The Trade-off between Inflation and Unemployment in an MMT World: An Open Economy Perspective

Abstract

This paper is focused on Modern Monetary Theory's (MMT) treatment of inflation from an open economy perspective. It analyzes how the inflation process is explained within the MMT framework and provides empirical evidence in support of this vision. However, it also makes use of a stock-flow consistent (open economy) model to underline some limits of the theory when it is applied in the context of a non-US (relatively) open economy with a flexible exchange rate regime. The model challenges the contention made by MMTers that measures such as the job guarantee program can achieve full employment without facing an inflation-unemployment trade-off.

MMT and policy assignment in an open economy context: Simplicity is useful, oversimplification not so much

“…Carnevali and Deleidi (2020) address open economy issues in a 2‐country stock‐flow consistent open economy model. Numerical simulations—the model cannot be analytically solved—show the presence of a trade‐off.…”

“…Other formal models in the Post Keynesian tradition such as those by Bossone (2020) and Carnevali and Deleidi (2020) discussed earlier incorporate MMT ideas. Unlike the present paper, the financial account in Bossone (2020) is a flow one and wealth is not explicitly defined in terms of domestic and foreign assets.…”

“…Bossone (2020) employs the IS-LM framework to demonstrate that, barring special circumstances such as high credibility in international financial markets and the status of reserve currency issuer, an open economy that pursues MMT-advocated policies will either experience unsustainable monetary expansion or high interest rates that are inconsistent with the domestic policy target of full employment. Carnevali and Deleidi (2020) address open economy issues in a 2-country stock-flow consistent open economy model. Numerical simulations-the model cannot be analytically solved-show the presence of a trade-off.…”

“…Thus one cannot keep track of the evolution of financial assets and the interaction between these and the exchange rate. Carnevali and Deleidi (2020) too do not incorporate financial market portfolio issues. Thus, they do not have exchange rate expectations or feedback between different markets.…”

The Employer of Last Resort Scheme and the Energy Transition: A Stock-Flow Consistent Analysis

“…Since then, both this approach and in general the SFC methodology have become a fundamental component of the Levy Institute's research. Furthermore, proponents of Modern Money Theory (MMT) have been adopting SFC models to illustrate some of its core principles (Ehnts 2014(Ehnts , 2016Hannsgen 2020) and critics have resorted to this framework to underline its weaknesses (Carnevali and Deleidi 2020).…”