Capitalism and MMT

Capitalism is about using capital as a scarce resource efficiently with a view toward risk and anticipated return on investment. It is based on risk-weighted investment in expectation of a return commensurate with the risk involved. ROI that exceeds return on its productive contribution is economic rent that is extracted from someone else's productive contribution.

The problem is not "capitalism" per se. It is actually the most efficient way to allocate capital that has been devised. The problem is rent-seeking, which, according to UMKC professor Michael Hudson, all the classical economists recognized.

Hudson observes that Classical economists — Smith, Ricardo and Marx — distinguished price and value. Price is excess of value is economic rent. Value is determined by the cost of bringing an item into production. Price is set the the market. To the degree that monopoly rent is operative, price may exceed value as determined by all the factors of production.

The Classical economists were acutely aware of the problem of economic rent with respect to contribution and distribution. The world was still emerging from feudalism then. Landowners controlled the dominant means of production at a time when agriculture made up most of the economy. The Classical economists did not wish to see this dominance extended to industrial and financial capital, too.

The distinction was obliterated in the transition to New Classical economics, which conflated price and value. Alfred Marshal established the familiar supply/demand curve as the market determinant of price and therefore value in this model. This blurred the distinction between ROI and rent. This shift cemented capitalist control, and capitalists joined the landowners in enjoying distribution far beyond their contribution to production.

Economic rent also includes land rent and financial rent, which are revenue extracted from productive activity in excess of productive contribution. This was quite evident to the Classical economists, since land owners, often aristocrats who inherited their titles and fortunes by fortunate birth, enjoyed wealth, an opulent lifestyle, and leisure, while workers toiled at what often amounted to subsistence wages. As agriculture became less significant to the economy, and workers migrated to cities, shops, and factories, this feudal distortion was forgotten, as well as the lessons learned and the gains that revolutions had won.

Land ownership is now considered an aspect of capital along with industrial and financial capital. Accordingly, economic rent includes land rent, monopoly rent, and financial rent. Economic rent, by definition, makes no productive contribution and is therefore parasitical on the economic system.

Problems arise when capital is considered to be the primary factor of production as the most valuable and irreplaceable scarce resource, therefore, to be accorded special advantages over the other principal economic factor, labor. The result is that capitalists are institutionally incentivized to seek economic rent in order to garner a greater share of value than is accorded to workers, regardless of productive contribution. As their share of income and wealth increases, they are also able to increase their advantage by influencing the political process.

This arises from the presumption that economic behavior is based on utility maximization, i.e., self-interest. The problem is that if everyone pursues self-interest without restriction, then problems develop at the macro level affecting the economic system because not all can succeed anywhere near equally. For example, inequality introduces inefficiency owing to wealth accumulating at the top. Then the economy underperforms owing to demand deficiency in the rest of society, e.g, resulting in boom-bust cycles. Moreover, those at the top become net savers accumulating rent and those at lower levels become net debtors paying rent.

Utility maximization involves a fallacy of composition. Individuals pursuing self-interest does not lead to prosperity in aggregate, especially where economic rent and political influence are involved. Parasitism weakens and eventually kills the host. When economic distortions become great enough, these imbalances lead to social and political problems that further complicate the economic issues.

The mistake involves methodological individualism, which entails numerous composition fallacies when macroeconomics is reduced to microeconomics scaled up. Methodological individualism is often justified on the basis of ontological individualism, the notion of "individual sovereignty" in the extreme, the idea being that "the invisible hand" invariably works to produce the most efficient economic outcome in aggregate.

One of the problems of methodological individualism is that it excludes government from macroeconomics, or even denies macroeconomics altogether. Accepting Hayek's claim that "socialism" is the road to serfdom, i.e., statism, Margaret Thatcher and Ronald Reagan proclaimed that "government is the problem." What they overlooked, according to Michael Hudson, is that laissez-faire capitalism is the road to debt peonage due to the extraction of economic rent and consequent dominance of the political process by the ownership class to the disadvantage of workers. The result is a return to a double-standard of justice and re-establishment of privilege, which is precisely what the revolutions that established liberal democracy sought to reverse.

The antidote to methodological individualism is recognition that society is a system of relationships among individuals and groups, and that leaving out the relationships distorts the reality. All the life and social sciences, as well as millennia of philosophy, assert this this view, and scientific research backs holism up with evidence.

