Tag Archives: Randall Wray

The Draghi Report vs. New Economic Thinking (long)

1. Report narrative

The Draghi report starts with three statements.

The European Union needs economic growth to realize its ambitions on social cohesion, decarbonization and strategic autonomy.
Its economy suffers from a large and growing competitiveness gap with respect to the rival economies of the USA and China. This gap must be closed to achieve the EU’s strategic objectives.
To increase competitiveness, Europe must invest massively, way more than at any point in its history, and pursue coherent policies across multiple areas. This is true for economics policies writ large, and beyond: trade, competition, industrial, monetary, defence development cooperation. All these policies must be tightly integrated and put in service of the overarching strategic goal of being competitive.

Given these premises, the report identifies intervention areas: ten sectoral policies (energy, critical raw materials, digitalisation and advanced technologies – in turn broken down into high speed and broadband networks, computing and AI and semiconductors – clean tech, automotive, defence, space, pharma and transport) and five horizontal ones (accelerating innovation, closing the skills gap, revamping competition and strengthening governance). The bulk of the report then proposes, for each of these policies, some concrete objectives and the interventions to achieve them.

Similarly, many NET scholars refute the idea of a positive linkage between economic growth and social cohesion. We have known for a long time that reported satisfaction is uncorrelated to GDP per capita: this is called the happiness-income paradox and was discovered by James Easterlin in 1974. More recently, Ole Peters has shown that systems that grow on average while practically all its participants are reduced into poverty are perfectly possible : indeed, such systems arise naturally when the income of individuals grows randomly and multiplicatively over time, like most financial markets most of the time.

As for social cohesion, it has now become clear that, from a NET standpoint, there is no automatic path from economic growth to poverty reduction. This is a key concern for academic thinkers like Jason Hickel (who argues rich countries are better off with degrowth instead), Giorgos Kallis, Tim Jackson and others. Judging from the recent report of the United Nations Special Rapporteur on Extreme Poverty and Human Rights – bearing the NET-friendly title Eradicating poverty beyond growth – these ideas are getting buy-in in the global policy space.

Social cohesion is also linked to decarbonization. The debate on just transitions shows that decarbonization is much harder for the financially more vulnerable, and therefore harder to do in more unequal societies. Joel Millward-Hopkins calculated that highly unequal systems require far more energy to provide everyone with decent living standards. The implication is that inequality is a drain on productivity when you measure input in physical terms and output in human well-being.

The second statement – that the European economy is less competitive than the economies of the US and China, and that this is a bad thing – looks a priori reasonable. Seen through a NET prism, however, it raises empirical and normative questions. How do we measure competitiveness? By dividing the input into the economy by it output. How does the Draghi report measure output? I have not found a methodology section in the published report, but Figure 1 uses GDP to compute productivity. That’s a fatally flawed measure of productivity, because it misses what economies are actually supposed to be producing. That would be human well-being, and GDP is simply not fit to measure it, not even approximately. This has been known since Simon Kuznets operationalized it in 1934, so I will not embark on a critique here. Suffice it to say that, when you log primary forest, you increase GDP. When you sell a public park to a real estate developer to build luxury housing on, you increase GDP. It is a wildly inadequate measure of economic performance. It is disappointing to see it used in a document of the importance of the Draghi report. NET scholars would have tried to estimate physical productivity: for example, by comparing worked hours and material input with some measure of human welfare like the United Nations’ Human Development Index.

The Draghi report’s reliance on GDP as a proxy of welfare means that its authors accept the neoclassical theory of value based on utility theory, and believe that the fundamental theorems of welfare economics apply to the European economy, at least approximately. NET thinkers reject these beliefs, as do most people who are not professional economists. This leads the report to pursuing an economy that, at times, can feel dystopian – like when the report laments that most pension systems in Europe are public and mutualized, instead of private and finance-based like in the US. This is a bad thing, if you are an investment banker, because it leaves much less hot money sloshing around on financial markets for you to profit from. But if you are a human believing in human solidarity, unwilling to trust financial markets with providing for you in your old age, you are likely to find it rather good.

From the point of view of non-investment bankers, the Draghi report suffers from a “garbage in, garbage out” problem: the best analysis will still be useless, or worse, if it aims at optimizing the wrong indicator.

