More Toxic Stuff from MMT

I attempted to be respectful in my last post, which dealt with a difficult and potentially sensitive subject.

And so I appreciated the first comment following it:

“Modest, professional, and humble. We need more bloggers with this type of positive, constructive objective. Nice work, JKH.”

I try to make that effort in most cases, but this post will veer slightly from that – for reasons that will become obvious.

……….

Witness this toxic stuff from MMT’s leading light:

http://www.economonitor.com/lrwray/2013/12/11/mmt-often-imitated-never-duplicated/

Expand the comments, including those that are nested, for the nasty ad hominem flavor of it. The group that gathers becomes divided on exactly what it is they are criticizing. (There is one person there who actually understands the underlying facts of the point under attack.) The leader arbitrates the discussion, but keeps the troops focused on vitriol.

What follows is in part a recap of something I first put forward two years ago. It was picked up favorably around at that time by John Carney of CNBC. That harmless endorsement became a catalyst for a mega-tantrum from the same fellow who put out the recent piece just noted above. The piece from two years ago displays an even nastier ad hominem tone.

This character has been in a hissy fit over the equation S = I + (S – I) ever since.

The equation is simple because it was designed to be simple – as a remedial contrast to MMT’s representation of the monetary system, where they use (S – I) as the hammer that bangs away at everything.

At the time, MMT routinely misrepresented private sector saving (S) as net financial saving (S – I). It probably still does. That was documented at the time of the original debate. A number of people observed it and confirmed it then. Unfortunately, for many MMT acolytes who learned their accounting through the MMT prism, confusion was rampant. It probably still is.

So for a genuinely dysfunctional equation, consider MMT’s own stealth version:

S = (S – I)

The MMT focus on (S – I) disregards the massive accumulation of US private sector wealth that arises from private sector investment over time. The effect is right there in the expression in brackets: investment (I) is subtracted from saving (S).

(This fellow seems to have a hard time understanding bracketed algebra, which is explored further below.)

So the idea of the equation is to add back investment, in order to depict a partition of private sector saving into two exclusive and complementary sources: (I) and (S – I). It’s a clarification primarily designed to undo an obfuscation. That is the fact of the matter that this character is so up in arms over.

(S – I) is the saving delivered from outside the private sector; (I) corresponds to saving delivered from within it. This is in effect a two sector model for the flow of private sector saving. This hasn’t been controversial to those who see the simple fact of the matter. It’s mostly the MMT group that has been roiled and apoplectic about this point.

And given the intended simplicity of such a two sector expression, there was no need to use a more detailed sector expansion such as (S – I) = (G – T) + (X – M). It is implicit and should be obvious that that (S – I) can always be expanded to sub-sector components, but that this would be a secondary decomposition relative to the core point being made about the relative importance of the role of the private sector’s investment function in providing for its own saving. More on this importance below.

In fact, I haven’t made much of this equation since that post two years ago, other than revisiting it once or twice. I had hoped this business was done with, because the basic message regarding MMT’s paradigm was obvious and simple. Yet this fellow still persists after 2 years. Now that we’re reminded of it yet again, it’s an occasion to revisit some aspects of it.

One kind of “net financial asset” calculation for the private sector cancels out issuer and holder perspectives. It treats such items as the $ 20 trillion in US stock market value held directly and indirectly by the household sector (US Flow of Funds Accounts – December 2013) as a negative number from the perspective of domestic issuers of such financial claims. This calculation for the private sector as a whole nets out all such internal financial claims, so that in effect the balance sheet reduces to one of physical assets and net worth – without financial assets except for (S – I), which MMT would refer to as net financial assets (NFA) in flow and presumably stock form.

Monetary Economics’ by Godley and Lavoie employs financial asset netting as well – but mostly as a mathematical device for convenience in the matrix algebra manipulation in their closed accounting stock/flow computer simulations. This technique is used throughout the book for coherent matrix mathematics – for “watertight” consistency as the authors might say. The purpose of financial netting in the book is mostly that. In fact, in the case of equities, the authors are careful to distinguish between this netting device and standard corporate accounting for equity net worth, and they advise caution in the interpretation of such netting and its potentially artificial effects on more standard financial measures:

“We shall stick to balance sheets … which include equities as part of the liabilities of firms, keeping in mind that the measured net worth of firms is of no practical significance. Indeed, in the book, no behavioural relationship draws on its definition.” (Page 30)

The private sector balance sheet incorporates a comprehensive financial interface between household and business sub-sectors. It is because of this interlocking balance sheet characteristic that all private sector wealth is reflected ultimately as household wealth. That representation takes into account physical assets such as real estate held directly on the books of the household sector, financial assets that are liabilities issued by the business sector, and the (S – I) component (the net aggregate financial claim on the government and the foreign sectors – i.e. everything outside of the private sector). All of that asset value is netted against the value of household financial liabilities in order to arrive at household net worth. Indeed, most household wealth is in the form of net financial assets. Most of the rest is residential real estate. (Current numbers are summarized and explained further below.)

