Rethinking the determination and long-run evolution of income distribution

New paper by Thomas Palley. From the abstract:

This paper presents a theory and model of long-run cycles in income inequality. The model explains the historical pattern of income distribution identified by Kuznets (1955) and Piketty (2014). It breaks with conventional marginal product theory which claims functional income distribution is determined by the technological conditions of production. Instead, it emphasizes the role of socio-political forces that shape and drive fluctuations in the level of popular political organizations, which then impact distribution. That impact includes assessment and attribution of productivity contributions. The model provides a framework for interpreting the historical evolution of income distribution and inequality, and for reflecting on current conditions and possible future developments. The core message is twofold. First, socio-political developments matter for income distribution. Second, if those developments are cyclical, income distribution will also exhibit cyclicality.

Read paper here.

Argentina: Chainsaw economics, dead dogs & Milei mayhem | Mehdi Hasan & Diana Mondino | Head to Head

I was on the show as part of the panel. It is hard to explain that Argentina cannot grow much under the current circumstances, with an external constraint that is binding.

More on the likelihood of a recession (and its causes if it happens)

If everybody was predicting a recession before the employment numbers last Friday,* now it has become an unanimity. The story is of course the uncertainty caused by the tariffs and the collapse of investment (a second story, far behind in popularity, is that profit squeeze, also caused by tariffs to some extent, caused the decline in investment). I should note that most stories in the press are vague about the mechanism for the recession. But when pressed most people fall into the uncertainty story.

First, let me discuss briefly the numbers. GDP grew significantly in the second quarter, if one looks at the BEA Report, also released last week, at 3% (see figure below). Of course, as noted before, when the numbers of the first quarter come out, the whole story was in the import numbers. Huge increase in the first quarter (imports subtract from GDP, making growth negative), and large decline now, explaining the growth spurt. As noted before, in that same post, GDP is simply slowing down. Ray Fair has suggested that in the last forecast of his model, before the election last year. No surprises there.

 

A better way of looking this is that growth is slowing down after a spurt that was caused by the rapid -- and I must add, bipartisan -- increase in spending after the pandemic, and the infamous (worst mistake in 40 years, according to Larry Summers) US$ 1.9 trillion fiscal package. The economy is sliding into lower rates of growth, now a little below 2% (see below).

Why was GDP slowing down, and even Fair forecasts suggested that before Trump's election victory, one might ask. The reason is that the fiscal expansion had basically given way to a less expansionist stance, and monetary policy had been tightening over the last two years. In fact, the most troublesome part of the two BEA reports this year is the slowdown in the government spending contributions to economic growth (negative in the first quarter, and only slightly positive in the second; and consistently negative at the federal level), with a large fall on non-defense spending in the second quarter (see this table).

Again, whether this would eventually continue is to be seen. It seems that the DOGE/libertarian wing of the GOP has lost internally, but the Big Beautiful Bill was more about cutting taxes (for the wealthy; and spending for the poor) than about expanding spending (even defense spending). This is not exactly Reaganomics (I'm not even talking about the tariffs).

The other thing is the effects of interests rates, which the Fed had also kept in place a couple of weeks ago, prompting lots of insults from Trump, and a renewed defense of the central bank by many progressives (I need to write about the new breed of Free Trade/Central Bank Independence progressives). As I have discussed before, a key variable here is Private Residential Fixed Investment, shown below. As I noted before, only four times this variable became rate of change was negative and a recession did not follow (In the early 50s, because of the Korean War, the late 60s, because of Vietnam, the early 90s, with the dot.com bubble, and in 2023, as a result of Biden's fiscal package, only possible in the post-pandemic context). Now this is again moving dangerously close to the negative space. This is where the big risk of a recession comes from. High interests that affect the ability of households to consume, that is tied to mortgage interest rates (which depend on the Fed policy rates). not surprisingly consumption has also grow sluggishly after an initial decline (even with wages at the bottom still growing more than inflation).

Interestingly enough, on this (and only on this), Trump seems to be right, and Powell wrong, even if you think that Powell is a decent man (I'm not sure anyone would be confused about Epstein... I mean, Trump). Lower interest rates would be important to avoid a recession. So it would be the case with a more robust round of spending on social transfers like we did during the pandemic. But that is certainly not happening. The mood has turned against fiscal policy, even among progressives. Not that there is any risk of a fiscal crisis. On this the MMT crowd is correct.

But as a conclusion: it is NOT the uncertainty of tariffs, or its effect on profits and investment (which is merely reactive to the level of activity). It is macroeconomic policy, or the mismanagement of the macro policy to be more precise, that might cause a recession.

* And yes, before anyone says anything, it was nuts to fire the BLS head. I doubt, however, that he will be able to cook the numbers, and think that even with a crony (I hope not) the BLS is a strong institution that will basically report the numbers, as it has done so far. 

