Modern Monetary Theory (MMT)

Simply put, MMT is the idea that for a country that issues government debt in its own currency budget deficits don’t matter.   The government can simply print more money if it wants to spend more than it collects in taxes.

Although the theory has been around for a while (the first Google result I got was a critical opinion piece from almost a decade ago), it’s been revived recently by “progressive” Democrats arguing for dramatically increasing social welfare spending.  For them, the answer to the question “What about the Federal deficit?,”  is “MMT,” the government can always issue more debt/print more money.

MMT reminds me a bit of Modern Portfolio Theory (MPT), which was crafted in the 1970s and “proved” that the wild gyrations going on in world stock markets in the late 1960s and the first half of the 1970s were impossible.

 

Four issues come to mind:

–20th century economic history–the UK, Greece, Italy, Korea, Thailand, Malaysia, lots of Latin America…   demonstrates that really bad things happen once government debt gets to the level where investors begin to suspect they won’t be repaid in full.

This has already happened three times in the US: during the Carter administration, when Washington was forced to issue Treasury bonds denominated in foreign currency; during the government debt crisis of 1987, which caused a bond market collapse that triggered, in turn, the Black Monday stock market swoon a few months later; and during the Great Bond Massacre of 1993-94.

In other words, as with MPT, the briefest glance outside through an ivory tower window would show the theory doesn’t describe reality very well

–the traditional case for gold–and, lately, for cryptocurrencies–is to hedge against the government tendency to repay debt in inflation-debased currency.  In other words, every investor’s checklist includes guarding against print-more-money governments

–excessive spending today is conventionally (and correctly, in my view) seen as leaving today’s banquet check to be picked up by one’s children or grandchildren.  In the contemporary cautionary tale of Japan, the tab in question has included massive loss of national wealth, a sharp drop in living standards and economic stagnation for a third of a century.  No wonder Japanese Millennials have a hard time dealing with their elders.

Why would the US be different?  Why are Millennial legislators, of all people, advocating this strategy?

–conventional wisdom is that the first indication that a government is losing its creditworthiness is that foreigners stop buying.  This is arguably not a big deal, since foreigners come and go; locals typically make up the heart of the market.  During the US bond market crisis of 1987, however, the biggest domestic bond market participants staged the buyers strike.  Something very similar happened in 1993-94.  I don’t see any reason to believe that the culture of the “bond vigilante” has disappeared.  So, in my opinion, the negative reaction to a policy of constant deficit spending in the US is likely to be severe and to come very quickly.

Issuing 100-year bonds? … the Treasury says “No, thanks.”

the suggestion

Once every three months, the Treasury Borrowing Advisory Committee, whose members come from among the designated primary Treasury bond dealers, makes a presentation to the government on the state of that market.  In the most recent meeting, earlier this week, the TBAC suggested that the Treasury is missing an opportunity to sell to a potentially large segment of bond buyers–$2.4 trillion worth–by sticking with the plain-vanilla bonds it issues now.  Although the TBAC cited callable and variable-rate securities as possible new flavors, its main suggestion was that government issue longer maturity bonds.  It thinks there would be many willing buyers of even 100-year Treasuries.

The TBAC argument in favor of long-duration bonds is economic.  Its main conclusions:

–insurance companies, due to the long duration nature of the risks they underwrite, need a constant supply of high-quality bonds to use as an offset.

–new capital adequacy rules for banks will increase demand from this sector as well.

Three other points were unspoken:

–even private companies have been able to issue very long duration bonds over the past year

–interest rates are at emergency-low levels, so circumstances are very favorable for sellers, and

–the current US issuance strategy, which emphasizes bonds with maturities of three years or less, minimizes the current interest expense of the country’s debt burden, but exposes the government to considerable refinancing risk, as the following data taken from the TBAC powerpoint presentation illustrate:

outstanding Treasury bond maturities

3 years or less       40%
5-7 years                40%
10-15 years            12%
20+ years                8%.

the response

During a subsequent press conference, a Treasury spokesperson said a 100-year bond makes no sense for the US government.  I don’t think this is an economic conclusion.  It’s a political one.

No, I don’t think the Treasury is concerned with potential repercussions from the losses it might be saddling buyers of a 100-year bond with, as interest rates begin to rise.  After all, it continues to sell savings bonds to the (shrinking number of) Americans unwise enough to purchase them.

Instead, I think the Treasury has two main motives in taking the immense refinancing risk its current maturity profile entails:

–with the government paying 1% interest or less on 40% of the outstanding debt, the current outlay to finance the borrowings is much less than it would be with a more prudent maturity schedule ( a 1% increase would add about $140 billion to the budget deficit), and

–in the current, highly partisan political climate, the administration would surely be accused of acquiescing to, or institutionalizing, the current size of government debt by extending maturities.

I guess it makes some sense to argue that the constant need to refinance exerts pressure on Washington to rein in spending.  There’s no evidence I can see in Congressional behavior that would suggest this theory is right, however.  In fact, it seems to me more like the lower interest expense reduces any sense of urgency to rein in deficit spending.