Thus, any view of economics that assumes methodological individualism runs into the difficulty of being in denial of reality. The answer is either methodological collectivism, which involves the reification of society, or methodological holism, which correctly views society as a system whose elements are individuals in relation to each other, to groups and institutions, and to society as a whole system. Like methodological individualism, methodological holism requires that explanation be traced to causal mechanisms grounded individual behavior, albeit in relation to others, which methodological individualism ignores.

Libertarians and other proponents of laissez-faire make the mistake of thinking that the only alternative to methodological individualism is methodological collectivism, which they claim has lead to socialism and totalitarian statism historically and will inevitably do so in the future based on its principles. However, this view ignores methodological holism, which views society as a social system in which individual behavior in aggregate produces an outcome difference from individual behavior considered singly, e.g., as a representative agent. Holism does not reify the state, and it is fundamentally different from historical and philosophical collectivism, since it does not elevate collectivity above individuals.

Distinguishing holism and individualism is essential. As Roger Erickson has often pointed out in comments on MMT blogs, survival and progress in an ever-changing environment is based on adaptive rate and return on coordination rather than individual initiative alone. Economic presumptions that do not accord with what other life and social sciences have found are myopic, inefficient and ineffective at meeting life's challenges.

Interestingly also, from time immemorial those widely recognized as sages have set forth principles and norms, the following of which results in individual fulfillment, social harmony, and evolutionary progress. No person recognized as wise has ever recommended pursuit of self-interest as a way to achieving even individual fulfillment, let alone social harmony and prosperity. In fact, sages are unanimous in advising that pursuit of narrow self-interest yields the opposite result individually and socially.

Methodological holism agrees with methodological individualism that ultimate causal mechanisms in explanation need to be traced to the behavior of individuals. However, methodological hoist rejects the claim of methodological individualism that individuals are "free" and independent agents.

Children are socialized early in life in order to conform to the norms of the society in which they grow up. Society is institutional and institutions are based on institutional arrangements based on rule-based behavior. In society, the freedom of individuals is alway within the bounds of positive law, custom, convention, and culture.

Language is a cultural institution in this sense. Wittgenstein articulated in Philosophical Investigations that language use is rule-based, the rules relating sign to context in order to generate meaningful symbols. Fluency is in language is demonstrated by the ability to follow such rules correctly.

Similarly, all institutions are rule-based and bounded by norms that are privileged rules serving as criteria. Some of the rules and norms are explicit and some implicit. Society is a system constituted not only of individuals acting other their own behalf but also of institutional arrangements that set social and behavior norms. Individuals that are unable to conform to an acceptable degree with these norms are judged to either insane or criminal, using social norms as criteria.

A macroeconomics that accords with reality must reflect these institutional arrangements, which differ in various cultures, societies, groups, and legal jurisdictions. Presuming that an "invisible hand" is operative that infallibly results in the optimal outcome in all circumstances ignores institutional reality. For example, failing to consider the actual role that governments play in macroeconomics is fatal to a theory since this ignores a principal factor and vitiates its model as representative. Similarly, ignoring how major institutions in a society actually operate and influence economics is also fatal, leading to conclusions that clearly can't be correct, such as presuming a money multiplier where there is none.

For this reason, MMT is institutional. It focuses on describing actual operations of key institutions of government such as the Treasury and central bank, as well as their relations to each other, the commercial banking system, the financial sector and the non-financial economy. Failure to do this adequately results in failure to create an adequate macroeconomic theory capable of explaining and predicting through models that are reality-based instead of assumption-based, or that elevate analytical rigor over operational description and evidence.

MMT is also Minskyian in the sense that it is acutely aware of financial instability and the role of rent-seeking in producing financial instability. Thus, MMT recalls the distinction between price and value that New Classicism brushed aside. As a result most mainstream economists did not see the global financial crisis developing and still cannot explain it even after the fact, although MMT economists did identify the causes mounting and warned about the danger based on private debt accumulation and Ponzi finance.

It is also necessary to recognize that no modern developed society has a purely capitalistic economy, or even could have a purely capitalistic one, despite the rhetoric. All modern economies are mixed economies in which government plays a significant role. No serious person thinks that government can be eliminated. The controversy is over the size and role of government. Therefore, government must be considered as an economic factor also, and this must be included in any viable theory.

Failure to identify the factors and appreciation how they actually function results in failed economic theory and failed policy based on it. MMT provides an antidote that saves capitalism in the sense of taking advantage of it advantages as an efficient means of allocating capital, while showing how to reduce its disadvantages, for example, through institutional reform.