The United States’ Unchallenged Hegemony in the World-System

 

By David Fields

A prevalent assumption concerning the United States’ global position posits precipitous hegemonic decline. Conventional wisdom, predominant since the 1970s, suggests that the U.S. has been on the verge of losing its preeminent status, as evidenced by the collapse of the Bretton Woods system and the subsequent emergence of the Eurozone, BRICS, and the spectacular rise of China. Proponents of this view tend to interpret U.S. current account deficits as an unsustainable imbalance, predicting a hard landing scenario resulting from resoundingly widespread divestment from dollar-denominated assets. Similarly, academic and political anxieties regarding a more disorderly international system, often linked to a perceived weakening of U.S. influence, are further amplified by recent fascist political rhetoric of “America First”.

To construct an effective critique of U.S. imperialism, it is pertinent to ascertain that the United States is not experiencing a significant hegemonic decline; its structural power within the capitalist world-system persists without substantial challenge.

Read rest here. 

Capital controls in the US?

In a recent Financial Times op-ed, Michael Pettis argued that the US should impose capital controls. In his view, the traditional view according to which capital inflows necessarily lower domestic interest rates and spur productive investment is based on a misunderstanding of how capital flows affect modern economies. This might have been true for rapidly growing developing economies with high investment needs and limited domestic savings, where foreign capital truly relieved a saving constraint. However, since the breakdown of the Bretton Woods system, modern financial systems can expand credit largely unconstrained. In this environment, capital inflows into advanced economies like the US, do not primarily finance new, productive investments.

In the modern context, capital inflows often lead to an increase in household or fiscal debt. Policymakers use this credit growth to sustain domestic demand and prevent recessions that would otherwise be caused by the leakage of demand abroad due to trade deficits. This is a "beggar thy neighbour" dynamic -- a term coined by Joan Robinson, and the reason she appears in the FT piece, even though she was referring to competitive depreciation and trade restrictions, not capital flows -- where trade deficits are caused by shifts in spending to foreign goods, forcing domestic businesses to reduce output. Further, this reliance on rising household or fiscal debt to absorb foreign capital inflows and the resulting trade deficits is unsustainable in the long run. It leads to rising debt levels and distorted economic structures. He concludes that restricting capital inflows would directly address the problem of aligning a country's external position with its domestic needs.

There are many problems with these views. On a theoretical level, he does suggest, as Vicky Chick in a paper that Lance Taylor liked and used in his courses, in the earlier period savings was necessary for investment. Essentially Say's Law. That is certainly not the case. Even in the 19th century, with less developed financial markets, banks had the ability to create credit, and savings (a flow) did not finance investment. Also, interest rates do not depend on the capital flows and the available funds, and are essentially an exogenous variable controlled to a great extent by the monetary authority (that was true in the past too).

More importantly, it is unclear that the external situation of the US, indebted in its own currency is unsustainable. What is the problem that this would be solving? There is no fiscal problem either, irrespective of the downgrade of US debt by Moody's recently (Standard & Poor's and Fitch had done it years ago). In fact, capital controls would affect the international role of the dollar and would be a major misstep, since it would directly affect the ability of foreigners to use dollars, and restrict its use in international financial markets. Not that this would have any chance of happening with Bessent, a Wall Street operator, as Treasury Secretary.

Private debt (not public) is considerably more dangerous than public debt, since when the government gets indebted, if it uses the money to promote growth, it directly affects its ability to pay back the debt, since its revenue is tied to the level of economic activity. That is why public debt tends to fall not by cutting spending and promoting adjustment and reducing the amount of debt, but by promoting growth and reducing the relevance of debt with respect to ability to repay. So, Pettis is not incorrect in noting that the US has depended more on private debt, which is riskier. But capital controls would do little to limit this dynamic. Policies that expand the remuneration (wages) of the people at the bottom (i.e. better income distribution) and that are more lenient with private debtors would have better results.

Regulation of financial markets too should play a role. In particular, the predatory lending practices that are still rampant in the US more than a decade and half after the 2008-9 financial crisis. But in all fairness, if there is something the US can do to grow faster and avoid financial problems, it would simply be more spending (perhaps a mix of infrastructure and social transfers) and lower interest rates. One can hope.

A Bipartisan Neoliberal Offensive

By David Fields

Donald Trump’s fascist political ascent is not a mere historical anomaly or an unpredictable deviation from the norm. On the contrary, it represents a predictable and deeply entrenched political outcome, that is, the logical, albeit unsettling, culmination of a long-standing bipartisan reorganization of the United States political economy. This restructuring can be understood as a coherent and potent neoliberal project, meticulously designed to reorder American capitalism around the central tenets of maximizing corporate power and diminishing the role of the state in social welfare.

In pursuit of these objectives, this neoliberal project systematically dismantled the post-World War II social contract, characterized by relatively strong labor unions, progressive taxation, and the expansion of moderate social safety nets. It aimed to balance capitalist accumulation with, to a certain extent, social equity and economic security for the working class. Over time this foundational agreement was incrementally eroded. Policies favoring deregulation, privatization, free trade agreements, and supply-side economics dogma became paramount, leading to a significant redistribution of wealth upwards for the few and stagnant wages for the many. This long-term trend of prioritizing corporate interests over collective well-being created fertile ground for populist discontent and the rise of figures who, like Trump, could tap into widespread frustration with the established political and economic order.

