There is plenty of money to spend on schools: a Modern Money Theory perspective

10 min read

It is common and widely accepted that the UK’s finances are in a dire situation. The national debt has grown from £700 billion in 2010 and is set to reach almost £2 trillion in 2020. While the deficit (the difference between government spending and taxation) has been reduced from roughly £100 bn (2010) to £40 bn (2016), there is a commitment to turning the deficit into a surplus. As a consequence many people are willing to accept that we must tighten our belts, make savings and do what we can to avoid the out-of-control debt spiralling further. We do, after all, want to avoid passing on this debt to our children and grandchildren. So it goes.

According to the Institute of Fiscal studies, school spending is being cut by 8 per cent in real terms. Perhaps more. Over the last few weeks I have heard colleagues in the university as well as teachers, headteachers and parents acknowledge that this is necessary given the economic situation and prospects I have outlined above. We have to cut back on spending, we have to reduce the debt, we have to make sacrifices. We have to find low cost and efficient ways of educating children more cheaply. No frills, no expansive (or expensive) learning; the learning of facts in classrooms with austere compliance. For teachers, no professional development, longer hours and real-terms pay cuts.

After all, it all makes complete sense. It may be a bitter pill to swallow, but if we, as individuals, households or as businesses over spend we would end up with an unmanageable debt and we would go bust. It makes sense that the same applies to government spending. If the UK government overspends, day-to-day, we will, as a nation, go bankrupt.

Now here’s the thing, government spending is not an aggregated version of household spending. In our personal lives our spending is independent of our income. We are, for all intents and purposes, free to spend what we like; whether we spend less or more than our income. Clearly, if we spend more we will go into debt and if we spend less (which is almost an impossibility in the Watson household) we save, but fundamentally income and expenditure are independent of one another. Which is where there is big difference with government finances or what we might call macroeconomics. This is probably the most important thing to understand in getting a better grip of how a nation’s economy works.

The difference between you and the UK treasury is that you do not issue your own currency, the UK does. For every transaction with that currency, whether you are paying for schools or buying an ice cream (see Richard Hammond), there is a buyer and a seller. Because at any one point in time there is fixed amount of currency, for everything spent there must be something sold. Across the whole economy income must equal expenditure. There is at the heart of macroeconomics a conservation of the total amount of currency, because it is only the government that has the legal power to create or destroy currency.

Think of it like this, the government creates currency, the pound. If you work in the public sector you are paid in pounds, with which you buy things from the private sector. People working in the private sector get paid in the currency and also buy things. Currency is circulating around the economy (of course, households and businesses can save money buy spending less than they earn but I will come to this later). The mechanism by which the circulation of currency is controlled is through taxation, we have to return a proportion of our earnings through paying tax in that currency. But importantly the government has to create currency and spend it before there is anything to tax. Tax should not, therefore, be seen as a revenue source, but as a means of regulating the amount of currency in circulation. The source of a government’s capacity to spend is through the creation of its own currency. It is therefore recognised that governments, like the UK and US for example, cannot go bust because of their power to create currency and that they buy things in that currency.

These are the fundamental ideas in Modern Monetary (or Money) Theory (MMT) which draws on the ideas of both Keynes and Marx to consider macroeconomics in an alternative way. The starting point is the idea that within a nation with a sovereign currency all incomes must equal expenditure. A macroeconomic view of this income and expenditure balance is usually considered by breaking it up into different sectors. The private sector, the public sector and in trade with the rest of the world. With this we get the following simple equation:

Private sector surplus or deficit + Public sector surplus or deficit + Exports/Imports = 0

The private sector includes both businesses and households, it is desirable that this is in surplus, since the private sector should have reserves to cope with changes. The public sector surplus or deficit is the difference between tax revenues and government spending. It is the figure that governments and media like to bandy around and create such alarm with. But you can see that if imports are high i.e. currency is leaving the UK, and the private sector is running in surplus then we must have a deficit. And in fact, deficit is a normal way of operating the economy and should not be used as an indication of over spending.

