arguments.)

From this factual description, you can create hypotheses about problems and solutions involving, for instance, full employment, inflation control, the income gap and economic growth. These problems and solutions are not mutually exclusive. They are so intertwined that each affects all the others creating classic “unanticipated results” scenarios.

It is human nature, when addressing any problem, to look first at the simplest, most direct solution:

Employment too low? Hire people (the ELR solution).
Inflation? Cut the deficit (the debt-hawk solution).
Income gap? Tax the rich (the Democrat solution).
Economic growth? Trade protectionism. (The populist solution)

Climbing straight over the peak of a mountain may be the simplest, most direct route, but not necessarily the best way to get to the other side. That simplest, the most direct solution can actually be counter-productive. In the previous post, I described why, though ELR is the (seemingly) simplest, most direct solution for unemployment (simply hire ’em), it may not be the best solution. This is one area where MS differs from what is called MMT.

That all is discussed in the previous post and this is a prelude to what I really wanted to remind you about, in an attempt to draw a distinction between MMT and MS.


The other area of difference is the prevention and cure of inflation. Perhaps the most fundamental equation in all of economics is: Value (or Price) = Demand/Supply. Increase the Supply of money or decrease the Demand for money, and the Value of money goes down, i.e. you get inflation.

For adherents of MMT, inflation is a matter of money supply. Thus, inflation is to be prevented and cured by regulating the creation and destruction of dollars. MMT suggests that federal taxes be increased when excessive (above a target rate) inflation appears. In fact, according to MMT, that is a fundamental purpose of taxes – providing value to fiat money.

I agree and disagree. There is no question that removing dollars from the U.S. economy would help prevent/cure inflation, by giving greater value to the remaining dollars. Scarcity increases value. But, I have strong concerns about this approach.

While, in theory, tax increases can prevent inflation, in actual practice, tax changes would be inefficient and damaging. They are far too slow (When will they be collected?), far too political (Which taxes?) and not incremental (How much?). Perhaps most importantly, tax increases remove dollars from the economy, thereby leading to recessions.

Although the federal government has managed to control inflation, federal taxes have not been the controlling device. Interest rates have. That is, while MMT hypotheses have focused on supply, the Fed, in the real world, has focused on demand – successfully. Further, there is no historical relationship between high interest and low GDP growth. On the contrary, there is a slight relationship between high interest rates and high GDP growth.

In an April, 2011 post titled

How Monetary Sovereignty differs from Modern Monetary Theory — simplified, I described the difficulties with using taxes to give value to money, or more specifically, to combat inflation.

All of you who’ve not read that post, please do so. You will see that using taxes to prevent/cure inflation runs headlong into serious operational and political difficulties. The devil truly is in the details.

I’ll close with this thought: The “devil-in-the-details” problem seems endemic to economics, where far too many thought leaders have not had much personal experience with reality.

Those who believe changing taxes to fight inflation, do not understand political reality. Similarly, those whose experience finding, evaluating, hiring, training, directing, motivating, moving, rewarding, supervising and firing employees is limited or non-existent, see no operational or political difficulty with an ELR program.

They think of people as homogeneous “buffer stock.” They do not understand reality.

Having personally found, evaluated, hired, trained . . . etc., etc. thousands of employees during my 50+ years as an owner of several businesses, I have seen the details and met the devil. And he is one mean, unforgiving bugger.

Rodger Malcolm Mitchell

No nation can tax itself into prosperity, nor grow without money growth. Monetary Sovereignty: Cutting federal deficits to grow the economy is like applying leeches to cure anemia. Two key equations in economics:
Federal Deficits – Net Imports = Net Private Savings
Gross Domestic Product = Federal Spending + Private Investment and Consumption + Net exports


39 thoughts on “–A reminder about why Modern Monetary Theory (MMT) is wrong about inflation

  1. Rodger, I’m not so sure about the advantages of adjusting interest rates as compared to adjusting taxes. Re the speed with which taxes can be adjusted, the British govt adjusted its sales tax (VAT) twice during the current recession, and more or less at the flick of a switch. Adjusting the Britain’s National Insurance contribution tax (a sort of payroll tax) would be equally easy.

