Enough of Cold War II for this week – today it’s time for a rifle through the mailbag.
(Heads up for new readers – your thoughts and observations on the subjects we explore here at Capital & Conflict are always welcome: [email protected]. I read all the feedback I get in that mailbox, though I sadly don’t always have time to respond to everybody.)
In our “Millennial Monetary Theory” series last week, we focused on the growing financial and political divide between the young and the old. The rising interest in Modern Monetary Theory, which permits near unlimited government spending, could be adopted by millennial politicos to finance trillion-dollar deficits fighting climate change. The resulting inflation we argued, would rebalance the wealth gap.
It’s a pretty polarising topic (as one would expect), and I received some in-depth responses, a pair of which I’d like to share with you today. The first regarded some quotes I included from a government report on wealth inequality:
I’ve just been reading another of your excellent articles. The following quotation, however, caught my eye.
‘The UK economy has become skewed. Rapid and sustained rises in house prices have concentrated wealth in the hands of those who own property. Far too many young people cannot afford homeownership and instead have to pay costly private rent. Life expectancy has risen faster than anticipated at a time when the large baby boomer cohort, born between 1945 and 1965, are reaching retirement’.
And…
‘As the taxes of working people support the retired, the ageing population places strain on those in work. Pensioners have been protected from public spending cuts that have largely been felt by younger groups. Pensioner poverty has been drastically reduced and average pensioner household incomes now exceed those of non-pensioners after housing costs. The millennial generation, born between 1981 and 2000, faces being the first in modern times to be financially worse off than its predecessors’.
First of all at 78 I’m not a ‘baby-boomer’ – I’m older than that. I’m ‘wartime-utility’. But I nevertheless resent seeing the baby-boomers being blamed by politicians for a mess that is of the latters’ own making.
The baby-boomers have merely made hay while the sun shone, (as they ought) and no doubt will be passing on much of their, (supposedly ill-gotten,) gains to their millennial children and generation X grand-children.
The big problem with Civil Service reports is that they are written by civil servants. These people can too easily be induced by their political masters to tell lies to protect their political masters from just criticism.
Neither the problem of house prices (and shortages) nor the problem of the unsustainable state pension have come out of the blue. These problems have been developing for decades and the politicians have done squat about them.
The politicians can’t claim not to have known about them, nor to have had the facts concealed from them. They live in the same country we do and, with a tiny few exceptions, (Mr. Blunkett) they are not blind; they can see what the rest of us see. I am sure the civil servants have been warning the politicians about this for years and years.
Add to this the profligacy of the Blair-Brown government, which raided the income of occupational pension funds leaving black holes all over the place, so that the young can’t even expect a decent work pension, and the fact that they have saddled us with debt to the tune (last I heard) of 85% of GDP (and mounting), so that all our available cash is used to pay interest on their profligacy.
The blame lies 100% at the door of the Gothic Monstrosity on the banks of the Thames and all the pathetic Munchkins that inhabit it.
I agree with the reader that past administrations have much to answer for in the creation of the generation divide. And indeed that the quoted civil servants would be reluctant to point this out. But who elected said administrations, if not the boomers, who have dominated the political sphere for half a century?
The purpose of the “Millennial Monetary Theory” series was not to apportion blame however – it was to highlight the significance of a new generation throwing their weight around in the ballot box in a way that is radically different to their parents.
Some thought my description of Modern Monetary Theory was a little too… conventional:
Hi Boaz,
Enjoying C&C, as always, but I am somewhat bemused by the critique of MMT, which, alas, is all too conventional in its thinking (not a quality I normally associate with C&C.)
It is important to distinguish between MMT the theory of how the economy works, and MMT the policy prescriptions that might flow from it.
MMT is undoubtedly the best description of how our money supply actually comes into existence, which, as we know, is 97% (in the UK) created by private banks when they create loans to businesses and consumers.
Here’s a game: I’m the bank, you are the one person in a one person economy. I create £100 out of thin air, and lend it to you. You have to repay me £100 plus interest, say, £110 in total. Where does the interest come from?
Now extend that model to a 10 person economy. The bank lends each of them £100 to go and create an enterprise of some sort, and they have each to repay the bank £110. After a round of trading – let’s pretend each of them is equally good at business – each person still has £100, but each of them still owes the bank £110. Where does the money to pay the interest come from?
Now imagine a more realistic scenario, where, after a few rounds of trading two people now have all the money and the rest have none. Well, two of them can repay their debt plus interest, but the rest are now in hock to the bank which repossesses whatever assets they own (and sells them to the rich two at fire-sale prices!) Sound familiar?
This is how our money supply works. It is intrinsically unstable. It is like a game of musical chairs where, at the end of each round the music stops and someone is left without a chair. But, worse still, in this game of monetary musical chairs, a few people have become very good at hoarding all the chairs. How do we keep the game going? More chairs! We drop interest rates to zero, we inject money into the banks via QE, we juice up the game for just one more round, but the same result awaits us in the end: there are more people than chairs, some people are hoarding chairs, and a lot of bottoms have nowhere to perch when the music stops…
It is well understood that, for real economic growth of x%, in order to maintain a constant price level, the money supply must also grow by x%. If the money supply grows too fast, too much money is chasing too few goods and services, and prices rise: inflation. If the money supply grows too slowly, too little money is chasing too many goods and services, prices must fall: deflation. So for a growth rate of x%, to have stable prices the money supply must also grow by x%, yes?
BUT as I have just explained above, 97% of our money in the UK is created as a debt, which must be repaid with interest, and we aren’t creating the money with which to repay the interest!
How we square this circle is actually rather easy: the government creates enough money to cover the interest on the private loans and money drawn out of the economy by savers (because savings do not equal investment if banks are creating the money they lend!)
Imagine this: the BoE wants to target 2% growth, with 2% inflation. So the real money supply has to grow by 2%, the nominal money supply by 4%. So the BoE tells private banks: extend credit sufficiently to create 2% growth in broad money. At the same time, the Bank creates another 2% and gives it to the govt to spend. That way the govt can run a deficit of 2% permanently, and that govt deficit funds the interest repayments of the private sector to the banks, and allows savers to save without shrinking the money supply. And as long as the amount of goods & services in the economy grows by 2%, then inflation remains at 2%, it does not spiral out of control…
I should stress that last week I was dwelling not on Modern Monetary Theory itself, but on its implications should a politico recognise it and get into power. We’ll likely dwell on MMT more in the future, as the actual theory itself (not what it permits) provides an interesting description of the actual plumbing behind fiat currencies – the “monetary operations” that actually go on behind the scenes when the government creates and spends cash.
However, as we explored last week, there are plenty of economists and politicos who upon realising the true power the government wields over currency, want to run the printing presses for all the boondoggles they can think of. Should this occur, this will radically alter asset prices (especially bonds), as barring government mastery of the economy (good joke pal), inflation would return in a big way.
And lastly, from another reader:
And what will they do if it doesn’t work? All the MMT they can throw at it and it fails, because the planet chooses not to co-operate. They are taking a lot for granted after all. So what comes after MMT..? And if it does work, at least for a while, what then..?
Good question. As my colleague Tim Price would say, “the answer’s on a postcard”. What I’d focus on is how your investment portfolio would perform in an “all the MMT you can throw at it” environment…
Wishing you a good weekend,
Boaz Shoshan
Editor, Capital & Conflict
Category: Market updates