The Policy Response to COVID-19: The Implementation of Modern Monetary Theory

Abstract:

The COVID-19 induced recession are forcing central banks to adopt tools advocated by Modern Monetary Theory, financing their efforts to stabilize their economies with keystrokes. The keystrokes create claims, enabling governments to purchase assets and finance deficits in their attempts to stabilize their economies. COVID-19 reminds us that markets are not alert to threats: foreign, domestic, or microbial. Creating the rules and policies to provide people with needed goods and services falls to government, a role that government has only partly fulfilled. The tepid response also reflects a misapprehension of the possibilities of monetary and fiscal policies. There are two dimensions of the market economy, both related, both highlighted by the current pandemic. The first is the institutional basis of the market economy revealed in the promises we make to each other in the form of financial assets. The second is the dependence of people on employment for their livelihood. The inability to earn an income creates insecurity. It also impairs the ability of people to keep their promises. The move to fiat currency in 1971 ended the dollar’s link to gold, expanding the possibilities of both monetary and fiscal policy to mitigate the effects of the pandemic.

Keywords:

• COVID-19
• Modern Monetary Theory
• CARES Act

JEL Classification Codes:

• B52
• E58
• H30

Notes

1 Commons too had advocated that government employ the unemployed (See Whalen 2020).

2 Invoking a variation of the quantity theory of money, critics argue that increases in the money supply will lead to inflation. MMT responds that inflationary pressures can be dealt with by raising taxes.

3 Increases in saving (a flow) deposited in the bank increases one’s savings (a stock), adding to a person’s financial wealth and increasing the banks liabilities. The associated fall in consumption means that entrepreneurs incur an unexpected rise in inventories. Financing those inventories forces a redistribution of wealth from entrepreneurs to savers. To finance the increased inventories, entrepreneurs must either incur a debt or reduce their savings.

Additional information

Notes on contributors

John P. Watkins

John P. Watkins is a professor of economics at Westminster College.