Read rest here. 

 

Conversation (in Spanish) about Trump's Tariffs at Central Económica from UNAL-Colombia

Listen to the audio.

Essentially a conversation about what are the real risks, at least so far. 

Surplus approach, Historical Materialism, and precapitalist economies:

New Paper by Sergio Cesaratto on a topic closely related to what he has discussed here before. From the abstract:

In the classical economists’ surplus approach retrieved by Sraffa (1951; 1960) and Garegnani ([1960] 2024), institutions regulate the  material  basis  of  society  and,  in  particular,  the  extraction and distribution  of  the  social  surplus.  In  this  regard,  classical theory  provides  a  material  anchor,  alternative  to  neoclassical New Institutional Economics, to anthropological, archaeological and  historical  studies  of  precapitalist  economies.  Expunged  of any teleological meaning, Marx’s Historical Materialism (HM) is a   natural   source   of   inspiration   for   this   interdisciplinary perspective. The nature and dynamics of Marx’s notion of modes of  production  (MOP)  are  not,  however,  firmly  defined  and  have been  the  object  of  over-complicated  doctrinal  disputes  among Marxists. Since I am unable to provide a comprehensive overview of these debates, I will limit myself to a few aspects that seem to me to be most central or that best convey the issue. The question of MOP dynamics is the most relevant and complex. All in all, the most  mature  Marx  leaves  us  a  very  flexible  reading  of  HM  as  a method of connecting economic, social, and institutional history that can be broadly shared by non-Marxists.

Read the rest here. 

The Return of Trump, Part 1 of the interviews for the Celso Furtado Center

Interview with my old office mate at the New School Center for Economic Policy Analysis, now The Schwartz Center for Economic Policy Analysis (SCEPA), Carlos Bastos Pinkuslfeld, professor at the Federal University of Rio de Janeiro (UFRJ) and the Director of the Celso Furtado Center. In the interview, besides Carlinhos, Josh Mason from John Jay/CUNY. There are more clips, that I'll post as they come.

Ken Rogoff on Milei and the IMF

 

Another Excel... ent work*

This is from a few weeks ago, but only now I had some time to post about it. Ken Rogoff has been doing the rounds of podcasts, after the publication of his most recent book, Our Dollar, Your Problem. He was on Ezra Klein, where he claimed basically that Bernie is as bad as Trump on trade (essentially saying that Biden, that had moved in the direction of Bernie is as bad too; good for Klein that he pushed back on that point). More on that in another post.

He was also on Tyler Cowen's podcast were he discussed, very briefly, the Argentina case. Here a short clip.

Here is the transcript of that bit of the conversation.

COWEN: Is Milei going to make it succeed in Argentina? What does it depend upon?

ROGOFF: I hope so. I think he’s the best chance that Argentina’s had in a long time, which is, fair to say, a very low bar. The thing that he’s done that I have not seen before is balancing the budget. If you’re a big borrower and you keep defaulting, a starting point is figuring out how not to have to borrow money, and he’s managed to do that. I don’t know that all his libertarian visions necessarily will come to pass, but he’s provided some stability, bringing inflation down.

It’s so sad. Argentina, as you know, was one of the richest countries in the world by any measure at the turn of the 20th century in 1900. Now they’re a lower middle-income country. Their per capita income is below Brazil, which is hard to get your head wrapped around. I think there are many reasons, but certainly Peronism, socialism has not done well by Argentina.

COWEN: But has he balanced the budget? I know he announced a balanced budget, but this is April 2025, and they just borrowed $20 million from the IMF. It doesn’t sound like a very balanced budget.

ROGOFF: It’s counting the interest payments on the IMF, and yes, he inherited this big debt. They’re paying the interest. It’s very low interest on the big debt, and I don’t know how that’s ultimately going to get resolved. They have a lot of problems ahead, but there’s a lot of strength in Argentina if they can grow again. I don’t want to sound Panglossian about Argentina, but goodness, they had inflation of 200 percent when he took over. The economy was in free fall. Look, there’s no magic wand you can wave over the last 80, 90 years of Argentina and make everything right.

A few things, that I think are important to contextualize, in particular given the relevance of Rogoff, who was the chief economist at the IMF, and whose textbook, co-authored with Maurice Obstefeld, another ex-chief economist at the IMF, is one of the main graduate texts for international macroeconomics.

First, the notion here is that the problem was fiscal in nature, and the debt in domestic currency is what matters. Of course that is NOT a problem. Inflation was not caused by monetary emissions, and neither was Milei's stabilization. In fact, the IMF first, by forcing a devaluation while Massa was still the minister, and candidate, and then Milei in December of 2023 accelerated inflation. He only managed to stabilize prices so far, because he has held the exchange rate under control, and that has led to many complaints that the real exchange rate is overvalued (that's a topic for another discussion). The fiscal adjustment caused the recession in 2024. That is on Milei, as well as the initial collapse of real wages.