(S – I) is obviously not the only form of net financial wealth reflected on the books of the household sector. As the private sector grows, there is a significant marginal contribution of net financial asset wealth delivered from the business sector to the household sector for the benefit of the private sector as a whole. Growth in stock market value through retained earnings, or new issues of debt and equity, or newly created bank loans and deposits may all correspond to increasing private sector investment and its translation to financial wealth. In addition, upward valuations of the stock market separate from book value investment constitute another potential component of private sector financial wealth accumulation. Finally, investment in new residential real estate and upward valuation of existing residential real estate over time constitute a rounding out of the full marginal contribution of the private sector to its own accumulation of wealth, in addition to any marginal (S – I) component. All of these internal private sector factors operate at the margin of economic growth. Thus, (S – I) is misleading when positioned as the exclusive marginal contributor of net financial assets to household and private sector wealth.

Godley and Lavoie point to the framing for this in ‘Monetary Economics’:

“In the standard macroeconomics textbook, households and firms are often amalgamated within a single private sector, and hence, since financial assets or debts are netted out, it is rather difficult to introduce discussions about such financial issues, except for public debt … Let us deal for instance with the balance sheet of households and that of production firms. First it should be mentioned that this is an essential distinction. In many accounts of macroeconomics, households and firms are amalgamated into a single sector, that is, the private sector. But doing so would lead to a loss in comprehending the functioning of the economy, for households and production firms take entirely different decisions. In addition, their balance sheets show substantial differences of structure, which reflect the different roles that each sector plays.” (Pages 24 – 26)

Ironically then, the MMT emphasis on (S – I) parallels a mainstream bias. Note from above the cautionary phrases “except for public debt”, “essential distinction” and “loss in comprehending”. On the other hand, ‘Monetary Economics’ is meticulous in the financial analysis of the interface between household and business sectors.

It is a distortion to rely on financial asset netting when comparing government contributions of net financial assets to those sourced from within the private sector itself, or to make claims about the marginal uniqueness of the government’s contribution to the relevant measure of net financial assets. Households are part of the private sector and they hold trillions in net financial assets apart from (S – I) forms. And most of that amount constitutes a very large household net financial asset position.

In effect, the MMT construct of the private sector “net financial asset” position requires double netting through consolidation. It not only nets out private sector investment, but it nets out corresponding financial assets held by households other than (S – I).  If the analysis concerns the private sector’s broad “desire” for net financial assets, then it is the desire of the household sector interfacing with the business sector (primarily) that is the correct reference point – not the segregation of an (S – I) component that is constructed specifically to eliminate forms of financial wealth within the private sector. Furthermore, to suggest otherwise is to ignore the purpose of the monetary and financial system as the lubricant for the transmission of wealth within the private sector itself. So it is the household wealth position and its net financial asset position that becomes of paramount importance. The availability of net financial assets produced by the government and/or the foreign sector must be viewed in that context – i.e. in comparison to the household net financial asset position – not the artificial zero position that is derived by eliminating private sector finance, such as used in computer simulations that force financial asset and liability equivalence in order to ensure accounting consistent simulations. Nobody actually believes that the business sector makes a gross contribution of “negative financial wealth” to private sector financial wealth overall, simply due to the fact that the business sector balance sheet has a real asset side corresponding to the financial asset transformation of it.

I explained this two years ago.

