The Deficit Myth

Introduction

Money makes the world go round, or so they say. But what exactly is money, where does it come from, and how should governments manage it? These are some of the key questions explored in Stephanie Kelton's groundbreaking book "The Deficit Myth: Modern Monetary Theory and the Birth of the People's Economy."

Kelton, a leading economist and proponent of Modern Monetary Theory (MMT), challenges conventional wisdom about government spending, deficits, and debt. She argues that many of our assumptions about how money works are outdated and harmful, preventing us from addressing pressing social and economic issues.

This book summary will delve into the core ideas of MMT and explore how this innovative approach to economics could reshape our understanding of money and empower governments to tackle major challenges like unemployment, healthcare, education, and climate change.

The Household Budget Fallacy

One of the most pervasive myths about government finance is the idea that it should operate like a household budget. We're often told that just as families need to balance their income and expenses, governments must do the same. Politicians frequently use this analogy to argue for spending cuts or oppose new programs.

However, Kelton argues that this comparison is fundamentally flawed. While households are currency users, governments that issue their own currency (like the US, Japan, or the UK) are currency issuers. This distinction is crucial and has far-reaching implications.

Currency Users vs. Currency Issuers

Currency users, like households and businesses, must obtain money before they can spend it. They earn income, borrow, or use savings. Their spending is constrained by their ability to acquire currency.

In contrast, currency-issuing governments create money when they spend. They don't need to "get" money from somewhere else before they can use it. This means they face very different constraints than households or businesses.

The TABS vs. STAB Model

Kelton introduces two models to illustrate this difference:

1. TABS (Taxes and Borrowing precede Spending): This is the conventional view, where governments must collect taxes or borrow before they can spend.

2. STAB (Spending precedes Taxing and Borrowing): This is the MMT view, where government spending comes first, followed by taxing and borrowing.

Under the STAB model, governments create money by spending it into existence. Taxes and borrowing then serve different purposes than in the conventional model.

Implications of the STAB Model

This shift in perspective has profound implications:

1. Governments that issue their own currency can't "run out of money" or go bankrupt in their own currency.

2. These governments don't need to balance their budgets like households do.

3. The constraints on government spending are different from what we typically assume.

Understanding these points is crucial for grasping the rest of MMT's insights.

Rethinking Deficits and Debt

With the household budget analogy debunked, we can approach government deficits and debt from a fresh perspective. Kelton argues that these concepts are widely misunderstood and that our fear of them often leads to harmful policies.

What is a Government Deficit?

In simple terms, a government deficit occurs when the government spends more than it collects in taxes. But from an MMT perspective, this isn't necessarily a bad thing. In fact, it can be beneficial for the economy.

When the government runs a deficit, it's essentially putting more money into the private sector than it's taking out. This additional money becomes income for businesses and individuals, potentially stimulating economic activity.

The Sectoral Balances Approach

Kelton introduces the concept of sectoral balances to illustrate this point. In any economy, there are three main sectors:

1. The domestic private sector (households and businesses)
2. The government sector
3. The foreign sector

The net financial positions of these sectors must always sum to zero. If one sector is in surplus, at least one other must be in deficit.

This means that if the private sector wants to save money (which is usually the case), either the government must run a deficit or the country must have a trade surplus. Since trade surpluses are difficult to achieve and maintain, government deficits are often necessary for private sector savings.

National Debt: A Different Perspective

Just as deficits aren't inherently bad, neither is the national debt. Kelton argues that what we call "national debt" is actually the sum of all the financial assets the government has provided to the private sector over time.

When the government issues bonds (which make up the national debt), it's essentially offering a savings account to the private sector. These bonds are considered one of the safest investments available and play a crucial role in the financial system.

Moreover, for a currency-issuing government, repaying this debt is not a problem. The government can always create more of its own currency to meet its obligations.

The Real Constraints

If deficits and debt aren't the main concerns, what should we be worried about? Kelton identifies two key constraints:

1. Inflation: If government spending pushes demand beyond the economy's productive capacity, it can lead to inflation.

2. Real resources: The government can't spend more than the real resources (labor, materials, etc.) available in the economy.

These are the true limits on government spending, not arbitrary deficit or debt targets.

The Job Guarantee: A New Approach to Full Employment

One of the most innovative proposals stemming from MMT is the idea of a job guarantee. This concept challenges our traditional approaches to unemployment and offers a new way to think about the government's role in the economy.