Second, Argentina was never a developed country. It did have a high level of income per capita, but that is true of Saudi Arabia now. Petro-States and Beef-States are not necessarily developed, even if some people might be very wealthy. Peronism (which cannot really be considered socialism) did not cause a decline, not only because there was no glorious past in which the country was developed, but also because it was not in power all the time. There were periods of industrialization with conservative-authoritarian regimes, like Ongania in the 1960s, that did not align with the liberalism that Rogoff seems to prefer.

In fact, Prebisch, the father of the intellectual defense of state-led, import substitution industrialization, was a well-known anti-Peronist, and supported the 1955 coup.

Finally, it is true that Milei inherited a large external debt in dollars, and no significant reserves in the central bank. But that debt was accumulated during the Macri administration, an ally of sorts of Milei, under the same economic team (both Caputo and Sturzenegger were in both governments). This was not caused by the excesses of Peronism (read the Kirchners), but by the excesses of neoliberalism.

I have my issues with the implied notion that laissez faire, both in the US, and even more so in the periphery, is a rational strategy for development. On this Rogoff seems out of sink with the times, that have rediscovered industrial policy, and state-led growth. And I also think that Milei can, in particular with the help of the IMF, hold exchange rates for a while (even longer if external markets help him) and ride a reelection as Menem did in the 1990s. But then things will eventually crash.

* On the Reinhart and Rogoff affair read the piece by Cassidy in the New Yorker.

A short note on fiscal regimes and fiscal policy

There is a reasonable debate about how much taxes matter. Most economists would agree that taxes do matter. However, the way in which taxes matter is often not altogether clear. More often than not when discussing taxes the tendency is to concentrate on the short-term implications of tax policy. Economists, for the most part, ignore the historical issues associated with the rise of what Joseph Alois Schumpeter, in his essay on fiscal history, called the Tax State, an admittedly, as he noted, a pleonastic concept. Schumpeter was concerned with the long-term implications of what might be termed a tax regime, rather than tax policy.

Read the longer post here.

More on MMT in the Tropics: or Can exchange rate instability, and zero interest rates, guarantee prosperity in the periphery?

 

Lance Taylor, Wynne Godley and myself in March 1999

Back in the 1990s (from late 1996 to early 1999 to be precise), I worked for Wynne Godley at the Levy Institute. Minsky, that I saw in Brazil once, had just passed away. Randy Wray was at the Levy at an office not far from Wynne's, where we worked on his model. I was, also, in Ed Nell's study group (Matt Forstater was a frequent visitor), that met regularly and discussed functional finance. In fact, one of the few topics that I was first exposed at the New School, rather than at my alma mater in Brazil.

Ed organized a conference on functional finance in 1997 (if memory doesn't fail me), then published as a book (see here), which in many ways was the beginning of what later would be called Modern Money Theory (note that at the core was Abba Lerner's functional finance). At dinner (at the Orozco Room) I sat at a table with Musgrave, Duesenberry, and, for a brief moment, Eisner, that had to leave early.* I think that was the first time I met Mosler.** Randy's MMT book came next year, in 1998 (I should note that I paid less attention to that book than his previous one, based on his PhD dissertation under Minsky, since I was at the time writing my own dissertation under Wynne and Lance Taylor, both pictured above on the day of my defense).

I start this, just to explain what should be obvious, that functional finance, endogenous money, and a preoccupation with full employment not only are part of my concerns, but that I learned, at least in part, some of these ideas more or less at the same time that they were being discussed and the MMT school was being formed. Mind you the notion of effective demand, and the perils of the external constraint, were things I already knew, but some of the issues with value theory and its importance for policy I also learned with Ed, and John Eatwell, at the New School. Further, on a personal note, I should clarify that while I worked for Wynne, who at the time was concerned with the growing external imbalances of the US, and the consequences for the international position of the dollar, I tended, on this topic to be closer to Randy's views, since it was clear for any one that came from the Federal University in Rio, and who had been influenced by Maria da Conceição Tavares, that the dollar was under no danger, and the US by definition didn't have an external constraint.

All of this to say, again, that in general, I do agree with the notion that autonomous spending determines income, and taxes being charged out of income, are the result of spending, and, as a result, the limit to fiscal policy is essentially political in nature. That is something that MMT has been instrumental in popularizing in the United States, and whenever I can, I do help on that (see my podcast with Stephanie Kelton, who was at Levy when I worked there, and started her PhD at the New School slightly after I did). She was here at Bucknell to discuss the documentary Finding the Money.

 

Stephanie at the Campus Theatre, Bucknell last March

This introduction, longish and winding, is to explain why it is somewhat weird to discuss this paper by Arturo Huerta, who I have met in Mexico, but do not know very well. This is difficult because it is a misrepresentation of the differences I do have with MMT. His paper is supposedly a rebuttal to some arguments that we have made with Esteban Pérez on Modern Money Theory (MMT). The paper is a mix of name calling (essentially that we are conventional or orthodox, read, neoclassical, and that we are neoliberals or aligned with them) and a series of arguments in defense of flexible exchange rate regimes as a solution for unemployment problems in peripheral countries. The title, "Exchange-Rate Stability Causes Deterioration of the Productive Sphere and Destabilizes Developing Economies," seems to go even further and advocate for exchange rate instability. For Minsky financial stability was destabilizing, for some MMT authors exchange rate stability causes underdevelopment and is also destabilizing.