Consolidation can end up obscuring, which is convenient if one’s agenda benefits from it. The MMT net financial asset emphasis obscures in a way that is similar to the case of its “consolidation hypothesis” for the government sector. Private sector NFA consolidation is somewhat analogous to saying (in the government consolidation case) that the government doesn’t have a bank account that has money in it which it uses to interact with the rest of the financial system – merely based on financial statement consolidation. The actual facts in that case are crystal clear. So is the unobscured interpretation of them. Financial consolidation is not the same as operational or institutional consolidation. For example, Paul Krugman’s recent piece on government consolidation is hardly a case of MMT’s “consolidation hypothesis”. Krugman wrote a straightforward piece comparing two different operational routes for getting to the same consolidated financial statement outcome – a factual deconsolidated operational route (QE) and a counterfactual consolidated operational route. That’s also how I described the comparison. MMT seems to be allergic to the idea of counterfactual. They don’t seem to use the term. To do so would unravel a “paradigm” of serpentine conceptual construction, including the “consolidation hypothesis”.

The full expansion of (S – I) in three sector national income accounting is of course (S – I) = (G – T) + (X – M). According to double entry bookkeeping, (S – I) exists both on private sector books (flow and stock) and outside of the private sector in mirror image form. The issue discussed above concerns the consolidation treatment of the private sector apart from (S – I). It does not concern the consolidation of the financial claims that correspond to (S – I). As a derivation of national income accounting, ( S- I) can be linked to financial claims in flow of funds accounting which in aggregate constitute a net claim on or issued by the “non-private sector”. The accounting is straightforward – domestically issued government bonds and bills and reserves commingle in aggregation with foreign counterparty balance sheet positions in financial claims such as interbank deposits, corporate bonds, and equities. The totality calculates to a net position between the private sector and everybody else. Thus, flow of funds accounting for a “non-private sector” does not obscure the relevant financial effect on the private sector in the same way as financial netting does within the private sector itself. And consistent with our earlier discussion, the (S – I) position that hits private sector books transmits through valuation to a direct effect on household sector net wealth.

In fact, the private sector financial markets are the great net financial asset contributor to household balance sheets. (S – I) equates to only a small proportion of private sector wealth accumulated over time. US household net worth was $ 77 trillion according to the most recent calculation (December 2013) taken from the US Flow of Funds Accounts. As noted, that is also a representation of private sector net worth. Considering the net international investment position (which is a net liability and a negative drag on the value of the (S – I) accumulated stock position) and the double counting of some internally held government debt, the net contribution of (S – I) in stock terms is likely around $ 10 trillion. Thus, (S – I) is a pretty small proportion of the total (S) through accumulation. And of the $ 77 trillion total, the household NFA position is roughly $ 50 trillion, of which (S – I) is still a small subset.

Now, we should spend a bit of time going through this fellow’s silly rote response to the simple algebraic decomposition that is S = I + (S – I).

Do we suppose that if this were written as S = I + NFA, everything would be OK?

As if substituting the symbol NFA for (S – I) changes the truth of the decomposition?

Or would he claim that S = I + NFA also reduces to 0 = 0?

One way or another he arrives at 0 = 0 because apparently he can’t fathom that the purpose of logical decomposition is to break things into constituent parts, or that numbers lurk behind the letters, or that terms in brackets are grouped that way for a logical reason. In this case, it is to rebalance a conceptual structure for saving that has been distorted by MMT.

As noted above, S = I + (S – I) corrects the false MMT stealth version S = (S – I).

(The work of his PHD computer colleague that is mentioned in the nested comments has nothing directly to do with this. Ironically, that work relates to a model for a new definition of aggregate demand that is structurally unsound from an accounting perspective and therefore stock-flow inconsistent. The problem in the current case rather is confusion in the cross-sectional analysis of stocks and flows. In addition, the issue at hand is not about investment-saving causality – also a straw man floated in those comments. That’s a standard post Keynesian insight, already assumed and beside the point in this context. This is about stock-flow decomposition, not causality, once again demonstrating that this fellow has no idea what he’s talking about after two years of beating up on it.)

To assist him in moving past his zero-equals-zero syndrome, here are some entry level readings on mathematical set theory:

http://en.wikipedia.org/wiki/Complement_(set_theory)

http://en.wikipedia.org/wiki/Set_(mathematics)

http://en.wikipedia.org/wiki/Mathematical_maturity

The first reading touches on the concept of algebraic complements, which is what constitutes the logical basis for the form of the equation S = I + (S – I).

Specifically, (S – I) is known as the algebraic complement of I in S.

The generic equation for algebraic complements is expressed as (first link):

A u Ac = U

Thus, the equation is in the form of a standard logical decomposition of a set. It’s intended to be that simple, in contrast to the MMT distortion of it.

