Two Tests of Your Understanding of Modern Money Theory

There seem to be two things about Modern Money Theory (MMT) that ttest whether you really understand it or not. I have run into many MMT devotees that seem to have misunderstood these two funsamental ideas.

Do you understand what it means when MMT says the ability of the Federal Reserve Bank to create USA money is infinite?

There seems to be something very fundamental about infinity that non-mathemeticians miss. If you subtract a trillion dollars from an infinite supply how much is left. The answer is “infinity”. If you add 100 trillion dollars to an infinite supply, how much do you now have? The answer is, “Infinity”. Doing mathematical operations on infinity with finite numbers does not change infinity (at least in rudimentary understanding of infinity, and certainly for addition and subtraction). So if you are thinking of doing double entry book keeping, and one account has an infinite supply, you have to realize that the infinite entity behaves very differently from the finite one.

MMT depends on a fundamental accounting identity that measures hom money flows from one economic sector to another. These flows are finite, and you can do normal mathematics on the flow. But the source of the flow of money from the Fed is not finite, so you cannot extend the mathematics of the flows to the source of the Fed’s infinite supply of money.

My previous post When Will the White House and OMB Ever Learn About Sector Financial Balances? explains the following diagram of the sectors.

Because MMT is about money (or monetary policy), do you understand that MMT is not saying that fiscal policy is irrelevant? What MMT focuses on is not everything.

The flow of money among the sectors of the economy imposes some constraints on the various sectors, but it does not control everything within a sector. Once the Fed let’s loose a couple trillion dollars of money into the private sector, it has very little control of what that money is used for. Government’s fiscal policy has more power over the economy than monetary policy, once the monetary policy sets the private sector free of monetary constraints. Any economist that has irrational expectations of what the private sector will do with the money available is not expert about the real world. For instance, when the economy is contracting because people because people are not buying consumer goods, no rational capitalist will use his or her available money to prduce more consumer goods, The availability of consumer goods at prices people cannot afford has little bearing on what they can purchase and keep without repossession.

Back in the 1930s, John Maynard Keynes had an explanation of how fiscal and monetary policy work together. MMT is not a contradiction of that policy. Any modern economist (including some Mobel Prize winners) who thinks that Keynes fundamental insight is not loner applicable should be ashamed of herself or himself for claiming to be an expert. This excludes Milton Friedman, because he had no sense of shame.

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