3. Policy innovation – but to do what?

The third statement – that the European Union is not investing nearly enough in its future, and suffers and a gap in policy coherence with respect to the USA and China – seems intuitively correct. Europe is polycentric in nature, so everything is a hard-achieved compromise, including investment. “Frugal” member states are notoriously suspicious of public investment, seen as a machine to produce Southern European public debt and shift it to Northern Europeans. Even when there are no ideological disagreements, polycentricity means that a certain amount of horse trading is baked into any major policy decision in Brussels. On average, this reduces policy coherence: it is hard, for example, to imagine a European version of the American Inflation Reduction Act.

I can imagine several NET authors agreeing with Draghi here. Already in the foreword, the report calls for unprecedented levels of investment.

To digitalise and decarbonise the economy and increase our defence capacity, the investment share in Europe will have to rise by around 5 percentage points of GDP to levels last seen in the 1960s and 70s. This is unprecedented: for comparison, the additional investments provided by the Marshall Plan between 1948-51 amounted to around 1-2% of GDP annually.

This can-do attitude resonates with the insistence of NET scholars that we can and should do things differently, if “differently” brings better results. Scholars like Stephanie Kelton, Mariana Mazzucato, Thomas Piketty, Kate Raworth, Randall Wray have produced substantial economic policy innovations, and are advocating, sometimes successfully, for their implementation. These and other NET thinkers believe Margaret Thatcher’s quip, “there is no alternative”, to be wrong. Apparently, so does Draghi. How to organize the economy is a political choice, not an inevitability. Policy makers are more free than the study of neoclassical economics has led us to believe.

Mario Draghi began his career as an academic economist. But he is best known as a banker and a policy maker; a practitioner, more than a theorist. So, it is no surprise that the most interesting content of the report that bears his name is its discussion of various specific policies. There is some solid advice here, built on insightful analysis. For example, Chapter 3 (“A joint decarbonisation and competitiveness plan”) starts with a discussion on the root cause of energy prices. The report argues that the price of energy – gas in particular – is made “unnecessarily high” by institutional factors. Even long-term contracts are indexed to spot energy prices, and spot energy markets are vulnerable to speculation because (1) the supply is highly concentrated, and (2) the European regulation on commodities derivatives grants exemptions to companies whose primary purpose is not trading. Energy prices can be reduced and stabilized by de-financializing the energy markets; abolishing exemptions from regulation on commodities derivatives trading is a good place to start, and indeed is part of the American playbook. In a similar vein, the report offers good advice in Chapter 6, dedicated to governance: consolidate coordination mechanism; consolidate budgetary resources; extend decision making by qualified majority voting in the European Council, and so on. These are not new ideas, but the Commission may hope that Draghi’s prestige lends them extra weight.

But not all the report’s policy advice is unambiguously good. Viewed through the lens of NET, some policy proposals suffer from the fundamental misalignment, noted above, on what a “good” economy looks like. If you – like me – are sympathetic to NET approaches, it sometimes makes for disturbing reading. Several times I found things that I believe are (good) features of the European economy described as bugs. For example, regulating the tech sector (the use of the precautionary principle, data protection laws, compliance on AI) may be “a barrier to scaling up” (Chapter 2), but it has protected European citizens, at least a little bit, from the worst data protection and privacy abuse of the tech giants. Same story in Chapter 5, where the report deplores the weakness of private equity funds on the European markets. This certainly raised my eyebrows: private equity is known for asset stripping companies and impoverishing workers to the benefit of the wealthy (“buy, strip and flip”). Cory Doctorow describes its effects in a colourful, but factually correct, way:

When PE buys up all the treatment centers for kids with behavioral problems, they hack away at staffing and oversight, turning them into nightmares where kids are routinely abused, raped and murdered (NBC News). When PE buys up nursing homes, the same thing happens, with elderly residents left to sit in their own excrement and then die (Politico).

Here is a Guardian article with many links to the documented effects on private equity on the economy. It is safe to say they are not productive at all. They only appear so if you insist measuring economic output wrong. Adopting a NET perspective would have avoided the dystopian moments in the report.

4. A deeper European integration

The report builds on technical arguments to advocate for deeper European integration. We need to increase productivity; to increase productivity, we need bold, tightly coordinated policies across the board; to have those, we need deeper integration. European institutions must work in a more coherent way with one another; member states must work in a more coherent way with the EU (in Chapter 1). Specifically:

If tighter integration means a two-tier EU (a tightly integrated core, plus a more loosely integrate outer layer), so be it.
The EU should move towards “the issuance of a common safe asset” (in Chapter 5), by which Draghi means “emitting European sovereign debt”.