The second link expands on set theory more broadly, that topic being in effect the mathematical foundation for the logic of accounting closure and stock flow consistency in coherent post Keynesian models.

Notes on mathematical maturity are included as a third link.

Mr. zero-equals-zero needs to graduate from playing with letters taken out of context. He should be considering representative numbers behind the internal expressions that constitute equations. Then accumulate from flow to stock. Then have a look at a US Flow of Funds report and see how the US household balance sheet got to be what it is – through private sector investment and saving and wealth building over time. The marginal action of the rest of the balance sheet can easily overpower the marginal action of (S – I) in terms of household net financial asset production. Indeed, that’s what happens in economic recoveries, with increased tax revenues the usual result.

Some of us have had suspicions about whether some of these MMT folks fully understand the accounting. We keep catching errors with a pronounced ideological scent. But at the same time, it is in MMT’s interest to exaggerate the importance of the government contribution, while setting aside the broader context for that contribution by ignoring investment and by artificially netting private sector financial assets at the consolidated level.

As noted, the artificial device of private sector financial asset consolidation parallels the case of the “consolidation hypothesis”. Consolidation distortion seems inherent to the MMT paradigm. For an example of the polar opposite of this, I recommend (once again) “Monetary Economics” by Godley and Lavoie, which is a pristine analysis of the monetary system in full, cutting across all of its constituent logic in expert detail. It is to MMT as day is to night, methodically explaining the larger scope of monetary analysis that MMT compresses into an ideologically skewed paradigm. ‘Monetary Economics’ handles every aspect of monetary analysis that MMT attempts, but with greater clarity and objectivity. It is a great book with a sweeping logical analysis of all parts of the monetary system, and its conclusions don’t depend on continuous immersion in some pre-conceived policy orientation. It is purely analytical. This belies the densely prescriptive policy presumptions that the writer of that first post insists must be the case in his comments there.

As to the matter of this fellow’s more general slurs on the Monetary Realism project of Cullen Roche, how should one respond to that? To do so threatens to get down into that same gutter of nasty ad hominem slurs. We’ll pass on that for now, although we could easily table a long list of indictments, mostly behavioral. Suffice to say that several years ago a number of respected blogosphere and academic commentators made note of MMT’s ingrained habit of nastiness in interaction with others. It is not so surprising that few outside of MMT want to attribute it for ideas that are easily traceable elsewhere instead. As part of that negative feedback loop, the MMT written mode reveals an ongoing desperation for recognition. It might help overall if there were more adults in the room to supervise a behavioral transition that could pay constructive dividends of broader acceptability.

The style of engagement from MMT in this particular case has been pretty malicious. This is the sort of behavior that shapes the existing MMT brand as viewed from outside of MMT. The equation that has upset MMT sensibilities so much is about a simple idea of balance – an antidote to short circuited thinking and writing skewed by ideological preconception. And this simple point is still confronted by these recurring spasms of offensive behavior even after two years. The equation depicts private sector internal wealth generation (including financial assets) in tandem with the additional financial asset benefit of (S – I). It suggests a mix of private sector wealth sources that is no doubt anathema to certain kinds of ideological extremism. This case is symptomatic of the way in which MMT and its paradigm(s) get in the way of more straightforward analyses of monetary operations and options for change.

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91 Comments on "More Toxic Stuff from MMT"

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Guest
3 years 5 months ago

MMT was broken but I easily fixed it so it matches reality. Now makes for a very simple theory that makes it easy to understand deficits and inflation.

http://howfiatdies.blogspot.com/2013/09/cmmt-cates-modern-monetary-theory.html

Guest
beowulf
3 years 5 months ago

“What about capital goods on the balance sheets of firms?”

Don’t the firms have shareholders?

Guest
3 years 5 months ago

I didn’t state what I was getting at with that question very clearly, so maybe ignore it for now. On a related note, though on page 30 of Godley/Lavoie (haven’t read the book yet though), they talk about how Fed researchers don’t view the balance sheets the way they do- with equity at market prices. I presume one reason the Fed researchers might not do this is because they think it’s a better way to model how firms actually view their own balance sheets for the purposes of making business decisions (which impact the economy). But I don’t know.

Guest
3 years 5 months ago

JKH, it seems to me there really is something important to debate here, beyond all the controversy around S = I + (S-I). That is, where and why are measurements of NFA useful? Do we care about NFA from an aggregate demand standpoint, Minskyan financial instability standpoint, etc.? Is it the household sector NFA position that is most important, or the aggregate private sector’s NFA position that is most important? If it’s the former, then the (S-I) lens is clearly not wide enough to capture all the sources of NFA for households. If it’s the latter, then (S-I) might not be a bad back-of-the-envelope metric.