What about the national debt? This not really a debt as such, it is equivalent to the accumulation of surpluses in the private sector. The government issues bonds to buy back the reserves created by the banks as a result of the deposit of private sector surpluses. In the UK this is mostly from large businesses and wealthy individuals since quite a lot of ordinary working folk are in debt.

So if deficit and debt do not constrain government spending can we just create money and be done? It is true to some degree, but according to MMT the constraint on spending is inflation. In other words if the government increases spending too quickly demand outstrips supply and prices go up. A government has to increase spending cautiously. At present, however, inflation is not a problem, it is very low and we can afford to increase public spending without worrying too much about inflation.

But an increase in spending would stimulate the economy, increasing economic activity and therefore growing the economy. One issue is to make sure that spending does not result in the accumulation of wealth by large companies and wealthy individuals. This is what has happened as a result of quantitative easing after the financial crisis and it is why the national ‘debt’ has grown.  As this is equivalent to the accumulations in the private sector. QE swelled the coffers of the rich. In order to make sure spending is more fairly distributed we need to consider things like universal basic income, progressive taxation and debt jubilees (paying off household debt).

I have taken you on a whistle-stop tour of MMT, there is much more to read and understand – which is what I continue to do. A good visual account can be found here. I have been reading Modern Monetary Theory and Practice: An Introductory Text by William Mitchell, L. Randall Wray and Martin Watts, which I recommend. The are blogs by Bill Mitchell, New Economics Perspectives. This lecture by L Randall-Wray is an excellent introduction too.

I conclude by outlining or restating — emphasising even — the implications for spending on schools. Debt and deficit are not the barrier to adequate spending on our schools. As the sixth wealthiest nation in the world we can afford to properly fund our schools. There really is no excuse. What is not clear is whether the government are economically illiterate/incompetent or have some other agenda i.e. the privatisation of schools. If you read The Price of Inequality by Joseph Stiglitz or Post-Capitalism:  A Guide to Our Futures by Paul Mason, they suggest the latter is almost certainly true. Capitalism is in a state of crisis, ensuring sustained profits is difficult and therefore companies are wanting to move into areas where governments can support revenue and profits, like transport, health and education. So-called neoliberalism. Expounding the belief that a nation’s economics is analogous to a household or business serves this: reduce the deficit and debt through outsourcing, markets and efficiencies. It seems most likely that government is being influenced by the self-serving who are defending the capacity of the wealthy and large business to accumulate capital.

It is important that we in education ask questions about the economic models that we are presented with. That we do no acquiesce in a state of ‘oh dearism’ and resignation. That we don’t find ourselves trying to mitigate for government cuts by overworking and burning out. It is important that we educate ourselves, challenge the government and act in solidarity to oppose.

I am happy to engage in discussion about the ideas I have presented here.

13 thoughts on “There is plenty of money to spend on schools: a Modern Money Theory perspective

  1. patrickamon

    Thanks for this. I really enjoyed it and agree with most of it. One part I don’t understand, though (and I have been puzzled by this aspect of MMT before) is the idea that ‘the government has to create currency and spend it before there is anything to tax.’ The government creates a currency in that it is only by government mandate that a currency is legal tender. The government, though, so far as I understand it, does not create money; rather, banks create money by lending it. My understanding of MMT, as you can probably tell, is partial at best and I’d really appreciate any further explanation of how money is only created by government spending.

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  2. Steven Watson

    I have copied a few pages from Randall-Wray, Modern Money Theory: A Primer, that explain the issue as a pyramid of IOUs. In other words currency involves assets and liabilities or credits and debits. But see if this explains it. Let me know how you get on.
    Effectively at the bottom of the pyramid you have high street banks making lots of loans, with a chain of liabilities going up through central banks to the Bank of England
    I have shared them at the follows:
    https://www.dropbox.com/s/qsx6op3riu98yg3/2017-01-10%2020.00.39.png?dl=0
    https://www.dropbox.com/s/xjvon0v8kynjj19/2017-01-10%2020.00.42.png?dl=0

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  3. Phil Armstrong

    Hi Steve,

    Great stuff- spot on!