Deep integration of economic policy and sovereign debt issuance would bring the European Union closer to something like a federal state. This is a large step, but it appears much more realistic after the COVID crisis, when European institutions were deployed to protect the population from another massive financial crisis on top of the epidemic. Debt was issued, overcoming the resistance of the “frugal” member states, and the worst was avoided. Achieving social cohesion while decarbonizing the economy, Draghi argues, is also a crisis, in the sense that it cannot wait. He is not wrong in that. Why not, then, use the same instruments that have served us well before?

I expect that most of the public debate on the Draghi report will focus on these two proposals. Considerations more pertinent to NET, such as those on value theory and indicators of economic performance, are likely to be the province of economics geeks like myself. Still, GDP as a reliable measure of well-being? In 2024? it seems like a missed opportunity. Draghi could have made his two main proposals for European integration equally well from a NET standpoint. That would likely elicit more public support: most Europeans are facing insecurity and are more likely to support policy mixes that zero in on their well-being rather than on self-referential constructs like “the economy”.

UPDATE: Hans Stegeman has published a post in a similar vein. What I liked most about it is that he spent some time quantifying where the difference in GDP growth between Europe and the USA ended up making an impact: population increase, increase in the per capita income of the top 10% earners, increase in the per capita income of the bottom 90% earners. The results are surprising: the bottom 90% earners have, on average, seen their income grow more in Europe than in the USA. If you take the bottom 50%, the effect is even stronger: their average income has grown 20% more in Europe than in the USA over the period 1990-2023. This reinforces the point, made in my own post, that the Draghi report is optimizing for the wrong variables.

Photo: The Eurotower in Frankfurt am Main by Marco Verch under Creative Commons 2.0

On Modern Monetary Theory, science fiction and where to look for the violence

About Modern Monetary Theory

MMT’s main idea is: currency issuers can never, by definition, run out of the currency they issue, as long as that currency is “full fiat”, not pegged to something else (like gold or another currency). This has profound implications:

A currency-issuing government does not spend tax revenue. Rather, it spends money into existence and taxes it out of existence.
A currency-issuing government budget deficit is just a number on a spreadsheet, and has no economic significance.
If a currency-issuing government issues the currency commonly accepted as payment for international trade, its foreign trade deficit is also just a number that has no economic significance. In today’s world, that would be the USA.
Fiscal policy, not monetary policy, is the main tool for government intervention in the economy. Used well, it opens up a much broader array of outcomes than we are accustomed to seeing. More on this later.
Inflation is a potentially serious problem, because a currency-issuing government could in principle stoke up a demand for more resources than are available in the economy, pushing prices up.
However, inflation control as we do it today is inefficient. Moreover, it is inhumane. In many countries, authorities target a rate of unemployment that they think will not cause inflation (NAIRU). In Kelton’s vivid words, this policy “uses people as human shields against inflation”.

I find MMT compelling. It’s not even a theory, exactly: Kelton calls it a description. It’s based on accounting identities and careful consideration of the concrete legal mechanisms whereby the US Congress authorizes public federal expenditure, and the Federal Reserve issues and buys back securities. These are not theories or opinions, but facts. I cannot find any contestable claims here. So, at least for now, I accept that MMT holds true.

MMT and science fiction economies

Understanding the Public Service Employment program

I propose that some of the science-fictional economies we have been looking at are a good fit for MMT. It seems likely that those worlds are “MMT worlds”. To make this argument I have to go a bit deeper into MMT’s policy prescriptions.

MMT economists are fans of automatic stabilizers. These are components of public expenditure which react to the economic cycle, with no need for decision making. Taxes are an example: if the economy slows down and our income declines, our tax bill also declines, helping us to go through the difficult period.

The main policy prescription of The Deficit Myth is an unusual type of automatic stabilizer: a government job guarantee. The idea is this: the federal government hires anyone who is out of a job. It pays a not-very-attractive salary, but still a decent one, with health care and paid leave. When the economy is bullish, it is easy to find private sector jobs that pay better, so few people would want those government jobs. In a recession, though, many more people would take them rather than be unemployed. The number of people in these federal jobs, so, goes up and down according to the economic cycle, with no decision needed. This means perpetual full employment, which in turn means more buoyant consumption. This would help businesses get through the recession in a less traumatic way. Workers avoid great suffering and productivity decline associated to long-term unemployment.