So I guess, one, what motivates your focus on NFA in the first place? Is it aggregate demand, financial instability, some combination of the two, etc.? Secondly, given your answer to the first question, what provides your confidence that it’s household sector NFA position that is most important? Is it something obvious from theory, empirical data, etc.? You get into this a bit in the post, but it was very high-level. On one hand, you have households as a source of aggregate demand, but on the other, you have the businesses that produce the goods/services demanded and invest in the capital goods that contribute to national wealth. I could see current balance sheet health of both sectors – heck, why not drill down to each individual economic unit – mattering for their decision-making.

Also, question about this comment: ” It is because of this interlocking balance sheet characteristic that all private sector wealth is reflected ultimately as household wealth.”

What about capital goods on the balance sheets of firms?

Guest
JKH
3 years 5 months ago
ATR, Quick and dirty: “What motivates your focus on NFA in the first place?” Because the starting point for all this was the MMT characterization of (S – I) as NFA for the private sector. And while this is a unique marginal NFA flow from a consolidated private sector perspective, it is not the only NFA flow from the perspective of the household balance sheet. So the idea is to put the two sources of household NFA on an equal footing for consistency in examining all potential sources of additional income and saving, and the analysis of aggregate demand, etc. “What provides your confidence that it’s household sector NFA position that is most important?” Because all private sector wealth is reflected on the household balance sheet through the valuation mechanism of the financial system. So it makes sense to compare the marginal effect of NFA delivered from outside the private sector to that which is being delivered from within the private sector. Household balance sheets are the recipient of NFA from both sources, so it makes sense to view that on balance. The consolidated private sector view positions the NFA flow from outside as exclusive, when in fact it is not exclusive from the inside perspective of the household sector. “What about capital goods on the balance sheets of firms?” That’s passed through to the household sector in the market value of corporate debt and equity finance. The net market value may not be equal to capital goods book value or capital goods replacement value, but it definitely translates to a corresponding financial value on the books of the household sector. (Godley and Lavoie deal with this in an interesting way in terms of equities and Tobin’s Q. Suppose capital goods are the only asset and equity is the only… Read more »
Guest
3 years 5 months ago
“Because all private sector wealth is reflected on the household balance sheet through the valuation mechanism of the financial system.” I understand. This is important to be able to see (and I really need to read G&L). But is G&L’s comment that “no behavioural relationship draws on its definition” not a sign of caution against conducting economic analysis through this lens? You’ve read the book, I haven’t. But it seems they’re saying this was a technique to get their matrix to balance, as you said, rather than as a way to analyze decision-making based off balance sheets. They note that national accountants and Fed statisticians don’t analyze balance sheets the way they do. So, for example, suppose we think aggregate demand or financial instability depends on the health of household balance sheets and corporate balance sheets. For households, it probably makes sense to include the market value of equity when measuring the leverage of their balance sheet. For firms, it’s not obvious to me that it makes sense to include the market value of their issued equity. You’ll get very different looks at net wealth depending on which approach you take. G&L note their approach is unorthodox relative to how others do it. I’m not saying it’s wrong, but maybe there’s still a valid debate to be had in terms of how these things should be analyzed? “That’s passed through to the household sector in the market value of corporate debt and equity finance…” Okay, I see what you’re saying here, and why you used the word “reflected.” One has to be careful with the wording here, because in terms of standard GDP accounting, private sector wealth is the precise value of capital goods, land, and net foreign assets on the balance sheets of wherever they are (which I’m sure… Read more »
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JKH
3 years 5 months ago
“For firms, it’s not obvious to me that it makes sense to include the market value of their issued equity.” My thoughts: The Godley-Lavoie framework includes the market value of equity as a liability for corporations. That does not preclude the financial analysis for firms in the conventional way. The market value of equity would be viewed as one indicator of the financial strength of the firm – and something that is transmitted to the balance sheets of its shareholders as an asset. So the CFO of a firm who was schooled in ‘Monetary Economics’ would understand the nature of accounting for the macro economy, along with firm specific analysis. The CFO would essentially be looking at the strength of the firm from the perspective of the shareholder, which is consistent with the ultimate perspective of the household balance sheet. So he’d be attempting to “maximize shareholder value” (simplified), consistent with the asset view of equity. The liability view is just a way of ensuring accounting consistency in a computer program for macroeconomic simulation. Those two objectives don’t need to intersect in terms of analytic technique. They can be orthogonal techniques of analysis, and still be consistent. “In terms of standard GDP accounting, private sector wealth is the precise value of capital goods, land, and net foreign assets on the balance sheets of wherever they are…” Remember that GDP is flow accounting recorded at the book value of production for the accounting period. Balance sheets are stock accounting at a point of time at the end of a defined accounting period. And at that point of time, the GDP book values that hit the balance sheet may be revalued at market – and the financial transformation of them may be revalued at market. E.g. A firm invests retained earnings in… Read more »
Guest
3 years 5 months ago