In fact, this seems to be more a response to the critique, mine more than Esteban's, to Warren Mosler's proposal for Argentina (see below),* which would definitively cause more exchange rate instability,  inflation and a huge recession, than to our original discussion of MMT in developing countries. In fact, Huerta does not cite that paper, but our response to a poorly developed and somewhat misleading paper by Agustin Mario, that I discussed here, who said without any evidence that we defended supply side views of economic growth.

Mosler's plan consists of free float (which he says retains foreign reserves), a zero (yep, that is zero) interest rate irrespective of the rate of interest in the United States, and a Job Guarantee (JG) program. The rest is less relevant, at least for our purposes. I also assume some expansionary fiscal policy on top would be necessary for the JG.

 

Mosler's policy proposal for Argentina

Huerta's main point is that a flexible exchange rates would free the country to spend in domestic currency, very much like Mosler suggests, without loss of reserves, which developing should not be concerned with in the first place. He essentially argues along Wray's lines according to which: "a government does not need to fear that it will run out of foreign currency reserves (or gold reserves) for the simple reason that it does not convert its domestic currency to foreign currency at a fixed exchange rate" (from Wray's Modern money theory: a primer on macroeconomics for sovereign monetary: p. 161. It is still exactly like that in the 2024 edition).

The notion is that: "a floating currency provides more policy space – the ability to use domestic fiscal and monetary policy to achieve policy goals. By contrast, a fixed exchange rate reduces policy space" (Ibid.). Of course, a fixed exchange rate is not necessarily the same that a stable one, and the notion that allowing big devaluations is counter-productive. MMTeers may say, as I'm sure they will, we do not defend big devaluations. Maybe not explicitly, but if you keep low (zero interest rates), and do not intervene in the exchange rate market, that is, unavoidably, the consequence. Doing that will not retain reserves, and central banks should be concerned about reserves. Btw, Milei was able to reduce inflation drastically because he did intervene both in the official and the parallel exchange rate markets (and the loan from the IMF is essentially about recomposing reserves; more on that in another post).

Then comes the question of why you should be concerned with reserves, and here Huerta's position is somewhat puzzling, particularly for someone coming from a developing country. I quote here, he says: "Vernengo and Pérez (2021) do not consider that purchases of imported goods are paid for in the importing nation’s currency, accepted by the exporters so that they can make investments, acquire financial assets, and make purchases in that nation." He suggests that they would accept pesos. In this view, a country that is an oil importer, that cannot function without energy, can import oil in domestic currency. Good luck with that!

But even if we leave the realm of Latin American magical realism, an the notion that developing countries can import in its own currency the basic capital and intermediary goods that they need to maintain normal levels of activity, his view is full of problems. He accepts very conventional views about the exchange rate (while claiming that I do have orthodox views, which I never did, on fiscal austerity; on that, note that The Guardian quotes me twice, here and here, as being against austerity when many heterodox economists, some even arguably MMTeers, I might add, have been for austerity in Argentina, saying that the mistake of the Kirchners was their fiscal excesses).

His main argument is that a "flexible exchange rates are important ... for increasing the competitiveness of national productivity and reducing pressures upon the external sector." He repeats it,  saying that: "A flexible exchange rate improves competitiveness and promotes economic growth, thereby reducing the current account deficit." In other words, the flexible exchange rate does solve the external problem (Randy is always more careful about that, and I have not seen that argument in his work).

He says that: "the reason for MMT’s advocacy of flexible exchange rates is so that the exchange rates may adjust to differences between domestic prices and those of the principal trading partners. By allowing those adjustments, a nation can avoid the relative-price distortions that would affect national production." *** He notes, as I suggested above, that they are not for depreciation per se (yeah, but with a zero interest rate...), but that: "the predominant exchange rate stability (achieved by maintaining high interest rates, in order to promote capital inflow) has led to exchange rate appreciation, which is detrimental to the competitiveness of national production." In this, as we noted in our original paper with Esteban, they are very similar to Bresser-Pereira's New Developmentalism. In the concern with a competitive exchange rate, but with a tolerance, if not a promotion of exchange rate instability, which is inevitable with very low interest rates.

There are many other issues, which again reveal actual use of marginalist thinking, for example, he says: "In saying that low interest rates generate inflation, these authors presuppose that low rates increase demand, and that the economy is in full employment. However, Vernengo and Pérez do not consider the fact that low interest rates favor the growth of investment, production, and productivity." First of all, that misrepresents our views. Low interest rates, leading to a negative interest rate differential (when the local rate is lower than the US rate adjusted for risk) leads to depreciation, and higher costs of imported goods, and inflation even if the economy is below full employment (I published the model in a book edited by, wait for it ... Forstater and Wray). Inflation comes from distributive conflict, and a depreciation, by affecting the costs of production and reducing real wages, stokes inflation. Second of all, his point is that lower interest rates lead to higher investment, which is a marginalist view that associates the intensity of the use of capital with its remuneration, a problem Huerta and many Post Keynesians share with Keynes.**** I follow Sraffians and prefer to abandon marginalist principles.