    Re politicians, granted they will throw a spanner in the works if they can. They need to have it drilled into their thick heads that when it comes to strictly economic decisions, the combined wisdom of central banks and treasures (flawed as they are) is streets ahead of loudmouthed politicians. I think most European politicians have got this message.

    Re interest rate adjustments, of course the big advantage is that adjustments can be made at the flick of a switch. But do interest rate changes actually have much effect? The ultra-low interest rates of the last two years have not exactly brought a quick escape from the recession. I listed numerous reasons for thinking that interest rate adjustments do not have much effect here:



    1. Ralph, yes that’s an advantage to VAT. The politicians can screw the public at high speed, and no one can figure out what’s happening to them. We don’t have VAT, so the politicians have to be a bit — a bit — more honest about whom they are screwing, and the process takes a long, long time.

      Where did “recession” enter into this? I thought we were talking about inflation. Cutting interest rates does not stimulate an economy. Read: https://rodgermmitchell.wordpress.com/2009/09/09/low-interest-rates-do-not-help-the-economy/

      Raising rates does cure inflation.


  2. I don’t really know whether taxes or interest rates are better, but I have my own thoughts along the lines of interest rates being more effective if the economy has a high level of private debt. Thing is, they are also a blunt tool if the inflation is really only in one sector, you risk damaging parts of the economy that aren’t doing so well.

    As an aside, have you considered doing posts on your experiences in running businesses themselves. I read elswhere you were a ‘turnaround’ expert, I’d be interested to hear some of your ideas on what it takes to make a business work.


  3. I never gathered from the MMT approach that inflation was merely a matter of money supply. I’ve heard Warren, especially, state often that the supply doesn’t matter, but rather the “price” is what is important. I assume he was talking about interest rates.
    Speaking of Warren, seems like he just issued a statement downplaying the importance of a JG program… saying in effect that its merely a potential/optional ingredient in a larger overall mix of solutions.
    It’s like we’re watching the Monetary Sovereignty / MMT platform develop in real time.


    1. MMT preaches that the way to fight inflation is to increase taxes and/or cut spending. Those are supply issues.

      However, I will say that one of the MMT reasons for having taxes to create demand for a currency. So, they would have taxes to create demand, but actually collect taxes to reduce supply.

      Warren has argued with me on many occasions that increasing interest rates exacerbates inflation, because it increases business costs. IMHO, history doesn’t seem to back that up, partly because a change in borrowing rates constitutes such a minuscule part of most business’s costs.

      Randy Wray also seems now to have downplayed the whole JG notion. That leaves Billy Mitchell (no relation) as the key JG guy. I suspect he’ll change, soon. Doing without JG is a problem for MMT, because of their focus on full employment.

      My guess: They will evolve to the yellow highlighted paragraph in the previous post.

      My problem: I soon will be 77 years old. So will I live to see it?

      Rodger Malcolm Mitchell


    2. Broll, Warren said a year or two ago that he thinks JG is an essentially separate idea to the rest of MMT, but I can’t remember where he said it. Where was his recent pronouncement on this point to which you refer?


      1. Thanks, Rodger. What I meant is that we are light years away from an economy with too many dollars in it, and Congress’ pay-as-you-go approach seems to ensure we will stay that way for the foreseeable future.

        I’d love to see the federal income tax become a part of American history. It would not produce high inflation and would end the Right’s nonsensical talking point about income redistribution.


  4. A correspondence with Warren Mosler:

    Rodger: Warren, I guess I don’t understand what MMT believes about the relationship between what you call “full employment” and what you call “inflation,” and I’m just looking for data to support the MMT philosophy, whatever that philosophy may be.

    Warren: Available resources- goods and services- are limited at any given point in time, and once fully employed trying to buy more just drives up prices. I know i could cause near instant inflation by just doubling deficit spending every day until it happens? In wwII the office of price and wage controls was run by John Kenneth Galbraith who used all kinds of things to keep prices down given the high potential demand, including quotas, rationing, price ceilings, etc. etc. he was pretty good at it!