The Problem with Current Employment Policies

Conventional economic thinking assumes that some level of unemployment is necessary to keep inflation in check. This leads to policies that deliberately maintain a pool of unemployed workers, causing unnecessary hardship and wasting human potential.

Moreover, current approaches to job creation often rely on indirect methods, such as tax cuts or interest rate adjustments, which can be slow and ineffective.

The Job Guarantee Proposal

The job guarantee is a simple but powerful idea: the government would offer a job to anyone willing and able to work, at a fixed wage with basic benefits. These jobs would focus on providing public services and addressing community needs.

Key features of the job guarantee:

1. It would act as an automatic stabilizer for the economy, expanding during downturns and contracting during booms.

2. It would establish a de facto minimum wage and benefits standard for the entire economy.

3. It would provide valuable work experience and skills development for participants.

4. It would address unmet needs in communities, from environmental cleanup to elder care.

Benefits of the Job Guarantee

Kelton argues that a job guarantee would have numerous benefits:

1. Elimination of involuntary unemployment
2. Reduction of poverty and inequality
3. Improvement of public services and infrastructure
4. Enhancement of worker bargaining power
5. Stabilization of the economy

Addressing Concerns

Critics often raise concerns about the cost and inflationary impact of a job guarantee. However, Kelton argues that:

1. As a currency issuer, the government can afford the program.
2. The inflationary impact would be limited because the program would be countercyclical.
3. The social and economic benefits would far outweigh the costs.

The job guarantee represents a paradigm shift in how we think about employment and the government's role in the economy.

Rethinking Taxes

In conventional economic thinking, taxes are primarily seen as a way for the government to raise money to fund its spending. However, MMT offers a different perspective on the role of taxes in the economy.

The True Purpose of Taxes

According to MMT, taxes serve several important functions, but raising money for the government isn't one of them. Remember, a currency-issuing government doesn't need tax revenue to spend. Instead, taxes serve to:

1. Drive demand for the currency: By requiring taxes to be paid in the government's currency, it ensures that the currency will be widely accepted and used.

2. Control inflation: Taxes remove money from circulation, which can help manage inflation.

3. Influence behavior: Taxes can be used to discourage certain activities (like smoking) and encourage others (like homeownership).

4. Redistribute wealth: Progressive taxation can help reduce inequality.

Taxes and Spending are Separate

One of the key insights of MMT is that taxing and spending are separate operations. The government doesn't need to "get" money from taxes before it can spend. In fact, logically, government spending must come first – how else would people get the money to pay taxes?

This means that questions about government programs shouldn't focus on "How will we pay for it?" but rather "Do we have the real resources to do this, and is it a priority?"

Implications for Tax Policy

This perspective has significant implications for how we think about tax policy:

1. Tax cuts don't "cost" the government money in the same way they would for a currency user.

2. We shouldn't think of taxes as "funding" specific programs.

3. The focus of tax policy should be on its economic and social effects, not on raising revenue.

A New Approach to Taxes

Kelton suggests that we should rethink our approach to taxes. Instead of asking "How much money do we need to raise?", we should ask:

1. How can we use taxes to help manage inflation?
2. How can we use taxes to incentivize beneficial behaviors and discourage harmful ones?
3. How can we use taxes to create a fairer distribution of wealth and income?

This shift in thinking opens up new possibilities for using tax policy as a tool for economic management and social policy.

The Inflation Bogeyman

Inflation is often cited as the main reason why we can't have nice things – why we can't afford universal healthcare, free education, or ambitious climate change initiatives. But Kelton argues that our fear of inflation is often overblown and misunderstood.

Understanding Inflation

Inflation occurs when the general price level in an economy increases over time. It's often thought of as "too much money chasing too few goods." However, Kelton points out that the causes of inflation are complex and varied.

The Phillips Curve and NAIRU

Conventional economics often relies on concepts like the Phillips Curve and NAIRU (Non-Accelerating Inflation Rate of Unemployment) to argue that low unemployment inevitably leads to high inflation. However, Kelton argues that these relationships are not as straightforward as often assumed.

MMT's Perspective on Inflation

MMT doesn't dismiss the risk of inflation but offers a different perspective:

1. Inflation only becomes a problem when the economy reaches its real resource limits.

2. Most modern economies are operating below their full capacity, meaning there's room for increased government spending without causing inflation.