On the equity issue – right. But what I’m trying to say is that one should specify which analytic technique is being used, and that will depend on the reason for why we’re looking at NFA. Do we care about NFA for aggregate demand, for some measure of financial instability, etc.? These are the kinds of things mentioned when I see NFA mentioned. It seems possible that some of the analytic techniques for assessing these issues wouldn’t include the market value of equity as a liability of firms. And as a subset of that, some of those techniques might not view household balance sheets as the most important recipients of NFA. I don’t really know, but it seems questionable to me that we can know ‘where NFA is the most important’ simply based on G&L’s accounting framework. I’d think it’d depend on what issue we’re analyzing, the empirical data, and theory, not a way of doing stock-flow consistent accounting.

Guest
JKH
3 years 5 months ago
I think the market value of equity is a very reasonable input for an aggregate demand function. The Godley-Lavoie models certainly use it. They construct something they refer to as “Haig-Simons” income, which is basically NIPA type income with marked to market effects for wealth. They simulate multiplier action using consumption propensities for both income and wealth components. It seems to me that netting financial assets to zero is directly useful for what it gives you directly in raw form – which is the replacement value of the economy’s real assets (assuming they are assigned replacement value instead of book value for example). That may be interesting, but I don’t know exactly how it would be used. It comes into play in Tobin’s Q for example, but the focus of Tobin’s Q is the relative expensiveness of equity valuation – which in itself is not primarily a focus on zero netting. Of course, it’s also useful if you’re interested in the NFA contribution of (S – I). The equation shows that contribution in a relative sense – i.e. it positions the contribution of (S – I) next to (I) as a decomposition of (S). The step after that is to compare (S – I) to the additional private sector NFA that is generated on household books, where household NFA generally exceeds private sector NFA when the latter is calculated with financial assets netted to zero. “We need to move from accounting to cause and effect relationships.” But first we need to get the analytical foundation right for the modeling of such behavioral relationships. “I don’t see how we can a priori know for certain the relative importance of household vs. firm NFA in this hypothesis simply based on the fact that all private sector wealth is funneled back to the… Read more »
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ATR
3 years 5 months ago
“But first we need to get the analytical foundation right for the modeling of such behavioral relationships.” Agree, and you’ve provided an extremely useful explanation of how this foundation works. Assume that Scenario 1 below is less prone to a debt crisis than Scenarios 2 or 3 below. The question I originally asked was how do we know the relative impact of the NFA position across the household and business sectors for financial stability. Below, I’ve defined per-unit NFA two ways: a) the conventional way, and b) in parentheses, I’ve included the market value of equity as a liability of the firm. The HH is on the left and the firm is on the right. Scenario 1: Assets: $50 cash and $50 equity shares | $50 cash Liabilities: $50 bank loan | $0 (+$50 equity) NFA: $50 | $50 ($0) Scenario 2: Suppose that if the household gets taxed $25, the economy is less stable than Scenario 1: Assets: $25 cash and $50 equity shares | $50 cash Liabilities: $50 bank loan | $0 (+$50 equity) NFA: $25 | $50 ($0) Scenario 3: Suppose that if the firm gets taxed $25, the economy is less stable than Scenario 1: Assets: $50 cash and $50 equity shares | $25 cash Liabilities: $50 bank loan | $0 (+$50 equity) NFA: $50 | $25 (-$25) We can define per-unit NFA the conventional way or the macro-coherent/G&L way. But what I asked was how do we know whether one sector is more sensitive to NFA than another, in terms of consequences for things like financial stability. You said NFA is more important for the household sector, but you seem to be saying that simply due to the manner in which G&L’s accounting channels wealth across individual balance sheets. But I don’t see how that’s… Read more »
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JKH
3 years 5 months ago
In the post, I think what comes closest to your point is the following: “If the analysis concerns the private sector’s broad “desire” for net financial assets, then it is the desire of the household sector interfacing with the business sector (primarily) that is the correct reference point – not the segregation of an (S – I) component that is constructed specifically to eliminate forms of financial wealth within the private sector. Furthermore, to suggest otherwise is to ignore the purpose of the monetary and financial system as the lubricant for the transmission of wealth within the private sector itself. So it is the household wealth position and its net financial asset position that becomes of paramount importance. The availability of net financial assets produced by the government and/or the foreign sector must be viewed in that context – i.e. in comparison to the household net financial asset position – not the artificial zero position that is derived by eliminating private sector finance, such as used in computer simulations that force financial asset and liability equivalence in order to ensure accounting consistent simulations. Nobody actually believes that the business sector makes a gross contribution of “negative financial wealth” to private sector financial wealth overall, simply due to the fact that the business sector balance sheet has a real asset side corresponding to the financial asset transformation.” The key word being “IF” at the start of the first sentence. I’m comparing two REFERENCE points for the full scope of this idea of private sector NFA. The better REFERENCE point is the household sector. The household sector covers the full scope of private sector net worth, with its own net financial asset position as part of that net worth. The business NFA scope doesn’t cover it. So the relevant contrast is between… Read more »
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ATR
3 years 5 months ago