    Rodger: Agreed. War inflation was pushed by product scarcity. Here’s where I am with this: Federal deficit spending has not caused inflation, nor will it, even if we have full employment. And full employment never will occur in America, in part because there are so many substitutes for labor and so much we can import. Does that sound right to you?

    Warren: Except as above. enough deficit spending will cause inflation. weimar, even

    Rodger: Bottom line. I don’t believe the MMT mantra that when we reach full employment, federal deficit spending will cause inflation.

    Warren: If you try to buy things that aren’t for sale you will drive up prices so at ‘full employment’ there aren’t any people left for sale, so all you can do is hire them away from someone else by paying more to get them, driving up labor costs. same with other resources.

    Rodger: Or you find substitutes, like computers and machines, which is exactly what has been happening for the past 50 years — which is why full employment has not happened since WWII, if then. The scarcity model is obsolete re. employment, except for very localized, very short-term effects.

    Warren: right, unless it gets passed through into wages and compensation that exceeds productivity gains, and the cost of production get ratcheted up accordingly. that happens when you run out of labor but keep removing fiscal drag to the point of driving up all wages, including govt. wages.

    Rodger: I don’t believe deficit spending has caused inflation at any time.

    Warren: Probably true. it hasn’t been from excess demand.

    Rodger: Even during WWII, presumably the last time we had “full employment,” I suspect inflation was caused by product scarcity, not by deficit spending combined with full employment.

    Warren: Product scarcity and labor scarcity happens when there is sufficient spending to buy what’s for sale and then some.

    Rodger: Nationally, product scarcity means oil. Given the world market, it is impossible for a broad range of products all to be scarce at the same time. Nationally, labor scarcity no longer exists, nor in all probability, ever will. Emphasis on “nationally.”

    Warren: in general i tend to fully agree with you


      1. Paul Krugman hurts his goal of more spending when he endorses the idea that the United States can go insolvent. Similarly, MMT hurts its goal of more spending when they endorse the idea that government spending can cause inflation.

        Bill Clinton used to say we should reduce the deficit to prevent inflation. I don’t think MMT wants to associate itself in any way with the president who gave us a recession to start out the new millenium.


  5. I usually tended to agree with you on this, and still do. Interest rates and taxes are tools in my opinion. In theory, taxes would be necessary in some cases….in theory. In practice, states tax enough to suffice.

    I would say, however, that all states don’t tax, and they would have to “get on board” so to speak, even with a little tax.

    Overall, I’m starting to come around. The ELR post was great and made me do some thinking as well.


      1. Whatever level of government requires taxes to be paid in dollars is sufficient to cause demand for dollars, and their acceptance in commerce, at least domestically. It doesn’t have to be Federal.

        However, I agree with Warren that it is possible to cause inflation if the deficit is too high. 28% of GDP is too high. There is not 28% idle capacity, so the demand would exceed the supply and inflation would result.

        The history of using interest rates to stop high inflation in the MS history of the US is limited to a single instance right around 1980. The results were a success, but the patient suffered quite a bit. It would have been better to have avoided the inflation in the first place.


        1. By whatever means, inflation in the U.S. has been close to the Fed’s target. Either the Fed’s interest rate approach is successful or they have been spectacularly lucky.

          Warren also acknowledges inflation never has been caused by excessive federal spending, and as he says, “during my lifetime.”

          Looking at today’s idle capacity forgets two important factors.

          1. Domestic capacity responds far more quickly today, to consumer spending, which responds quickly to deficits

          2. In this world market, there always is plenty of capacity available.

          The old paradigms do not operate any more. “Too-many-dollars-chasing-too-few-goods cannot happen in today’s world.

          Rodger Malcolm Mitchell


        2. The Fed’s target in 1980 was 15%???

          Inflation prior to 1990 was wildly variable. If inflation was under Fed control, why does the Fed change its target so often and so drastically?

          But, you said inflation was caused by oil prices, not by Fed policy. Which is it?

          I’m going with lucky.


        3. It is interesting, though, to think about global capacity, a sort of Gross Global Product rather than GDP.

          If the US supplies sufficient money to wipe out unemployment globally, what happens to the exchange rate? And why would that matter?