3. If inflation does become a problem, the government has tools to address it, including taxation and bond sales.

The Real Causes of Inflation

Kelton argues that in many cases, inflation is not caused by government spending but by other factors:

1. Supply shocks (like oil price spikes)
2. Monopoly pricing power
3. Wage-price spirals
4. Currency devaluation in import-dependent economies

Managing Inflation

Rather than using unemployment as a tool to control inflation (which causes unnecessary hardship), Kelton suggests other approaches:

1. Better monitoring of the economy's real resource utilization
2. Using fiscal policy (spending and taxation) to manage demand
3. Implementing price controls in strategic sectors if necessary
4. Using a job guarantee as an inflation anchor

The Benefits of Some Inflation

Kelton also points out that some level of inflation can be beneficial:

1. It encourages spending and investment rather than hoarding money
2. It makes debts easier to repay over time
3. It gives central banks more room to maneuver in setting interest rates

The key is to maintain a balance – enough inflation to keep the economy dynamic, but not so much that it becomes disruptive.

Rethinking Trade and Globalization

International trade is often discussed in terms of winners and losers, with trade deficits seen as inherently bad. However, MMT offers a different perspective on trade and its impacts on the domestic economy.

Understanding Trade Deficits

A trade deficit occurs when a country imports more goods and services than it exports. Conventionally, this is seen as a problem because it's thought to represent money "leaving" the country. However, Kelton argues that this view is mistaken.

The Benefits of Trade Deficits

From an MMT perspective, a trade deficit can actually be beneficial:

1. It represents real goods and services flowing into the country.
2. It allows the domestic population to consume more than it produces.
3. It can support higher living standards and economic growth.

The "Free Lunch" of Trade Deficits

Kelton uses a provocative analogy: for a currency-issuing country, a trade deficit is like getting a "free lunch." The country receives real goods and services in exchange for its currency, which it can create at will.

Rethinking Competitiveness

The obsession with being "competitive" in international trade often leads to policies that harm workers and the environment. Kelton argues that we should focus less on competing and more on cooperating to raise living standards globally.

The Limits of Trade Deficits

While trade deficits aren't inherently bad, they can cause problems:

1. They can lead to job losses in certain sectors.
2. They can create political pressures for protectionist policies.
3. Excessive deficits can potentially lead to currency instability.

A New Approach to Trade Policy

Kelton suggests several ways to address these issues:

1. Use domestic policies (like a job guarantee) to offset job losses from trade.
2. Focus on fair trade rather than free trade, ensuring high labor and environmental standards.
3. Use capital controls when necessary to manage currency flows.

Global Implications

MMT's perspective on trade has significant implications for global economic relations:

1. It challenges the idea that countries need to compete for a limited supply of money.
2. It suggests that developed countries can afford to be more generous in their trade relations with developing countries.
3. It opens up new possibilities for global cooperation on issues like climate change.

By rethinking trade through the lens of MMT, we can move beyond the zero-sum thinking that often dominates international economic relations.

The Green New Deal and MMT

One of the most ambitious policy proposals in recent years is the Green New Deal, which aims to address climate change while also tackling economic inequality. Many critics argue that such a program would be too expensive. However, MMT provides a framework for understanding how we could finance such a massive undertaking.

The Scale of the Challenge

Climate change represents an existential threat that requires rapid and large-scale action. The Green New Deal proposes a comprehensive approach, including:

1. Transitioning to 100% renewable energy
2. Upgrading all buildings for energy efficiency
3. Transforming transportation systems
4. Investing in sustainable agriculture
5. Ensuring a just transition for workers

Conventional Funding Concerns

Traditional economic thinking raises several concerns about funding such a program:

1. It would be too expensive
2. It would require massive tax increases
3. It would lead to unsustainable levels of government debt
4. It could cause high inflation

The MMT Perspective

MMT offers a different view:

1. As a currency issuer, the government can afford the necessary spending.
2. The real constraint is not money, but real resources (labor, materials, technology).
3. The program could be implemented without requiring tax increases to "pay for it."
4. The risk of inflation can be managed through careful planning and policy tools.

