by It is great that Paul Krugman is spending so much time trying to understand MMT, but I don't think he has escaped from his old ideas sufficiently yet to grapple with these new ones. Professor Krugman assumes an inverse relationship between aggregate demand and interest rates which is stable enough to be useful. In other words, he assumes a reasonably stable and downward sloping IS curve. No such relationship can be assumed.Fiscal policy is effective because it adds to or subtracts from the net financial assets of the private sector, in a way that monetary policy does not. Surely, by now, people should be aware of the limitations on the ability of central banks to use interest rates to manage demand. Right now, many central bankers no longer believe interest rate cuts work; they have
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It is great that Paul Krugman is spending so much time trying to understand MMT, but I don't think he has escaped from his old ideas sufficiently yet to grapple with these new ones.
Professor Krugman assumes an inverse relationship between aggregate demand and interest rates which is stable enough to be useful. In other words, he assumes a reasonably stable and downward sloping IS curve.
No such relationship can be assumed.Fiscal policy is effective because it adds to or subtracts from the net financial assets of the private sector, in a way that monetary policy does not. Surely, by now, people should be aware of the limitations on the ability of central banks to use interest rates to manage demand. Right now, many central bankers no longer believe interest rate cuts work; they have no faith in quantitative easing; and they are terrified of raising interest rates, due to the well-founded fear that significant increases might undermine asset prices and trigger defaults.
Mainstream economists have tended to argue that fiscal policy will be ineffective because a higher fiscal deficit necessarily leads to higher interest rates and crowding out of private spending (which is nonsense); or because a deficit today leads to government debt which must be repaid in the future, implying higher taxes in the future, causing people to spend less today (which is an even bigger pile of nonsense).
So yes, mainstream economics is wrong.
In mainstream economics, monetary policy is a more effective demand management tool than fiscal policy, nearly all the time.
In reality, fiscal policy is an effective demand management tool and monetary policy isn't.
Use fiscal policy to manage total spending.
Leave risk-free interest rates at zero, or close to zero.
Use financial regulation to limit and influence the direction of credit creation.
Balance the economy - not the budget.
And stop drawing IS curves. They don't help.Modern Monetary Theory- Economics for Sustainable Prosperity (Facebook, membership required)