          Is it possible to still have imbalances, let’s say lots of dollars flow to China and unemployment is eliminated there, but Greece still struggles. If further deficits flow to China and the US but not to Greece, would there be inflation in China and the US, while poverty and unemployment remained in Greece? Would pockets of unemployment remain that cannot be alleviated by increased global demand alone?


      2. True, I’m just thinking of how other non-federal entities may distort population sizes and job markets via being the only entities that tax. But maybe it’s unimportant. I’d have to put more thought into it.


  6. In our current tax system, the automatic stabilizer effect of the income tax is enough to prevent runaway inflation. As nominal GDP expands, tax collections go up by a higher percentage than incomes, and at current levels of taxing, saving, and trade deficit, full employment cannot be achieved.

    We could replace the corporate income tax with a corporate gross receipts tax, and enact a much simplified personal income tax that retained some counter-cyclical properties, but with reduced rates and revenues. Changing the personal income tax quickly in response to economic conditions is problematical, but the corporate rate could be changed as easily as the VAT or a traditional American sales tax can be changed. Our legislative process may not be as quick as the Brits, though.

    Another harbinger of recessions, equally as unfailing as the falling deficit, is a rising Fed Funds rate, to the point of inverting the yield curve. If the Fed were prohibited from raising the overnight rate by more than ½ the difference between the overnight rate and the 10-year Treasury rate, and not more frequently than once per quarter; and were required to maintain a FFR at least 1% below the 10-year, then interest rate policy might be more effective and less dangerous.


    1. “In our current tax system, the automatic stabilizer effect of the income tax is enough to prevent runaway inflation.”

      This assumes money supply is an important variable in inflation, a popular assumption for which I see no evidence.

      Here is a graph comparing the broadest measure of money (TODNS) against the broadest measure of inflation (CPIAUCNS). I see no relationship.

      Monetary Sovereignty

      I recognize this is highly counter-intuitive (as is most of economics), but the whole notion of “too much money chasing too few goods” simply has not happened in the U.S. Inflation is caused by oil prices, which affect the price of all other goods and services, and are controlled by the Saudis.

      The Fed’s interest-fighting tool, interest rates, is not related to supply, but rather to demand.

      Rodger Malcolm Mitchell


      1. Well Roger, you finally answered my “what about too few goods” question.

        I’ve been telling anyone who would listen that the state of our economy is predicated oil price manipulation and most fiscal policy is being used to control the results.

        Am I the only one who sees a correlation between $140 a barrel oil in 2008 and our subsequent crash? And our malaise? Could it not be oil bouncing around $90-$100 a barrel?

        P.s Tyler Clinton had $10 dollar a barrel oil and didn’t have to worry about inflation so he could say any damn fool thing for political consumption.


      2. In the 1970’s was when oil prices rose a whole lot.

        The US imported only 50% of its oil consumption, and the UK was an oil exporter. Those two had rising inflation through the late 1970’s.

        Germany and Japan imported 100% of their oil. They had lower inflation than the US or the UK, and it did not rise.

        What happened in Germany and Japan so that the rising oil price didn’t cause inflation there?


  7. Looking at the real economy of a monetarily sovereign nation as opposed to the financial economy, is it accurate to say that government spending is a reallocation of real resources into direction of the government sector, and money type assets into the private sector? If so, and apart from operational details, is there any real difference with regards to the real economy, between government deficit spending in a monetarily sovereign nation and taxing to spend in a monetarily constrained economy (eg: gold standard)? In either case it seems real resources are being transfered from private actors to government actors. If this is the case aren’t we then back to the old debate about who is in the best position to direct the real resources: central command vs. decentralized individuals and groups under the law of supply and demand?


  8. If anyone could shed some light on the following i would appreciate it. It seems that keynesians assert that increased aggregate savings, stifle aggregate demand therefore causing recessions due to lack of spending. But under this logic wouldn’t increased savings simply divert finances from consumption spending to investment spending, and therefore simply change the quality of spending but not the overall quantity. For example, money would be spent on production goods instead of consumption goods. It’s not like people put money in their mattress when they save. So where, in the Keynesian view is the disappearance of demand? Where does it go? Thanks,


  9. Lyndon,

    I don’t know what the “real” economy is vs the “monetary” economy, but very simply, when the government spends it adds dollars to the economy and when it taxes it subtracts dollars from the economy.