Ok, but in practice what would these federal workers do? Kelton:

Several MMT economists have recommended that the jobs be oriented around building a care economy. Very generally, that means the federal government would commit to funding jobs that are aimed at caring for our people, our communities, and our planet.

There is a detailed proposal for such a program in the USA (report by Wray et. al.), called Public Service Employment (PSE). Its main policy objective is of course employment itself, but there is a list of additional ones:

To guarantee a basic human right to a job, as outlined in the UN Declaration of Human Rights and President Franklin D. Roosevelt’s call for an economic bill of rights.

To implement an employment safety net. […]

To serve the public purpose. […]

To be used as a vehicle for addressing other social ills—urban blight, environmental concerns, etc.

Only the federal government, as the currency issuer, can fund the PSE. But both Kelton and Wray insist that it should be up to the states and communities to decide what constitutes “public service” for them.

PSE is the cornerstone of MMT’s policy: if past experiences are anything to go by, it could employ between 5 and 25% of the labor force at any given time. That is a lot of people, and what they do matters. If we could really deploy this much workforce towards nonmarket objectives, there would be a lot we, as a society, could do.

Mariana Mazzucato rightly claims that innovation has not only a rate, but also a direction. MMT is compatible with expanding that statement: the whole economy has a direction, not just innovation. Given monetary sovereignty, policy makers can and should target objectives, or “missions” as Mazzucato prefers to say, that are not economic per se: go to the Moon, eliminate child poverty, beautify cities, reclaim ecosystems, abate aggressively CO2 emissions etc. This is what makes MMT so useful for sci-fi authors, and so attractive to me.

Provisioning, not paying

Kelton insists that, when it comes to public spending, “How will you pay for it?” is a meaningless question. Since currency-issuing governments create their own currency, by definition they pay for everything in the same way: they credit the Treasury account in the Central Bank. Treasury then goes on to use that account’s balance for paying salaries and bills. But there is a similar, meaningful question: “how will you provision it?” Which means: never mind financial resources, do the real resources actually exist to do what we want to do? Do we have enough skilled people, tons of steel, gigawatts of energy etc. to achieve our objectives? Are these resources lying fallow, or will we be competing for them with the private sector?

Kelton quotes excerpts from the speech president Kennedy addressed to Congress to ask it to approve the Apollo program. Kennedy used it to reassure representatives that America could put a manned flight on the Moon’s surface: the skills were there, the manufacturing capacity was there. He never mentioned money – he knew money not to be an issue.

A more passing reference is made at the WW2 wartime effort, the only time when America really achieved full employment. Again, what mattered to the strategists was provisioning the military: how many tanks can we make in a months? But wait, to bring them to Europe we will need extra ships – how many can we make of those? That depends on how many people we can hire in the shipyards and the steel mills providing them, which in turn depends on how much food and housing we can produce for the extra workers in those areas, and so on.

This is how the better thought-through science fiction economies work. Take Kim Stanley Robinson’s Mars Trilogy: in the first book, a hundred people and a lot of heavy industrial equipment land on Mars. Since on Mars there is nothing to buy, what they can do is limited by their resources.

In order to do anything (say, raising the athmospheric pressure as a first step towards terraforming) they need a habitable environment that protects them from cosmic radiation (or they will all soon develop cancer, and dead people do not terraform). But to build a habitable environment they first need to drill tunnels in the regolith, make enough air to pressurize them, and produce oxygen to make it breathable. This requires energy and plants. Fortunately, they brought nukes and a space greenhouse from Earth, but they need to manage them carefully across other possible (and competing) uses… you get the idea. Most of the Martian economy and society we see in the second and third book (except for people, since at some point Mars has strong immigration) are an outgrowth of the materiel and personnel landed in that one ship.

In economic terms, the Martian colonists are working with something similar to a Leontief matrix. So are the walkaways in Cory Doctorow’s *Walkaway". The latter have access to scavenging the default economy for unwanted resources, but at the end of the day they have to produce their own food, energy, vehicles, communication networks, with these things being both products and production inputs to other goods and services. Having transitioned to a moneyless economy, they face constraints in terms of real resources.

