Friday, May 29, 2015

Andrew Black — Exchange Rate Regimes & Modern Monetary Theory

There have been heated discussions concerning the advantages and disadvantages of what is known as “Modern Monetary Theory”. This theory makes a number of claims, some of which appear unreasonable and impractical to Keynesian economists and others with an economic policy focus. The aim of this discussion paper is to throw more light on the nature of exchange rate relationships internationally. The reason for doing this is that MMT protagonists claim that many economic ills would be resolved if a country has its own currency, which can move freely against other currencies. To take a somewhat extreme proposition, MMT protagonists have argued that in the interests of securing full employment, deficit funding can be safely embarked upon through the government simply printing more money.[i] While this may be technically true for domestic savers and consumers, it overlooks the importance of foreign holders of domestic assets and bonds. If a high government deficit then causes difficulties for foreign owners of national assets, this is entirely manageable, they say, through a devaluation of the currency. As Palley put it, 
“All countries face inflation and financial sector stability constraints, but the US is essentially free of a foreign exchange market constraint. However, that constraint is very visible in many other countries, which explains their greater intuitive scepticism about MMT.” (Palley, 2015, p. 20.) 
The main aim of this short discussion paper is to clarify just what the predominate forms of exchange rate regimes are across the world. If the advantages claimed by proponents of MMT are/were so manifest, then it would be reasonable to expect that a free floating exchange rate regime would be the preferred option internationally. As shall be seen, this turns out not to be the case, and the number of countries with their own free floating currencies is a minority, and one that appears to be shrinking....
London Metropolitan Institute — Global Policy Institute
Exchange Rate Regimes & Modern Monetary Theory
Dr Andrew Black, GPI Opinion
ht Kristjan in the comments


Matt Franko said...

"Fixed exchange rates are also helpful should the government be seeking to borrow abroad."

How can a country be seen to borrow its own currency outside of its own currency system?


Calgacus said...

If the advantages claimed by proponents of MMT are/were so manifest, then it would be reasonable to expect that a free floating exchange rate regime would be the preferred option internationally.

If the advantages claimed by opponents of human sacrifice are/were so manifest, then it would be reasonable to expect that making Huitzilopochtli hungry would be the preferred option.


Dost thou not know, my son, with how little wisdom the world is governed?

Brian Romanchuk said...

Using his logic, Soviet-style Communism would have looked
Iike a winner up until the 1990s.

Where do people get this stuff?

STF said...

Good comments, all. Interesting how "strength in numbers" so often masquerades as logically valid.

Also, disappointed the author failed to consider responses by Wray/Tymoigne to Palley, since Palley is mischaracterizing the MMT view, and thus by extension so is the author.

And I always am curious--but have never seen a useful response--who are all these supposed "international investors" that would abandon their investments in a country that uses its deficit-creating power to bring the economy to full capacity utilization?

Tom Hickey said...

Thanks, Scott. I assume this is the paper to which you are referring.

Modern Money Theory 101: A Reply to Critics by Éric Tymoigne and L. Randall Wray (Levy, 2013)

NeilW said...

And of course they always completely miss the underlying assumption upon which all their presuppositions are based - infinite liquidity.

Which of course can be addressed by a simple in extremis thought game: if everybody wants to dump a currency, who is going to buy it on the other side of the trade?

In FX you have to settle, and there are no patsy market makers who have to provide a bid. Therefore the process is necessarily self-limiting.

It can be made more self-limiting by disallowing money creation is pursuit of currency devaluation, i.e. borrowing from banks to short sell the currency, which simply increases the supply available for sale.

All floating rate failures can be attributed to pulling the stick back during a stall rather than pushing forward, i.e. bad policy informed by incorrect thinking.

All of this is obvious when you take a dynamic currency zone view - where the currency zone grows and shrinks based upon the global influence of that currency - rather than the physical borders view that economists are obsessed with. That gets rid of the artificial distinction between domestic and foreign that seems to dominate economic analysis - almost as though globalisation and liberalisation of financial markets never happened.

Brochan Blasta said...

The key sentence here is "If the advantages claimed by proponents of MMT are/were so manifest, then it would be reasonable to expect that a free floating exchange rate regime would be the preferred option internationally" - but the "preferred option" is for who, exactly? The plutocrats or the 99%?.

Things are they way they are not because the 'best' system has been arrived at through some macro-economic process of natural selection, but through the exercise of power by the 1%.

I could use the authors method of analysis to prove that neo-liberalism is the 'preferred option internationally' too - the conclusion would be just as useful.

Matt Franko said...

