Lowe, Kohler take sides on debt battle

Two of Australia’s top economic analysts have taken very different views on the validity of printing money to finance deficits in a crisis.

About $270 billion will be borrowed by the federal government across the 2020 and 2021 financial years, according to the July economic update. But what happens next is creating friction.

High-profile analyst Alan Kohler has been promoting Modern Monetary Theory, which suggests government borrowing should not be constrained by default risk, but rather the impact on inflation.

The position is growing in popularity around the world.

MMT argues government spending could be financed by money creation, rather than debt or taxes.

Central bankers are fighting back, however, including Reserve Bank of Australia governor Philip Lowe in a recent speech.

“It certainly is possible for the central bank to change when and how the spending is paid for, but it is not possible to put aside the government’s budget constraint permanently,” Mr Lowe said.

“Where countries have, in the past, sought to put aside this constraint the result has been high inflation.”

Mr Kohler takes a different view.

“It isn’t true that government debt has to be repaid,” he said in a recent analysis.

“Governments are not like households and businesses, because they control the creation of their own money.

“Economists say that printing money causes disastrous inflation and debases the currency, but that is a mistake that has side-tracked economics and government policy for decades.

“Inflation happens when demand exceeds supply.”

About $30 trillion of new money had been printed since the GFC, Mr Kohler said, and it had not been inflationary.

Central banks wanted to impose discipline on politicians, he said, and that was the main motivation to constrain spending.

MMT advocates have called for money printing to finance a range of big programs, which could mean continued huge deficits in Australia.

One advocate is University of Newcastle professor Bill Mitchell, a co-founder of MMT.

Dr Mitchell has recently written that adopting the MMT approach would support a green new deal. “

The whole transformation will not be successful while policy makers hang on to mainstream macro-economic views about government financial capacities, which manifests into obsessions about achieving fiscal surpluses,” he said.

It would mean a surge of government control of the economy, directing closure of carbon intensive industries (such as LNG exports) to be replaced with green initiatives.

A more cautious approach has been highlighted by former Bank of Israel governor (and now vice-chair of the US Federal Reserve) Stanley Fischer.

Dr Fischer has said that central bank financing of spending could be appropriate if conventional monetary policy options were exhausted and governments were unable to borrow.

Critics of MMT cite a raft of historical examples where printing money to finance government spending has led to rampant inflation.

Even Warren Mosler, another founder of the discipline, has conceded there’s a risk on this point, in a recent podcast with Mr Kohler.

Mr Mosler has said government spending to maintain incomes during the pandemic may eventually lead to demand outstripping supply, as labour supply has dropped because it is dangerous for people to go to work.

RBA’s Dr Lowe has said printing cash to directly finance government spending will not be necessary in Australia.

If such a policy were successful, interest rates would eventually need to rise to avoid inflation lifting too much, he said.

“If this lift in interest rates did not occur, inflation would rise, perhaps to a very high level,” Dr Lowe said.

“In this case, it would be through the inflation tax that the community pays for the extra government spending.”

Higher interest rates would also have consequences, he said.

Finance Minister Mathias Cormann also dismissed MMT at a recent Business News breakfast.

“It’s crazy,” Senator Cormann said.

“People laugh at me when I point to extreme examples, but every extreme example is the result of being on the wrong trajectory over an extended period.

“If you start printing money the way (some commentators) are suggesting.. why do people think doing the same that has been done before would suddenly lead to different outcomes?

“If you start printing money and saying it doesn't really matter, you weaken the value of your currency, you weaken the resilience of your economy, it’s a crazy proposition.

“I can’t believe there are mainstream people starting to pursue it.”