A Fix for the Euro Bug: Modern Money Theory, Sovereignty and Fiscal policy

1. A Fix for the Euro Bug: Modern Money Theory, Sovereignty and Fiscal policy Stephanie Kelton, University of Missouri-Kansas City May 9, 2011 Croke Park Conference Centre Sponsored by TASC and Smart Taxes

2. Wither the Dream Robert Mundell and the OCA Size and Openness Stability “The euro should stand up very well. It has two great strengths: a large and expanding transactions size; and a cultureofstability surrounding the ECB in Frankfurt. . . . As the EU expands, and as the poorer countries catch up, the euro area will eventually be larger than the dollar area.” (Mundell, 1999) “The euro will itself become a widely-used internationalcurrency, conferring on the EU the “exorbitant privilege” to run a “deficit without tears” – to use the phrases of Charles DeGaulle and Jacques Rueff in their pungent attacks on the role of the dollar as a reserve currency in the 1960s.” (Mundell, 1999)

3. Mundell’s Fundamental Flaw The “exorbitantprivilege” to run a “deficit without tears” only applies to nations that retain a sovereign currency Mundell (1999) was fundamentally wrong when he said, “given the faitaccompli of EMU and the euro, there are high costs to Britain staying out. One is the loss of sovereignty. Macroeconomic policy will increasingly be in the hands of the EU-11.” By retaining the pound, Britain retained its sovereignty By giving up the punt, Ireland lost hers Ireland is now the USER of the currency It cannot run a ‘deficit without tears’ the way sovereign currency ISSUERS like the UK, US, Canada, Australia, etc. can

4. Principles of MMT Taxes drive money -- Government doesn’t “need” money in order to spend (Manchester United) Taxes function to regulate Aggregate Demand, not to raise revenue per se Bond Sales also provide the private sector with a safe, interest-earning alternative to cash The government should not target any particular budget balance Unemployment is de facto evidence that the government deficit is too small

5. MMT • Recognizes that there is a fundamental relationshipbetween a nation’s power over its currency and its power over public policy • Giving up power over ones’ currency implies a loss of power in the policy sphere • Something a handful of economists cautioned about prior to the launching of the euro

6. The Maastricht Treaty Underestimated the possibility of a massive banking crisis Overestimated the importance of price stability and the central bank’s ability to generate it Underestimated the power of the bond markets to discipline member governments Overestimated the feasibility of its No-Bailout clause Underestimated the extent to which the budget deficit reflects what’s happening in the real economy Overestimated the market’s ability to “self-correct”

7. So When the Crisis Hit…. • The Irish central bank panicked and decided to guarantee the banks • Deficits exploded • Financial markets (rightly) began to worry • Debt levels increased • Government bonds were downgraded to Baaa3 • Financial markets stoppedlending to Ireland • And the ECB-IMF bailoutwas negotiated

8. With Strings, Of Course • The government has promised to make €15bn in savings by 2014 • €10bn through spending cuts • €5bn through increased taxation • Approximately €1.9bn will be raised from income tax. • VAT will increase from 21pc to 22pc in 2013, with a further increase to 23pc in 2014. Goal: €620m. • The government will introduce a new 'Site Value' tax. Goal: €530m. • The level of the national minimum wage will decrease by €1 per hour to €7.65. • The government is aiming for a €700m full-year reduction in pension tax spending. • A range of measures will be introduced to achieve social welfare savings of €2.8bn.

9. Carbon tax Pension reform Water charges Propertytax Minimum wage Death by 1,000 Cuts The head of the IMF, Dominic Kahn said: “The issue now is to see how the measures will be implemented, especially those concerning the labour market.”

10. What are the “Experts” Saying About all This? “To achieve stability, the EU must address the striking disparities in the fiscal positions of its members, although disagreements about how to set fiscal standards are likely. Long-run solutions to Europe’s problems also require economic reforms that increase competitiveness and reduce labor costs in the peripheral countries.” -Fernando Nechio, Federal Reserve Bank of San Francisco “A key element in the recovery process will be the restoration of competitiveness through … a fall in wage rates and other domestic costs relativeto those in Ireland’s competitors.” -Adele Bergin, Thomas Conefrey, John Fitz Gerald and Ide Kearney, 2010

11. Ireland’s ‘Growth’ Strategies: Fiscal Austerity &Increased “Competitiveness” Newsflash! You’ve Already Got Competition

12. Portgual The main opposition party – widely presumed to take power in the next election – backs continued measures to reduce debt and improve competitiveness. Portugal is planning to reduce its budget deficit to 2.8% of GDP by 2013. The government also plans to carry out structural reforms to enhance export competitiveness, invest in human and physical capital, and improve the educational system and infrastructure.

