Modern monetary theory (MMT) says that conventional economics is wrong about the power of financial markets. Our government has much more power to pay for the services we need than we are told. This is because any government with its own internationally accepted sovereign currency, and its own central bank, can never be dependent upon the financial markets for money. It can always ask its own central bank to create new currency to enable government spending to take place.
We know this is true, because it happened in the UK and in many other countries after the 2008 financial crisis, and it happened again during COVID. Quantitative easing tried to disguise the fact, but it failed. We needed a lot of money, so we created it: the amount of money in circulation created by the Bank of England or other central banks rose enormously.
So, the idea that government is dependent on financial markets is not true, and MMT acknowledges that fact, which other theories do not.
It follows that the government doesn’t borrow from financial markets. Instead, what it does is to provide financial markets with the opportunity to save. And that fundamentally changes the power relationship between the City of London and the government, and similar relationships elsewhere.
The bankers don’t rule. That understanding is why modern monetary theory really matters.
It is tax, not interest rates, that controls inflation
What MMT says, as a consequence, is that the myth of central bank independence and the role of interest rates in controlling inflation, which has imposed so much pain on so many people over recent years, is not true. That is what tax is for.
At present, the balance of power lies with the Treasury and its decisions over taxation. These include short-term changes to control inflation, like changing the basic rate of VAT. This is entirely possible at any time within any economy. Understood like this, the central bank becomes just a regulator of banks and not a controller of the whole of economic policy, which is the status we have, mistakenly, given it for the last 25 odd years.
Tax as a tool to combat inequality
Understood like this, the role of tax is also different. Instead of tax being just about revenue raising, with the focus on whether a particular tax is good at raising money or not, tax is seen as something much bigger.
Tax is a way of delivering policy: changing the way in which the economy runs, by providing subsidies to those things the government wants to happen, and charging tax on those things that it doesn’t want to happen. Charge tax on those things like gambling, alcohol, and carbon, and not on things that are good, like education or books.
It’s also about building a relationship between citizens and government. It’s vital that people understand how tax works because they pay it, and that is one of the ways in which they can decide how to hold government accountable. In other words, tax is a fundamental driver of democracy.
MMT makes all these things clear.
Policy should come first: not money
And MMT is clear that government should not obsess about inflation. The Bank of England’s own data shows that, since 1210, UK inflation has always gone away of its own accord, despite us having no central bank to manage it for 300 years. It always drops back after a peak.
So, the focus of government economic policy should be on things that are much more important. Like full employment, which MMT prioritises. Or investment, or inequality, or climate change. Setting control of inflation as the goal of economic policy has been much more destructive, in fact, than inflation itself.
So, what MMT does is fundamentally change the description of how the economy works. It reverses our understanding of how the government spends and taxes. MMT says that government spends first on what it needs, and then it taxes. Others argue that the government taxes first, and then spends. Although the sums will not necessarily alter greatly, MMT changes our understanding of the power relationships around that.
Putting power back with the people
MMT, then, is a political economic theory because political economy is all about power relationships. And it puts the power back with democratic government, the Treasury, and the choices that it has to make about how to meet the needs of people.
This makes MMT powerful, radical, different, and fundamentally important. It puts people and their government, and not money, bankers, or finance, at the centre of its economic policy.
And that, I believe, is what has to happen now.
Richard Murphy’s videos on MMT are available on YouTube