Huerta puts emphasis on the role of investment as central for growth, and in the need of very low interest rates for that, irrespective of their effect on exchange rate instability. He actually says several times that exchange rate stability is a problem, and argues that: "economies that give priority to exchange-rate stability cannot employ flexible monetary and fiscal policies to stimulate growth." On this, my views are closer to Ricardo Summa, that notes that investment is not so unstable, and follows the accelerator, and that autonomous demand (the non capacity generating part of it) is central for explaining growth.

So one needs a managed exchange rate, to avoid the inflationary pressures, and one needs to be concerned with reserves to be able to avoid the perils of not being able to import essential goods, that would cause bottlenecks an impede growth. But Huerta knows that, as a friend noticed (see below).

As he says in his tweets, what would Mexico do if it runs out of dollars to buy corn? Why not use pesos instead then? I mean, I get that Vernengo did not consider that, but he is an orthodox economist, isn't he?

In other words, sometimes, and certainly not always, developing countries cannot pursue expansionist fiscal policies because they do NOT HAVE DOLLARS (there is a reason every country, even China, accumulated humongous reserves of dollars after 2008-9). In order to be able to do it, sometimes, higher rates are needed in the periphery (not so much in the US). Then expansionary fiscal policy can be pursued even with higher interest rates, and the economy would be able to grow (as would investment that would respond, not to the higher interest, but to higher levels of demand). Exchange rate competitiveness is not central for growth, and Latin America did its State-led, import substitution industrialization (that Huerta cites all the time) during Bretton Woods with a stable nominal exchange rate (Mexico had a fixed rate from 1954 to 1976; they call it stabilizing development). It was a period of high growth, and relatively stable and appreciated exchange rate.

* I did co-edit a book, that had what I think was the last paper written by Eisner and can be seen as a follow up to that conference (ours what out of a few sessions we co-organized at the Easterns in DC in 2004, on functional finance issues.

** Mosler was in Argentina and presented this in several venues, including, at the University of Moreno, where someone questioned the idea that flexible rates with zero interested was feasible, and correctly noted that it would be inflationary and contractionary. He proceeded to ask if the person worked with me, as the story was related to me. As if my position on this is somewhat unique and someone that suggests that it doesn't make sense is my disciple.

*** Note that for Huerta exchange rates change relative prices and allow to fix distortions, in typical marginalist fashion. The emphasis is not on the effects on distribution and through that on quantities, as in structuralist views.

**** This blog is known for emphasizing the Sraffian critique of the marginalist theory of investment (very old post on that).

On Money and the Interest Rate

David Fields (guest blogger)

A capitalist economy is a monetized production system, that is, economic activity is predicated upon the extent to which financial institutions extend credit to enterprises. Consequently, output expansion is mediated by the mechanisms of banking. The ability of firms to acquire necessary labor and material inputs, essential for fulfilling profit expectations and enabling wage disbursements to workers, is contingent upon the scope of debt obligations. Credit, thus, functions as a social technology of deferred payment and settlement, establishing a relatively secure contractual claim that enables entrepreneurs to address uncertainty and facilitate long-term operational expansion, as determined by the level of aggregate demand. Restrictions on credit invariably nullify attempts at increased production. Banks facilitate the prepayment of firms for capital goods and labor costs, sustaining production and distribution prior to the realization of profits from projected consumer goods sales.

Proportional shares of accumulated profits are transferred to the banking sector. Firms are obligated to deduct interest payments from their collateralized deposit schedules of future revenue. This is called the reflux mechanism, or monetary circuit, which can be represented by the following Marxian schema:

                                                           M* – M – C’ – M’ – M*’

where M* denotes bank loans to firms that enable the production process (M – C’ – M’), ultimately converted into M*’, representing interest payments to the financier from realized profits, M’. The difference (M' - M), profit, is regulated by the financial provisions offered by banks , which are subject to the interest rate is set by a nation's central bank. Hence, the interest rate is a conventionally determined distributive variable that ultimately determines the proportional allocation of income.

Consequently, should the central bank implement and sustain elevated interest rates over extended duration while aggregate demand remains subdued due to insufficient fiscal policy, a decline in real wages will ensue, unless there is effective labor resistance. In this sense, what can be defined as monetary austerity sacrifices long-term productive investment, unless there is an effective counter-cyclical fiscal space, which is limited for states that faces balance of payments constraints.

On the GDP data and the risk of a recession

For the most part what I suggested here, a month ago or so, seems to be essentially correct [the video is not very good, and it continued sharing the previous PowerPoint rather than mine]. What I said was that the objective or actual data on government spending, consumption and imports did not suggest a recession. I noted that the Atlanta Fed GDP Now prediction of a massive recession (2.8% of GDP) was probably incorrect and all predicated on the increase in imports, which were most likely an anticipation as a result of the announced tariffs, and that the economy would probably slowdown, as it was already slowing down, but that a recession was (at least immediately) unlikely. This is essentially what happened.