    When you receive your Social Security check or your doctor receives a Medicare check, that adds dollars. When you pay FICA that subtracts dollars.

    A monetarily non-sovereign government needs and uses tax dollars; a Monetarily Sovereign government does not.


    1. The best I can tell, monies (including paper, tally sticks, gold, or digits in cyber space) have no intrinsic value in their role as money, since they are (strictly speaking) useless to human creature survival. Their value is derived from what the fact that they represent a credit or a debt for things that actually are useful… Thus people only care about accumulation dollars to the extent that they reify command over actual debts and credits to goods. Thus, isn’t there a distinction to be made between financial goods and real goods in the economy? Or does this not make sense?
      Thank you


  10. Lyndon,

    Some people subscribe to what I term, “the first use myth,” the belief that dollars are used once and never again. But money continually moves from hand to hand.

    You are correct that “increased savings simply divert finances from consumption spending to investment spending, and therefore simply change the quality of spending but not the overall quantity.”


    1. You asked whether “government spending is a reallocation of real resources into direction of the government sector.” The answer is, No.

      The vast majority of federal government spending is not for federal acquisition of real resources. Social Security, Medicare, Medicaid and the military are the biggest budget items. Clearly, the first three do not involve reallocation of real resources.

      The military budget is devoted mostly to salaries. After that, the military buys expendables, which temporarily add to government ownership or real resources, but bullets and weapons don’t have a long life. Meanwhile the dollars go to the private sector which uses them to purchase , , , yes, real resources.


  11. Question: What is the difference between a tax and deficit spending as far as what they accomplish? Both are tools for the government to finance the accomplishment of its spending goals, But is there pros or cons to each method? Is it accurate to say both are transfers of economic power, while taxes are also contrained by deflation and deficit spending by inflation? Any

    Many thank yous



    1. A federal tax removes dollars from the economy. Federal spending adds dollars to the economy. A deficit is the excess of spending over taxes.

      Taxes do not finance federal spending. Spending by a Monetarily Sovereign is not constrained by taxes. Even if taxes = $0, federal spending would not be affected.

      Strictly speaking, taxes are not constrained by deflation, nor is spending constrained by inflation. More accurately, tax decisions and spending decisions both are constrained by concerns about deflation and inflation,

      In short, deficits are constrained by concerns about deflation and inflation.


  12. Ok that helps, I’m kind of peppering you with questions here. Thanks for the responses…

    “Mitchell’s laws: Reduced money growth never stimulates economic growth. To survive long term, a monetarily non-sovereign government must have a positive balance of payments. Austerity = poverty and leads to civil disorder.”

    Could you comment on the following?

    Say the USA exports good x to China. When it ships out at customs it is recorded as being worth 1 million usd. USA then takes the money it earns and buys chinese good y, which can be sold in USA for 1.1 million and is therefore recorded at customs as being worth 1.1 million. There is a negative balance of 100,000 usd recorded at the border, but a US company has actually profited 100,000 usd… Am I missing something here, because it seems like an negative balance of payments is actually good since it shows that we are selling dear and buying cheap….

    Also what is considered “long term survival” in your law? Because over a period of time one country could be buying productive capital while the other is selling his stock seed. Isn’t it more important what is being exchanged not the amount of money? After all you can’t eat US dollars (or maybe China will find a way since I heard they were using plastic as an additive in rice:)

    Thank you,



    1. The actual cash flow, not the “value,” is what constitutes balance of payments.

      “Long term survival”: The euro nations cannot create euros, so are dying. The EU has provided “money coming in from outside” in the form of loans. The loans must be repaid, which leads to even bigger loans. That process can continue for many years. Ultimately, the process comes to a crashing end.

      I predicted the failure of the euro back in 2005. The end is near.

      The U.S. can create dollars, with which it buys anything it needs.


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