13. Greece Like Ireland, Greece is following an IMF austerity and economic reform program Greece is projected to reduce its fiscal deficit from its current 13.6% to 2.6% by 2014. To accomplish this, the government is required to cut public sector wages, freeze state-funded pensions, and strengthen tax collection All of this is designed to reduce the debt and increase competitiveness

14. Spain Fitch warned that “the inflexibility of the labour market will hinder the pace of adjustment, especially in the aftermath of the real estate boom.” The government then announced that it was carrying out structural reforms of its banking system and labor market. Fernandez de la Vega  said, 'We have implemented an austerity plan and we've started working on labour reform, we are implementing all measures to achieve our targets,' and 'I want to send a message of confidence to citizens and of reassurance to markets,' she said. Spain followed with a 5% pay cut on government workers

15. Italy Italy’s fiscal deficit isn’t as large as some other euro-area countries, but it has one of zone’s highest debt-to-GDP ratios The government has said that labor market rigidities and an outsizedpublic sector jeopardize Italy’s productivity growth and competitiveness The government expects to reduce its fiscal deficit to 2.7% of GDP by 2014. Italy is also reforming its social security system and its labor markets

16. Will it Work? • Sales create jobs • Income creates sales • Spending creates income

17. But Who will Spend? • Consumption: If unemployment remains high, home prices continue to fall, and incomes are reduced, consumption will not improve • Investment: If consumption is stagnant, businesses will have little reason to invest in new capital or hire additional workers • Government: Governments are cutting back significantly, with austerity spreading globally • Net Exports: Many central banks are devoting up to 3% of GDP to manipulate their currencies. Ireland will have to compete with other nations for a share of export markets

18. And This is the DoF ‘Solution’ • Ireland’s Department of Finance recognizes that households face numerous headwinds, “not the least of which is the continued need to repair balance sheets” • The DoF projects deficits of 3% of GDP in 2013, and less than 3% of GDP by2015. It also expects the government to adhere to the aggregate fiscal adjustment set out in the Joint EU/IMF Programme of Financial Support for Ireland for the period 2011-2012 • Pins its hopes for economic recovery on export growth, which is projected at 6.75% in 2011 and 5.75% in 2012 • The DoF forecast “assumes reasonably solid demand in our main trading partners and further competitiveness gains.”

19. It Must Be a Good Strategy – Everyone is Adopting It! • President Obama has pledged to double US exports over the next 5 years • Timothy Geithner is begging China to raise interest rates to support US exports • UK Prime Minister David Cameron and his Finance Minister, George Osborne, are also counting on a private sector, export-led recovery to generate economic growth over the longer term • Germany is surviving (for the moment) on the strength of its export markets • Ireland’s Minister for Jobs, Enterprise and Innovation, Richard Bruton, recently travelled to India on a trade mission • But this is obviously not a workable strategy for all nations

20. Maybe Ireland will be One of the “Lucky” Ones • Maybe your export sector will explode as you push wages so low that you leave Portugal in the dust • And become Bangladesh

21. Austerity and Prosperity – They Don’t Go Together, but They Do Rhyme • The IMF and World Bank recently held their Spring Meetings in Washington, D.C. • There, finance ministers and central bank governors from around the world agreed on two things: • 1. Governments must do more to counter unemployment. “Growth is not enough. Weneed growth … to produce jobs.” • 2. Governments must tackle debt and fiscal problems in advanced economies

22. Tackling Debt Tends to Raise Unemployment ’73(4) ‘80(1) ‘90(3) ‘01(1) ’07(4) ’81(3)

23. Exactly the Wrong Move “You never want to cut your budget deficit when the private sector is deleveraging… because we cut prematurely in 1997, we entered into a very steep economic decline and it took us ten years to pull ourselves out of that.” - Richard Koo

24. The Bottom Line Even without the real estate bubble and the ensuing banking crisis, a serious economic problems would have eventually arisen in one or more areas of the zone One-size-fits-all monetary policy cannot target specific parts of the zone in the event of an asymmetric shock More importantly, monetary policy is a weak (at best) tool, even when problems affect the Eurozone as a whole The real problems are that (1) there is no lender of last resort facility and (2) no safe funding mechanism to allow governments to sustain large deficits in times of crisis

25. The Problem is with the Euro Itself The Euro is not a sovereign currency for any member government Every member of the EUR-16 is a USER of the currency – like Texas, New York or California Sovereign governments – like the US, UK, Canada, Australia, etc. – are ISSUERS of their currencies Sovereign governments cannot be forced into bankruptcy Indeed, they do not even need to issue bonds Ratings Agencies and bond vigilantes can be rendered powerless by sovereign ISSUERS like the UK, US, etc.

26. The Most Straightforward Way to Restore Output and Employment Say “Goodbye” to the Euro, Regain Your Sovereignty, and Take Back your Economy

27. Thank You