Other fictional worlds in sci-fi work have less of an explicit emphasis on Leontief-like input-output planning techniques. Still, they set themselves civilizational goals, and then shape their economies so that those goals can be attained. For example, the Acquis in Bruce Sterling’s The Caryatids is basically a gigantic operation to reclaim ecosystems lost to climate change and other man-made disasters. Earth superpowers in Paul McAuley’s Quiet War books and the Utopian Hive in Ada Palmer’s Terra Ignota have a similar attitude. All these are much more compatible with MMT than with standard issue neoclassical economics.

Where is the violence?

MMT could be an important piece of the completely different economic system so many of us are longing for. This is why we need to make sure we fully understand the conditions for it to work. Which brings me to the violence.

Vinay Gupta taught me to look for the violence implicit in societal and economic arrangements. This is important for those of us lucky enough to enjoy relative safety, stability and comfort, because it is tempting to assume that everyone is OK when we are. “The war has started – Vinay would say – and you did not notice because your side is winning.” So, where is the violence in an MMT world?

Why money is useful

According to MMT, a currency-issue government can never run out of the currency it itself issues. Moreover, that government is sure that everybody will always want more of that currency. Why? Because it demands people pay taxes to it, and those taxes must be paid in the government’s own currency. Why does this make the currency attractive? Because the government has the power, and the will, to harm those that refuse to pay taxes. According to MMT, taxes are not where government gets its money, because governments issue their own currency. They are there to make sure people accept that currency as payment. Without threat of violence, there is no currency in the MMT sense.

This view is fully consistent with historical evidence on how cash money was invented and adopted. I learnt it from David Graeber’s fantastic Debt. The First 5,000 Years. Here’s how it works: Athenian army engages in imperialistic expansion wars in the Aegean Sea. The problem is provisioning the army during the invasion, with the home agricultural land too far away. The solution is this: army attacks rival city, pillages its gold from temples, divides it up in small lumps, gives it to the soldiers. At the same time it announces that it is going to extract a tribute, in gold, from the occupied city. Athenian soldiers then walk up to farmers and exchange their gold against food. Farmers collect the gold and give it back to the Athenian occupation administration, which uses it to pay its goons and start the cycle all over again. Voilà: the occupied are now provisioning the occupants. Without violence, there is no cash.

The continuum of monetary sovereignty

The Deficit Myth repeats several times that MMT only applies to governments with “monetary sovereignty”. It then goes on to repeat that monetary sovereignty “is best thought of as a continuum”. A government has it if:

It issues its own fiat, floating currency. This excludes local and city governments; states that use the currency of other states (like Costa Rica); states whose currency is pegged to the currency of other states (like Argentina before the corralito crisis); and the Eurozone countries, since the ECB, not they, is the issuer of the Euro.
It does not carry heavy debt denominated in currencies other than its own. This excludes many middle- and low-income countries, like Mexico, Brazil and Indonesia.
And then there is full monetary sovereignty. This term describes the USA’s unique position as the issuer of the currency used in international payments. They can ignore not only their internal budget deficit, but also their foreign trade deficit. In fact, the issuer of the global currency must have a trade deficit, otherwise there won’t be enough of that currency to carry out international trade. This is called the Triffin paradox.

It is easy to see that monetary sovereignty is highly correlated with sovereignty tout court. The stronger your economy, diplomacy and military, the more complete your monetary sovereignty. And the USA has by far the strongest military in the world. A good reason to accept the US dollar is that, if push comes to shove, the US might make you. A country could refuse to accept dollars as a payment, but it would probably suffer some diplomatic pressure, at least. It has even been claimed that the American invasion of Iraq was motivated by that country’s announcement, in 2000, that its oil exports were henceforth to be paid in Euro. Without a big military, there is no global currency.

To summarize…

MMT is an elegant, robust, pragmatic body of work in economics. It is heterodox, but solid and difficult to refute. It enables much more directionality in how we run our economies, and it allows a for a broader array of outcomes, including full employment. Its attention to real (rather than monetary) resources makes it a good candidate for running a sci-fi economy, especially in planet colonization scenarios.

At the same time, the acceptance of currency in MMT is predicated on the threat of violence. This is not to say that competing approaches (say, money supply theory) are any less violent. Nevertheless, when incorporating it in the systems we imagine in the Science Fiction Economics Lab, we need to pay attention to this violence, and make sure it is exercised with appropriate restraint, if at all.

Reposted from Edgeryders with minor modifications. Image: By Avij (talk · contribs) – Own work, Public Domain, https://commons.wikimedia.org/w/index.php?curid=30112364