It’s time to address the elephant in the room, the bogeyman that gives every economist nightmares: inflation. Inflation is the idea that as more money circulates in the economy, the value of each individual dollar (or whatever chosen unit of account) is comparatively less. Put simply, the more money the general public has, the more goods and services need to increase in price to compensate. The value of money theoretically lies in its scarcity, just as the value of any goods or commodities lies in scarcity; this is the underlying principle of economics. If tomorrow, everyone suddenly had 10,000 extra dollars, and markets were behaving perfectly with no delays, then we would expect the prices of nearly every good to increase. Some would increase more in price, some would increase less, but let’s ignore those technical details for a moment. Economists tend to agree that a moderate level of inflation is a sign of a prosperous and well-functioning economy, but once inflation crosses a certain threshold, it puts an economy into dangerous territory.
One of the most famous examples of hyperinflation is what happened in the Weimar Republic. For a period in the 1920s, prices doubled every 3.7 days, and the monthly inflation rate was 29,500% (Toscano, 2014). There are countless stories of people showing up with wheelbarrows full of money to purchase the goods they need. The government changed currencies to bring stability back to the nation, but its effects were devastating enough to facilitate the birth of fascism, the rise of the Nazi party, and the beginnings of WWII’s eastern front. Given that, it makes sense why most economists would be wary of inflation exceeding a certain threshold.
Most economists think around 2% per year is a stable, prosperous, and preferable level. The FED agrees. They target this rate every year by adjusting interest rates (do not worry about how for now) and try to maintain a certain level of unemployment in order to prevent hyperinflation. This is the part where MMT differs considerably from the prevailing economic theory. MMT asserts that the “natural rate” of unemployment is something which cannot be found out through theory but rather discovered after the fact. Kelton writes:
The Fed doesn’t like to wait until inflation becomes a problem before acting. Instead, it prefers to fight the inflation monster preemptively before it rears its ugly head… This kind of preemptive bias often leads the Fed to err on the side of overtightening, raising the interest rate even when it may be premature or a false alarm. Errors like these carry real consequences in the form of millions of people unnecessarily locked out of employment (2020).
For years, monetary policy has been the primary tool to battle inflation, but MMT advocates say that with responsible fiscal policy, the US government can achieve both full employment and stable prices. According to these advocates, by adjusting taxes and government spending, the country can continue to print more money. Let me give you a simplified example: if the government decides to spend an extra $1000 on a federal project, that extra $1000 is floated through the economy. If the government realizes they are $1000 over their inflation target, they can just raise taxes to take that money back out, returning the country to its inflation target. Obviously, reality is not this simple, but the logic follows when considering the entire economy as a model and considering the other legal steps required.