Okay – let’s leave it at this. Fair points made all around, and some unnecessary back-and-forth perhaps due to differing interpretations of certain words/phrasing. For more general analytic purposes, I need to let your perspective marinate. One second I see it, the other I view it to be the result of a particular preference for accounting that’s maybe not obviously better, and another second I question whether it relies too much on a faith in the transparency (if you will) of the market value of equity.

Guest
3 years 5 months ago

Let me give an example of what’s on my mind. We need to move from accounting to cause and effect relationships.

Consider the hypothesis that, ceteris paribus, the economy is less susceptible to a debt crisis if each of the economy’s participating units, which includes households and firms, has a higher NFA position. I don’t know if this is true, but it seems related to the motivation for using the 3 sector balance equation with (S-I). Suppose the relevant measure for per-unit NFA here is ‘financial assets minus financial liabilities,’ with the market value of equity conventionally excluded for the firm. I don’t see how we can a priori know for certain the relative importance of household vs. firm NFA in this hypothesis simply based on the fact that all private sector wealth is funneled back to the household balance sheet in G&L’s accounting matrix. But you seem to be suggesting we can.

Guest
PeterP
3 years 5 months ago

Hmm, this post reads like a Sokal Hoax or rather the illustration of the Dunning-Kruger effect.

The vitriol from MMT is useless and counteproductive, they should let it go, I agree. Because one of the sorry consequences are posts like this.

“Or would he claim that S = I + NFA also reduces to 0 = 0?”
Yes, for a very simple reason: it is the definition of S. It has no content.

If you defined for a house:

“useful space” = living space + crawl space

then this is just the definition of “useful space” and no other information cannot be deduced from it. Writing:

crawl space = useful space + (crawl space – useful space)

just shows that you don`t know how to use math to learn something about the world. The information content of the above equation is zero.

Admin
3 years 5 months ago
Not quite Peter. When you say that the equation has zero value you are falling into the same trap that we are criticizing MMTers of falling into. The point that we have repeatedly made is that it is incorrect to describe “net saving” as (S-I) or to infer that there can be no net saving without a government deficit. This accounting error is littered across MMT literature, in the books and has been repeated in many internet comments including many by MMT’s “founders”. Some conversations prove an alarming misunderstanding of some basic accounting (see here for instance). It is also misleading to imply that the (S-I) position plays a more important role than it really does. As JKH noted in the post, the (S-I) position is relatively meager relative to the overall saving position of the private sector or the household sector. This presentation implies some sort of world where we are all sitting around helpless without a government deficit. It’s not a helpful or balanced presentation of reality. Net saving does not only come from the govt. Saying so ignores nonfinancial saving as well as the market value of all the financial assets that exist. It further ignores the multitude of intra-sector relationships and how they rely on one another. The MMT view might be helpful for a very basic understanding of the accounting, but for real-world purposes it is practically useless. It also goes against the way the OECD, the Federal Reserve and NIPA account for these items. And most importantly, the concept behind using (S-I) nets out private sector investment thereby downplaying the very thing that drives S to begin with. I’m all in favor of some deficit spending, but let’s be careful about how we portray the importance of the deficit relative to the overall health… Read more »
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Auburn Parks
3 years 4 months ago

Its my humble opinion that in some ways Net financial asset saving is just a part of the broader savings of the private sector.

