Debt and Deficits—A Modern Monetary Theory Perspective

• Published date: 01 December 2020
• Author: William F. Mitchell
• Date: 01 December 2020
• DOI: http://doi.org/10.1111/1467-8462.12400

The Australian Economic Review, vol. 53, no. 4, pp. 566–576 DOI: 10.1111/1467-8462.12400

Debt and Deficits—A Modern Monetary Theory Perspective

William F. Mitchell*

Abstract

COVID‐19 has triggered the most severe

economic crisis since the 1930s. The resulting

policy shift is diametric to what mainstream

macroeconomists have been advocating for

decades. We argue that their framework

underestimates the fiscal space available to

governments and cannot provide an under-

standing of the consequences of these policy

extremes. We introduce modern monetary

theory (MMT), which disabuses us of the

claims that deficits and debt are to be avoided.

MMT defines fiscal space in functional terms,

in relation to available real resources that can

be brought back into productive use, rather

than focusing on irrelevant questions of

government insolvency.

1. Introduction

The COVID‐19 pandemic has triggered the

most severe economic crisis since the Great

Depression. This is one of the major tragedies in

human history. From another perspective, it has

further exposed the inadequacies of the main-

stream macroeconomic consensus that has

dominated for several decades. We argue the

mainstream approach does not provide a con-

vincing understanding of contemporary pro-

blems nor reliable guidance for policymaking.

World economies were languishing before

the pandemic as a result of poor economic

policy interventions. The reliance on mone-

tary policy with passive fiscal policy biased to

the achievement of fiscal surpluses created

slower growth in output and productivity,

elevated levels of labour wastage, flat wages

growth and a poor investment climate for

savers. This policy bias arose because the

conventional view among economists has

been that fiscal deficits and rising public

debt should be avoided. However, the pre-

dictive accuracy of the mainstream consensus

has been appalling, which casts doubt on the

underlying theory.

We conjecture that significantly larger and

sustained fiscal deficits will be required indefi-

nitely and that we should be comfortable with

that. Focusing on the size of the deficits is to

focus on the wrong problem. The way out of the

crisis requires an orthogonal shift in policy

thinking and new theoretical understandings.

The usual narratives about the dangers of

deficits and public debt are giving way to a

new understanding. The IMF indicated that

* Mitchell: Centre of Full Employment and Equity,

University of Newcastle, Australia; University of Helsinki,

Finland; email<bill.mitchell@newcastle.edu.au>

© 2020 The University of Melbourne, Melbourne Institute: Applied Economic & Social Research,

Faculty of Business and Economics

Published by John Wiley & Sons Australia, Ltd