Mobilizing Resources

Kelton draws parallels with other large-scale mobilizations in history, such as the original New Deal and the economic transformation during World War II. These examples show that when there's political will, massive resources can be mobilized quickly.

Job Creation and Economic Benefits

A Green New Deal, implemented with MMT principles, could:

1. Create millions of new jobs
2. Stimulate technological innovation
3. Improve public health through reduced pollution
4. Enhance economic security for workers
5. Position the country as a leader in green technology

Managing Potential Inflation

While acknowledging the potential for inflation, Kelton argues that this risk can be managed:

1. The program could be implemented gradually to avoid overheating the economy.
2. Taxes could be used to withdraw money from circulation if needed.
3. The job guarantee component would act as an automatic stabilizer.

Global Cooperation

Kelton also discusses how MMT thinking could facilitate global cooperation on climate change:

1. Developed countries could finance green technology transfers to developing nations.
2. International green bonds could be issued to fund global initiatives.
3. A global Green New Deal could be coordinated to maximize impact.

The Green New Deal serves as a powerful example of how MMT can change our approach to major policy challenges, allowing us to think bigger and act more boldly in the face of existential threats.

Reimagining Social Security and Healthcare

Social programs like Social Security and healthcare are often at the center of political debates, with concerns about their long-term affordability frequently raised. MMT offers a fresh perspective on these issues, challenging the notion that these programs are "running out of money" or are unsustainable.

The Conventional View

Traditionally, programs like Social Security are seen as trust funds that can be depleted. We often hear warnings about Social Security "going bankrupt" or Medicare becoming insolvent. This leads to calls for benefit cuts or privatization.

The MMT Perspective

MMT argues that these concerns are based on a fundamental misunderstanding:

1. Social Security and Medicare are not "savings accounts" that can run out.
2. As a currency issuer, the government can always afford to make these payments.
3. The real question is whether we'll have the real resources (healthcare providers, goods, services) to meet the needs of retirees and patients.

Rethinking Social Security

From an MMT viewpoint:

1. Social Security can never go bankrupt in a financial sense.
2. The program could be expanded without needing to raise taxes to "fund" it.
3. The focus should be on ensuring we have a productive economy to support retirees, not on financial accounting.

A New Approach to Healthcare

MMT also offers insights for healthcare policy:

1. Programs like Medicare for All are financially feasible.
2. The constraint is not money, but real resources like doctors, nurses, and medical facilities.
3. Implementing such programs could actually save money by reducing administrative costs and improving public health.

Addressing the Aging Population

One common concern is the aging population and its impact on these programs. MMT suggests:

1. Focusing on increasing productivity to support a larger retired population.
2. Investing in healthcare infrastructure and training to meet increased demand.
3. Using immigration policy to help balance the workforce.

The Benefits of Secure Social Programs

Kelton argues that robust social programs, understood through MMT, can have significant benefits:

1. Reduced economic anxiety and improved mental health
2. Increased entrepreneurship as people feel more secure taking risks
3. Improved public health outcomes
4. Greater economic stability and resilience

Global Implications

The MMT approach to social programs also has international implications:

1. Developed countries could afford more generous foreign aid and development assistance.
2. Global health initiatives could be funded more ambitiously.
3. International cooperation on pension and healthcare systems could be reimagined.

By reframing how we think about funding social programs, MMT opens up new possibilities for creating a more secure and prosperous society for all.

Education and Student Debt

Education is often described as the key to individual and national success, yet in many countries, including the US, higher education has become increasingly unaffordable, leading to a crisis of student debt. MMT provides a new perspective on how we could approach education funding and address the student debt problem.

The Current Situation

In the US and many other countries:

1. College costs have risen dramatically
2. Student debt has reached crisis levels
3. Many graduates struggle to find well-paying jobs
4. The burden of debt inhibits economic activity and life choices

The Conventional Approach

Traditional solutions often focus on:

1. Tweaking student loan programs
2. Offering more grants and scholarships
3. Encouraging savings through tax-advantaged accounts
4. Promoting cheaper alternatives like community colleges

The MMT Perspective

MMT suggests a more radical rethinking of education funding:

1. As a currency issuer, the government could fund free public higher education.
2. Existing student debt could be cancelled without causing financial strain on the government.
3. The focus should be on the real resources needed (teachers, buildings, materials) rather than financial constraints.