Isem it is "natural " that is why it so f-ed up..

No one has "designed " this system. .. to analyze it you have to approach it like biological system. .. .. Neil says above "In FX you have to settle, and there are no patsy market makers who have to provide a bid. Therefore the process is necessarily self-limiting." ... I guarantee you NO ONE in the "1% " understands what Neil is saying here within the systemic context... Jamie Dimon? LOL!

The people in charge of these systems are serial repeat F-ups... they dontq have a clue... all they know how to do well is get the govt to bail them out when it blows up periodically. .n I'll give you THAT they know all about and how to do it.


Unknown said...

I never have been able to quite understand the minds of the mainstreamers. For example, if a country were to use its spending power to generate full employment, high demand, and thus high GDP growth (like CHina) international corps would be falling over themselves to get a piece of that action, not falling all over themselves to get out of the action. Businesses exist to make sales. If in the USA right now we had MMT informed policy leading to 6% nominal GDP growth and 3% real growth, does anyone really believe that foreign businesses would pull out of this opportunity because the deficit was 10% of GDP instead of 4%? For the life of me, I cant understand what the F$%^& these people are talking about.

Unknown said...

The main problem that smaller countries have wrt to foreign balance of payment issues is what you can and cannot buy with that money. If you own $100 Million in Nigerian Nairas, the limiting factor for the perception of the "value" of that particular amount of money is what you can buy with it. What is for sale in Nairas? Are there some sweet ass tech gizmos that nigeria produces? What about grain? Coal? fish? financial services? Is the Govt going to collapse? Will the Govt confiscate my money because of political differences? How's the Nigerian stock market looking? These are all factors in the "value" and "demand" of and for the Nigerian state currency. How many people want to holiday in Nigeria? Its way more complicated than simplified mainstream supply\demand curve slopes.

The benefit of fixed exchange regimes comes from the certainty (only from a FX pov, not inflation) it brings to some of these questions. So fixed rate regimes help the holders of wealth the most, because they have a guarantee that my 100 million Nairas will be worth $10 million US dollars next week, next month and next year. As opposed to me having to worry that my 100 million Nairas may be worth only $1 million US dollars next year.

This is good for the wealthy, and to the extent it ties the hands of domestic govt fiscal policy, its bad for the general populace. Wait, what?????? The neo-liberal program is obsessed with making things good for the wealthy and bad for the general public???? NO way, I dont believe it

Ralph Musgrave said...

Andrew Black’s praise for fixed exchange rates within the Eurozone (in his conclusion) is hilarious. Perhaps he’d like to go and discuss this with the unemployed in Greece and some other Eurozone periphery countries.

Ralph Musgrave said...

Also, if a country is going to try to stick to a fixed exchange rate, that constrains the amount of stimulus it can do even if it doesn’t do it MMT style (e.g. if stimulus is effected by cutting interest rates or implementing QE). That is, if fixed exchange rates ARE the bonanza that Black thinks they are, that weakens the scope for implementing stimulus in ANY SHAPE OR FORM, not just MMT style.

Tom Hickey said...

The fx value of a currency is essentially determined by global saving desire in that currency. As saving desire shifts relative value of currencies shift in markets. A reserve currency is a currency in which saving desire remains relatively high. A weak currency is one that is only held long enough to sell. International banks then have too much of the currency in their portfolios and sell among themselves in the interbank fx market in terms of which only they interact. Currencies are used for commerce but they are also an asset class, the use of currency as an asset class predominates over trade by international companies. "Asset class" means that someone is saving in that currency. These are the big players that take and hold positions for some time rather than traders who take positions only in expectation of turning a quick profit. Over recent years the value of currencies as asset classes, i.e., saving vehicles, has been sharply risk-on and risk-off.

Tom Hickey said...

The post shows no understanding of the MMT position of differences in policy space and the boundaries that delimit it in terms of real and financial constraints — real resource availability, and price level and fx rate — that is, the actual, or economic, l and the nominal, or financial.

The financial sector prefers price and currency stability, while the economic sector prefers to use all available resources effectively and efficiently for growth to maximize return. This results in dynamic tension owing to different opportunities and challenges. This results in a dialectic among many participants that we call "the economy" in which economic policy, both fiscal and monetary, plays a huge role.

The macro issue is to harmonize nominal values (price level and currency value) with growth (production and productivity).

This involves policy analysis and choices that determine winners and losers both domestically and externally.

In economics, finance and business, one doesn't do well by adopting the majority position — "following the crowd" — but by good analysis, decision-making, and implementation. So I really don't see any contribution in this post.

Ryan Harris said...
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