By Scott Fullwiler
Scott Sumner sets out to debunk theories of the price level not based on a form of the quantity theory of money, and lumps MMT in with those approaches that “deny open market purchases are inflationary, because you are just exchanging one form of government debt for another.” While this is true, what’s interesting is that from within Sumner’s own paradigm, MMT-related proposals should not be inflationary. This is clear right off the bat when he lists his first “qualifier” or exception to the quantity theory:
- If the new base money is interest-bearing reserves, I fully agree that OMOs may not be inflationary. That’s exchanging one type of debt for another.
And that is about all we need to hear. As we’ve said probably gazillions of times, you can’t have discretionary open market operations beyond that which is consistent with the Fed achieving its federal funds rate target unless an interest-bearing alternative to reserve balances is offered. Traditionally, this has been Treasury securities issued by the Treasury or sold by the Fed. The only way to leave all the reserve balances circulating and achieve a positive interest rate target at the same time would be to pay interest on reserve balances.
For instance, later, when Sumner writes, “Now suppose that in 2007 the US monetized the entire net debt, exchanging $6 trillion in non-interest bearing base money for T-securities,” hopefully he realizes that this is not operationally possible without paying interest at the target rate on the excess reserve balances created unless the Fed wanted to have a zero-rate target.
So, in the MMT proposals, whether for functional finance fiscal operations without bond sales or basic coin seigniorage, or in our critiques of QE, we’ve always recognized that these were not operationally possible with a positive interest rate target unless interest is paid on reserve balances at the Fed’s target rate. As such, we always propose that the rate paid on reserve balances and the target rate be equal.
And just to be clear, when Sumner says above that “OMOs maynot be inflationary” due to what he later describes as expectation effects, again MMT agrees that there can be such indirect effects as when expectations of QE2’s ultimate effect were likely behind rising commodity and equity prices. Cullen Roche pointed this out literally dozens of times.
Now, obviously, the MMT understanding of the effects of interest on reserve balances—namely, to achieve an overnight target while adding reserve balances in a discretionary manner, and virtually nothing else—is completely at odds with Sumner’s view and the view of many other neoclassical economists, where interest on reserve balances is akin to tighter monetary policy. But differences in how the two paradigms understand the monetary system or how monetary policy is transmitted to the rest of the economy are not my point here. The point is, from within Sumner’s own paradigm, policies proposed by MMT’ers aren’t inflationary.
Finally, just as an aside, Sumner concludes with, “So here’s my question: Are there any non-quantity theoretic models of the price level?” Of course, the price level itself can be anything depending on which year uses as a base year and the value at which the base year is set, so what’s really of interest is understanding changes in the price level instead of the level itself. Interestingly, MMT is also a quantity-theoretic model of changes in the price level. The differences are (1) net financial assets of the non-government sector, rather than traditional monetary aggregates, are the MMT’ers preferred measure of “money,” and (2) desired leveraging of the non-government sector is akin to what one might call “velocity.” In MMT, the two of those together (net financial assets of the non-government sector relative to leveraging of existing income) set aggregate demand and ultimately changes in the price level, at least the changes that are demand-driven.