As I noted, these imports (say imported cars in a parking lot) are actually inventories, and more akin to investment. Jason Furman noted that if one looks at what he calls core GDP, then the economy grew at a more normal 2.4% in the first quarter. Note also, as I said in the above talk, that imports are pro-cyclical, and the rise in imports is NOT a sign of a recession.

Again, that does NOT mean that a recession should be ruled out. But the two mechanisms by which it would happen, if it does, should be properly understood. Uncertainty, per se, is not the central story. One channel as I noted in the presentation is the effect of possible higher rates (or simply no reductions) of interest on the housing market and from that on consumption. The Fed has been moved to a more hawkish stance, and even the possible new chairman, Kevin Warsh, seems even more hawkish. The other channel is in my view the big surprise of this report. Government spending fell, in particular a pronounced fall in defense spending. How much of that is caused by DOGE is unclear. The GDP tracker, when one looks at the monthly data, suggests a decrease, after February, even if overall spending since the beginning of the year is up when compared to 2024. But that seems to be the norm, and if they keep on track it should go up soon. Certainly no marked anomalous decline yet.

 

If the Trump administration takes a hawkish fiscal stance, then for sure we can expect a recession. I am somewhat skeptical that this is the case. Trump himself is not particularly concerned with fiscal issues beyond making his previous tax cut permanent. Republicans, except a tiny minority are not fiscal hawks. Actually, it is most likely to find fiscal hawks among Dems these days (and that is their problem; or one of them). But those would be the two channels that might cause a recession. To be seen.

Recession, Stagnation, Inflation, Debt Crises and more (with Franklin Serrano, Ricardo Summa, and Nathalie Marins)

Slow at posting. This should have been uploaded before, but it wasn't on my Zoom account. At any rate, I think the panel holds well even after a couple of months (from late February).

More on manufacturing and trade policy

There has been, and there will continue to be a lot of speculation about manufacturing and tariffs. Tariffs started to increase with Trump in 2017, and were kept by Biden. But among the differences between Trumponomics and Bidenomics (for more go here and here) was the smarter use of industrial policy, in the latter case.

The figure below shows Total Private Manufacturing Construction in the United States. Essentially how much firms spent on constructing of manufacturing installations. A poor proxy for manufacturing output (or potential), if not employment. Actual manufacturing output didn't grow much (a discussion on re-industrialization here; a very old post on deindustrialization here).

As it can be seen, it is flat during the first Trump presidency, and takes off at some point towards the middle of 2021. This in part reflects the CHIPS Act and the Inflation Recovery Act, both from well into 2022, but given the timing, it also shows that simply the expansion of spending, that occurred as soon as Biden assumed the presidency, with the $1.9 trillion package of March 2021, may have been instrumental. By about mid-2024, the boom had lost steam.

I think there are good reasons to be skeptical about Peter Navarro's manufacturing boom (see last post here).

Tariffs and the return of Made in America!

Trump's tariffs look less and less like an instrument for negotiation, of whatever they would allow to negotiate (some stuff is simply ludicrous, like the discussion on reducing fentanyl entry through Canada), and, at least rhetorically, he is using the language of bringing back manufacturing jobs to the United States. That would actually strengthen his populist credentials. Many trade union types were very happy, contrary to what most media outlets would make you believe, and certainly it should worry Dems.

However, whether this tariffs will bring back manufacturing jobs is far from clear. There have been a lot of jokes about the back-of-the-envelope calculations used to determine the level of the tariffs. At the end of the day, it seems that the actual decision was somewhat arbitrary, and mostly concerned with punishing countries with higher trade surpluses with the US.

I don't think this is clear yet, but average tariffs may go back to the levels of the 1930s, if these stick (which again, nobody knows, since some might negotiate side deals with the Don). And while there is a lot of debate about the effects that they will have in the economy in the short run (inflation, stagflation and so on), there has been little discussion of the historical precedent, and whether tariffs were instrumental for American industrialization, and whether the claim that they will bring back good jobs makes sense. Certainly, on the progressive side that is the common understanding, and a lot of that is associated to Alexander Hamilton, and his followers, less well-known figures like Mathew and Henry Carey, Friedrich List, and later Progressives like Simon Patten, during the Gilded Age. And tariffs were definitely high in the post-bellum period, when the US industrialized (see below, from Douglas Irwin's massive history of US trade policy).

It is certainly true that the bulk of industrialization happened when tariffs where high, even if some industrialization did happen in the ante-bellum period, when tariffs fluctuated quite a bit. The official economic historiography, Taussig, North and Irwin himself, to cite some of the more prominent authors, are somewhat skeptical of its role. Irwin, in particular, is very forceful in his views about the fiscal nature of the ante-bellum tariffs, and even, in terms of intellectual history, the notion that Hamilton was not a protectionist defending import substitution industrialization. I have problems with that interpretation, and I think a reading of Hamilton's Report on Manufactures shows that he is incorrect.

