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The strange persistence of Monetarist history

The Monetarist view of history, as I noted in a recent post, is quite popular. The conventional wisdom on the Great Depression is that the Gold Standard forced contractionary monetary policies and the Great Contraction caused the recession. An open economy version of Milton Friedman’s story. The dominant view on the recovery from Great Depression, due to Christina Romer, is that the non-sterilized inflows of gold led to an increase of money supply. And the money supply brings the recovery. Forget the New Deal, that made things worse in the Monetarist alternative reality.

Krugman, that has otherwise done a great job of showing the anti-Keynesian bias in current discussions of the budget, also seems to have an inner Monetarist. He tells us in a recent post on taxes that: “the feds have the Fed, which can print money. But there are constraints on that, too — they’re not as sharp as the constraints on governments that can’t print money, but too much reliance on the printing press leads to unacceptable inflation. (Cue the MMT people — but after repeated discussions, I still don’t get how they sidestep the issue of limits on seignorage.)”

I guess we call endogenous money MMT (Modern Monetary Theory) now. If you print money and people spend, and there is capacity, there should be no inflation, but lower unemployment. Also, as people spend, firms tend to adjust capacity to demand. So the capacity limit is endogenous. The limit that most economies encounter is the balance of payments. As the economy grows and it imports more, eventually the current account deficit becomes too large, and depreciation fuels inflation.

But my concern is why even Krugman buys the notion that money causes prices. A graduate student told me that monetarism is a simple story that is ideologically convenient. That is true, but not ideologically convenient for progressives like Krugman. In his case and other progressives like him (there are even Marxists with Monetarist proclivities!), it seems, that the reasons have to do with the ability to convince people that certain events can only be explained by Monetarist ideas. That suggests to me that the power of institutions (universities, journals, press) that reproduce acceptable knowledge is incredible strong. Institution building should be at the top of the agenda for progressives.


  1. you seem to take it for granted that a growing economy with lower unemployment will open up an unsustainable trade deficit. is this guaranteed? leaving alone the issues of how sustainable a trade deficit is,aren't there fiscal policies that can shift the propensity to import downwards and the propensity to export upwards even as low unemployment (using say, a chartalist job guarantee) is achieved? i'm thinking say a government backed write-down of mortgage and other consumer (and business debt) or a payroll tax holiday. couldn't these (or other policies) theoretically lower the costs of production and allow domestic industry to undersell foreign competitors so that a trade deficit is avoided even though a much lower level of unemployment and higher growth is being achieved? why do you (if you do) think those (or similar) types of policies aimed to influence people's propensity to import and foreigner's propensity to import are unfeasible?

  2. Hi Nathan:
    Yes higher growth should lead to lower unemployment, and it should follow a simple regularity (which hopefully this is a science not pure ideology). Okun’s Law suggests that for growth around 2% above normal (not necessarily the optimal of neoclassical economics) should reduce unemployment in 1%. Growth does not necessarily bring unsustainable trade deficits, and certain countries (the hegemonic center) may not have an external constraint. The evidence suggests that developing countries encounter a constraint not related to full capacity, but in the external accounts. And again you are right to assume that the external problems are not fiscal. Mind you Chartalism is about money being the result of power (often, but not only, the State) rather than about trust. Employment programs or any fiscal policy to guarantee full employment are about effective demand determining output. They are related only in the sense that Chartal views of money are compatible with effective demand models. So no danger of excess money supply causing inflation and having no effect on unemployment. Beware of the tendency of some Kansas’ economists to conflate both. I have no problem with policies that allow for a depreciation of the domestic costs and reduce the balance of payments constraint. Note those are and were pursued in several developing countries. I just noted that often, for a peripheral country, the balance of payments constraint eventually catches up with them. If you believe in this for the US, I would argue that (as many heterodox economists do) you think as if it is a peripheral country, rather than the hegemonic center. The US can pursue full employment policies (I would prefer a massive infrastructure plan with a reconstruction bank) without any regard for the external accounts. The US does NOT have an external constraint. Thanks for the excellent questions, and hope this clarifies some of the issues.

  3. yes, this did clarify a lot of things, especially some of your view on the balance of payments constraint (i've read a few of your papers and couldn't quite pick up where you landed on this issue). Since much of your argument here seems to be centered around the military-political power the united states has, do you think that a BRIC block or some other pact of developing countries could create more space for domestic policy in the developing world. i guess i'm trying to clarify the mechanism. are foreigners willing to hold dollar denominated assets because it's "value" is guaranteed by the "bomb" standard? some other reason?

  4. doh. now i wished i had waited a day and let your levy institute paper be published

  5. Link is here for the paper Nathan is referring to

    As you'll notice I do not think the flexible dollar standard is as fragile as often said.

  6. Could you explain the third paragraph a bit more?

    Is there some standard textbook model for thinking about inflation/unemployment/capacity in the heterodox literature? I would like to learn about this approach to macroeconomics, but I'm sure where to start learning...

    1. There are many discussions on the topics of that paragraph in other posts.


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