    MMT is the way forward. You might be interested in this site (if you don’t know of it already)
    http://moslereconomics.com/

    Warren Mosler is certainly worth reading.

    Are you a member of any heterodox economics groups? If not, I recommend the Association for Heterodox Economics (AHE)
    http://hetecon.net/

    They are not all MMTers in the AHE, by any means, but the society promotes pluralism in economics which has to be good!

    Keep up the good work!

    All the best,
    Phil

    Reply
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  8. Roger Broadie

    While I can see that there is value to the idea that governments can (and should) put money into the economy through spending that puts money into the pockets of ‘ordinary’ people rather than giving it to banks through quantitative easing, the simple explanations of this MMT theory that are pointed to I feel are doing it a dis-service, because they don’t include a vital factor.

    When banks and capitalist companies move money around the economy they always extract a profit. And when governments sell bonds to pull money out of private reserves they always pay interest to those private sources of money. These may be relatively small amounts at times of low inflation and low interest rates, but they have a cumulative effect which is always going one way. Hence why national debts continually build.

    If MMT can show how this can be reversed then I would be very interested. Because until it is the amount of money held by rich individuals and companies will continue to grow, making money used simply to increase the amount of money held vastly outweigh the money circulating in society for the good of society.

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  9. Steven Watson Post author

    Thank you for your comment Roger and thank you for taking time to engage with the ideas. You are correct, public spending can lead to accumulations of currency at the wealthier end of the private sector. This accumulation translates into the national debt, since the government has to create bonds to withdrew currency reserves that end up in the commercial banks. This maintains interest rates at desired levels. The management of the economy should encourage private sector saving since the private sector needs to be able to weather economic storms (the government/ public sector has more powers at its disposal to react). However, the rich have accumulated considerabley, while the rest have limited savings of debts. There are three main ways in which this can be addressed: a) more progressive taxation (literally taking more back from the richest) b) encouraging investment rather than bond buying. The government needs to spend to create growth in the wider economy, more spending would increase demand in the economy and make investment worthwhile and c) regulation of the financial sector so that banking and finance is less exploitative. Private debt and financing is an effective way of extracting profits – as you point out – from the little guy. Cheap publically funded credit could be made available (gosh I wonder why the corporate lobbyists encourage governments not to do that? :))

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    1. Roger Broadie

      Thanks for the reply Steven. Of your proposed ways to resolve the problem of money always moving to the richest, your first and third, taxation and regulation, are the methods that socialist governments have tried in the past and are extrinsic controls – they don’t change the money system they just ameliorate the problems. What I would like to hear much more discussion of is your second, how those who hold large amounts of money can be persuaded to invest it in ways that will bring benefit to society. For this to be an intrinsic solution that will grow in popularity because it works financially for the investors, increases in the financial return to the investor will have to come from increases in the social good causing growth of revenue, rather than as at present through contracts for public services that bring greater percentage return than current interest rates – as evidenced by PFI and disasters such as the Building Schools for the Future programme, where I was in meetings where I heard the bankers discussing returns of the order of 16%.

      That the excess of money in the system globally, and the decline of growth markets globally, is causing companies to look to shift their business into areas funded by the public purse is clear, as you mention. I see this particularly in education where companies are creating business approaches to target not only developed nations’ education spending but also the low amounts that African families can spend on education. I don’t know how an intrinsic money-engine for social good could be achieved but I would much rather hear the Labour party putting forward really radical proposals as to how to create such a system, rather than their current policies that just tinker round the edges while not addressing the push to privatise public services around the model of greater % return on the money than can be gained from financial investments, and greater % than it would cost government to borrow the money.

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