Benefits of Free Higher Education

Kelton argues that making public higher education free would have numerous benefits:

1. Increased access to education, promoting social mobility
2. Reduced financial stress on students and families
3. Greater freedom for graduates to pursue careers based on passion rather than debt obligations
4. Increased entrepreneurship and innovation
5. A more educated workforce, benefiting the entire economy

Addressing Student Debt

MMT also offers a new perspective on existing student debt:

1. The government could cancel federal student debt without needing to "find the money" to do so.
2. This would provide a significant economic stimulus as former debtors would have more disposable income.
3. It would address a major source of inequality and financial stress.

Potential Concerns and Responses

Critics might raise concerns about:

1. Fairness to those who've already paid off their loans
2. The potential inflationary impact
3. The risk of overexpansion of higher education

Kelton addresses these, arguing that the benefits would outweigh the costs and that any negative impacts could be managed through careful policy design.

A New Model for Education Funding

Beyond just making college free, MMT thinking could lead to a reimagining of how we fund education at all levels:

1. Increased investment in early childhood education
2. Better funding for K-12 schools, reducing reliance on local property taxes
3. More support for vocational and technical education
4. Lifelong learning programs to support career changes and adaptation to new technologies

Global Implications

The MMT approach to education funding could also have international implications:

1. Developed countries could more easily fund educational aid to developing nations
2. International student exchange programs could be expanded
3. Global initiatives for digital education and skills training could be more ambitiously funded

By applying MMT principles to education funding, we could create a more educated, skilled, and adaptable workforce, while also addressing one of the major sources of financial stress and inequality in modern societies.

Conclusion: A New Economic Paradigm

"The Deficit Myth" presents a radical reimagining of how our economy works and what's possible when we shed outdated ideas about money and government finance. By embracing the insights of Modern Monetary Theory, Kelton argues, we can tackle some of our most pressing social and economic challenges.

Key Takeaways

1. Currency-issuing governments are not constrained by revenue in the same way households or businesses are.

2. Deficits and national debt are not inherently problematic and can actually be beneficial.

3. The true constraints on government spending are inflation and real resources, not arbitrary budget targets.

4. Taxes serve purposes beyond raising revenue, including managing inflation and influencing behavior.

5. Many "unaffordable" programs, from job guarantees to free education, are actually within our means if we rethink our approach to money.

6. International trade and global economic relations can be reimagined through the lens of MMT.

Implications for Policy and Politics

Kelton's work has profound implications for how we approach policy-making:

1. It challenges the notion that we must choose between fiscal responsibility and addressing social needs.

2. It suggests that many political debates about "how to pay for" programs are misguided.

3. It opens up new possibilities for ambitious programs to address issues like climate change, healthcare, and education.

4. It provides a framework for rethinking international economic relations and development aid.

Challenges and Criticisms

While MMT is gaining traction, it's not without its critics. Common objections include:

1. Concerns about the inflationary potential of increased government spending
2. Skepticism about the political feasibility of implementing MMT ideas
3. Worries about the international implications, especially for countries that don't issue reserve currencies

Kelton addresses these concerns throughout the book, arguing that they are often based on misunderstandings of MMT or outdated economic thinking.

A Call to Action

Ultimately, "The Deficit Myth" is a call to action. Kelton argues that by understanding MMT, we can:

1. Break free from self-imposed financial constraints
2. Think more creatively about solving social and economic problems
3. Build a more prosperous, equitable, and sustainable economy

She challenges readers to question long-held beliefs about money and government finance, and to imagine what might be possible if we approach these issues with a new perspective.

The Road Ahead

While MMT represents a significant departure from conventional economic thinking, Kelton sees it as a natural evolution of our understanding of money and finance. Just as we've moved beyond the gold standard and embraced fiat currency, she argues that it's time to move beyond outdated ideas about government budgets and deficits.

The transition to this new paradigm won't be easy. It requires not just a shift in economic thinking, but in political discourse and public understanding. However, Kelton believes that the potential benefits – from full employment to improved public services to a more sustainable economy – make it a journey worth undertaking.

In presenting these ideas, "The Deficit Myth" doesn't just offer a critique of the current system. It provides a hopeful vision of what might be possible if we rethink our approach to money and the economy. It's an invitation to imagine and work towards a better future – one where our financial systems serve our collective needs and aspirations, rather than constraining them.