However, it is true that tariffs alone did not cause industrialization. Just as an example, tariffs by the end of the 19th century were higher in Latin America, on average, than in the US, and even though there was some increase in manufacturing in some countries in the region, they remained mostly commodity exporters during this period (see graph below from Coatsworth and Williamson).

So, if not tariffs, what allowed for the industrial boom in the post-bellum period, one may ask. First and foremost, the railroad boom, and the finishing of the transcontinental railroad in 1869,  the "Golden Spike" at Promontory Summit, Utah (I visited, and they do a recreation of the famous photo below), created a national market, that was only possible because of the Federal government. Republican governments in that era had an industrializing project, were protectionist, but more importantly provided subsidized land to railroad corporations, which otherwise would not have been able to finance these massive infrastructure projects. Land grants were central for the expansion of the economy, and suggest that the role of the government was much larger than if one looks simply at the level of spending in this period, which was modest, by modern standards.

In other words, protection did play a role, but it was not sufficient to explain the industrialization boom of the late 19th century. Government support for the expansion of the domestic market was key. I do not expect, and so far that has been the case, that the Trump administration will cut significantly spending. A lot of the money that they will spend, will certainly go to contracts for big corporations. In that sense, American corporations will continue to benefit from government largess, but I doubt jobs will come back in great quantities. Note that manufacturing jobs were constant up to the entry of China in the WTO, and then even when they collapsed in the early 2000s (explaining the Tea Party and Trumpism itself to a great extent), at least for a while, it went hand in hand with the expansion of manufacturing output. Only in the last 15 years, in the aftermath of the Great Recession did manufacturing production stalled, and that was during a period of relative modest government spending growth (the Obama-Trump lackluster recovery).

In my view, and this is admittedly impressionistic, cost of production in the US will remain too high, and alternatives will still be more attractive than moving production back to the US. Also, while I do think that the new Republican coalition is fractious, and some may really want to bring back manufacturing jobs, neither Trump, nor his main backers (mostly wealthy billionaires) are pro-workers or really concerned with bringing back good manufacturing jobs. He is dismantling unions (in the Federal bureaucracy) and has a very pro-business, anti-labor set of policies. Even in immigration that could strengthen labor to some extent, he has not deported more than Biden, at least not yet.

On the critical, progressive side, the most common critique is that tariffs will lead to a collapse of the global economy, like the Smoot-Hawley Tariff of the 1930s, and a significant acceleration of inflation. Perhaps even stagflation. I, obviously, think that fears (or hopes) here are also exaggerated. Smoot-Hawley did not cause, and did not even exacerbate the Depression (even if it did not help either), the latter a view that is probably in the minority these days. And as I noted repeatedly, while tariffs will have a short run effect on inflation, since they will affect the level of prices, they will not lead to persistent inflation, which will come down fast, as did it after the pandemic. The problem will be that workers this time will not have higher wage increases. In other words, tariffs will hurt some people in the economy for sure. But that is a matter for another discussion.

Policy Parlor with Franklin Serrano

My conversation with Franklin during his visit to Bucknell University. We talked about the supermultiplier and its applications to understanding real economies. The quality of the sound is better than I had expected, even if the camera is moving somewhat, and could be distracting.

On the coming American Recession: Some skeptical notes

Everybody, including Trump, is talking about the forthcoming recession. In Trump's case, he suggests that while painful in the short run, it would be good in the long (when possibly will be dead). At any rate, I did comment (mostly on social media and podcasts) that most of that is based on subjective perceptions of what might happen, which is certainly not impossible if government spending is truly slashed by the Department of Government Efficiency (DOGE). But again, most evidence so far has been based on impressions, things like consumer confidence.

Most of the objective data, at least for now, does NOT suggest a recession, but rather a slowdown at worst. The new data that came out last week suggests still the same. The personal income and outlays report of the Bureau of Economic Analysis (BEA) suggests that real personal consumption remains more or less steady, a little below December, but with a minimal increase in February.

On the other hand, spending seems to be still on target to continue to grow at the same pace (in fact faster so far) even if many of the categories have changed, and winners and losers should be expected. If you cut Medicaid spending, and delay payments on Social Security while expediting government contracts to Space-X this might have distributive consequences, even if the level of activity does not fall.

The Brookings Institution real time federal spending tracker suggests that spending is higher in 2025 than in 2024, at least so far. Something that has been reported by several other outlets. Sure enough the Fed kept interest rates up, but there is no evidence that this has affected the housing market yet. Maybe the key word is yet. But there is a reasonable scenario that this Trump presidency, at least on this, will look like that previous, a slow expansion pushed by regressive tax cuts and higher spending on military/space contracts, with negative social consequences.

By the way, the Post indicated that on deportations, something similar is happening. Numbers are not up, with respect to Biden, even if the targets and methods have changed (and are certainly nastier). No doubt in other areas, the second term might be more problematic.