If we define a NFA as either a reserve (cash included) or security balance at the Fed (or your wallet); then obviously the only way for the non-govt to net save CB balances is if the Govt is is in NFA deficit. Its just a simple accounting of Govt “money”. As you all know, Govt “money” is but a small part of the whole. Thats why the sectoral balances is just a simple tautology. Its obviously true for what its worth but its not really consequential in and of itself.

The real interesting thing to know would be how the operational nitty gritty of the flows of NFAs impact broader savings and economic activity. Thats something I have not personally seen anyone establish. History shows pretty clearly that yoy reductions in gross federal t-bonds lead to recessions and increases end recessions. Not controversial in these parts. But why? When NFAs (mostly T-bonds during non-QE) result in practically a net zero change in bank deposits, is it the fact that T-bonds may be bought with bank deposits overseas, but the recipients of the Govt spending BD are domestic? Is it the differing propensities to consume of the Govt spending recipients vs the people who trade their BDs for T-bonds? Are there many more impact channels? “support the private credit structure” is an oft-repeated MMT saying, but whats the operational mechanism? A combination of all factors most likely, but then how do we way the importance of each factor? And on and on and on.

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PeterP
3 years 5 months ago
I was actually too generous towards S=I+(S-I), it is not as useless as S = I + NFA but infinitely more. S = I + NFA defines S, so we learn what “S” is. (The question is if “S” is a useful concept, I think not, because it lumps together real and financial assets but at least we learn how to measure S). Otoh S=I+(S-I) is satisfied for any two numbers S, I so it conveys no information whatsoever. “The point that we have repeatedly made is that it is incorrect to describe “net saving” as (S-I) or to infer that there can be no net saving without a government deficit.” • You are wrong. But even if you were right, you couldn`t deduce it from S=I+(S-I), because the information content of this equation is zero. • Keynesians point out that to sell output in the economy you need money in the hands of buyers, so the monetary position of the private sector is of central importance. If you are interested in the financial position of the private sector, then its change over year is S-I. You may dispute that the financial position matters but you can`t use S=I+(S-I) for that, because the information content of this equation is zero. “This accounting error is littered across MMT literature, in the books and has been repeated in many internet comments including many by MMT’s “founders”. Some conversations prove an alarming misunderstanding of some basic accounting (see here for instance).” • Over there Fullwiler is right and CP is wrong. There is no accounting error, sorry. “It is also misleading to imply that the (S-I) position plays a more important role than it really does.” • Maybe, but in any case you can`t argue this on the basis of S=I+(S-I), because the… Read more »
Admin
3 years 5 months ago
We have explained this concept thoroughly and repeating “the information content of this equation is zero” isn’t a refutation of it. You claim the private sector cannot remain healthy for prolonged periods where NFA doesn’t expand. This is clearly false the private sector balance was NEGATIVE on average from 1995-2008 and household net worth DOUBLED and GDP increased 75%. I don’t deny that govt NFA can be supportive of the credit structure of the private sector. But it’s obvious from the evidence above that your focus on NFA could lead one astray about economic trends for decades at a time. The same thing has happened in the last few years as the budget deficit has been reduced and many MMTers said this was going to trigger recession. They’ve been wrong. So, if anything is misleading it’s obviously the obsession with NFA. I also never said “real assets matter more than money”. I have always stated that money is a tool that gives us access to other things as a medium of exchange. Nonfinancial assets happen to be a key part of that and understanding S is, in part, all about understanding the relationship between nonfinancial assets and financial assets. And it is investment in nonfinancial assets that accounts for a huge portion of the private sector’s health. Indeed, this is one of the driving forces behind S. And no, I am not a “neoclassical” just because I disagree with your points. You know that, but it’s to your advantage to begin framing me as a “neocon” or “neoclassical” because then you can more easily dismiss me in your own mind. The truth is, MMTers hate the fact that lots of smart Post-Keynesians think their ideas are wrong. But too often, you all get violent and abrasive in response because the… Read more »
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