The cure for inflation without unemployment

An alternative economic model could tackle inflation through fiscal policy rather than increases in interest rates, avoiding unemployment and financial distress often used to curb prices, writes Dr Bronwyn Kelly.

In its LATEST press conference, the Reserve Bank (RBA) governor Michele Bullock it was he asked:

“What better way to deal with inflation, largely driven by the oil shock, than to do this to people?”

With “This”ABC reporter Emilia Terzon It meant the RBA’s decision to raise its cash rate target to 4.35%; It’s a burden that pushes the total increase in monthly mortgage repayments this year to more than $300. typical mortgage $700,000.

Governor Bullock’s response It was said with unrepentant frankness:

People often tell me: You must have something better than the interest rate. We don’t. This is all we have.

Interest rate is the tool we have. Outspoken. It affects people in different ways. But it’s the best way to control inflation, and ultimately that’s what we need to do.

It is necessary to give a frank answer to the governor and say that this claim is wrong. Interest rate adjustments are not the best way to control inflation. In fact, they rarely deal with the problem. The best way to control inflation is to use fiscal policy as prescribed by law. functional finance.

Although it has been around since the mid-1940s and is quietly used on a daily basis to manage Australia’s macroeconomy, the term “functional finance” is probably not one heard often in RBA halls.

A Google search suggested Ms Bullock never used the term in her conversations. We can speculate that the Bank either had no knowledge of functional finance, or that the Monetary Policy Committee knew about it and chose not to mention it because it ran counter to neoclassical economics, neoliberalism and the RBA’s preference for using a blunt tool like interest rate adjustments to manage the macroeconomy.

However, functional finance offers governments daily opportunities to deal with inflation without causing unemployment. So if the Board knows this, the choice to ignore it — and especially the governor’s apparent choice to relegate fiscal policy to the bottom of the toolbox for managing inflation — can only mean that Ms. Bullock or the Board, or both, favor a system that uses unemployment to control prices.

The perversion of this is that Australians cannot have acceptable interest rates or stable prices unless most of them quit their jobs.

Of course, those who manage macroeconomics might be a little kinder or less unimaginative than this. And if they stop for a moment to deal with functional finance, they will find a way out of this heresy.

So what is functional finance? It is effectively a system of macroeconomic management that envisages doing the opposite of what the RBA chooses to do. He recognizes that fiscal policy (public spending and taxation) is a much more powerful tool in combating inflation than monetary policy (mainly interest rate adjustments) and, moreover, that it can be used to control price increases without leading to unemployment. It also recognizes that the best use of monetary policy is not to control inflation but to optimize investment.

Yes three basic rules These are not difficult to use in functional finance:

Rule 1: It envisages the adjustment of total spending (by everyone in the economy, including the Government) to eliminate both unemployment and inflation, using government spending when total spending is too low and taxation when total spending is too high.

Rule 2: It envisages the adjustment of public money and government bonds, through government borrowing or debt repayment, to achieve the interest rate that results in the most desirable level of investment.

Rule 3: It orders the printing, hoarding, or destruction of money as necessary to implement the first two rules.

So in summary, functional finance It is a macroeconomic management system with the following features:

1. Prioritizes the use of fiscal policy to manage inflation and ensure full employment;
2. relegates monetary policy to a supporting role, focused strictly on encouraging the right amount of investment in real production, not on controlling inflation; And
3. It decides when to print new money, when to hoard excess money and when to eliminate it through taxation to ensure full employment, stable prices and optimal investment in Australia.

Neoclassical economists and proponents of neoliberal policies will probably exclaim that the aspects of the first and third rules that call for public spending and “printing” money will lead us all straight into inflation. But the truth is that governments “print” and spend money every day, and they do so without causing inflation.

They are also likely to complain that public spending dwarfs private spending. But this is based on the mistaken idea that if the Government wants to spend it will have to tax us so we can spend less. This is completely the wrong approach, as Modern Money shows.

The truth is that economies do not function at all unless the Government spends everything we need to create a basis for private sector activity. Private companies cannot and in fact will not spend until the Government spends; nor can individuals spend until the Government has spent enough to make it possible for them to be employed.

Government spending is where every modern economy begins. This is where we start to create employment and therefore private spending power. When we do this, the Government’s job will be to decide how much money to leave in the economy. If we are demanding more than our economy organizes, then the Government can use the taxation component of the first rule of functional finance to bring everything back into balance. And he does this every day, every year.

If inflation is demand-driven, taxing excessive expenditures will be a much more effective and fairer control method than raising interest rates. But whether or not inflation is demand-driven (the current state of inflation is not), deliberately fueling growth in unemployment by raising interest rates is not the way to beat it. Raising interest rates increases prices further; it doesn’t drop them.

In the RBA’s view, the answer to a higher cost of living is apparently to increase the cost of living. And as if that wasn’t weird enough, the intentional purpose of using monetary policy – at least in the RBA’s preferred application – is to increase unemployment so that people lose their ability to pay their bills at the same time that bills rise. This is not only absurd, it is cruel; Doubly cruel, given that we have an alternative way of balancing supply and demand.

Governor Bullock wants Treasurer Jim Chalmers Reining in public spending. He doesn’t want him to use fiscal policy. He implied that public spending made it difficult to control prices. But if price control is its ambition, functional finance makes his job easier by recognizing fiscal policy as the tool best suited to its goal and redirecting the use of monetary policy for a different but complementary purpose.

Functional finance could change Michele Bullock’s life; There is no need to leave us unemployed anymore. It could change everything for all of us. We can all have a job and an affordable, prosperous life. But this will require Treasury and the RBA to develop skills in the use of functional finance and truly understand that they can do so much more for Australians if they master it.

This is part 1 of this article. To see how the Treasury and RBA can master the use of functional finance, read this article: Part 2 is here.

Learn more about how we can reform macroeconomic policy and governance in ‘Public Interest Economics: the path to prosperity, security and sustainable consumption in a democratized Australian economy’ Written by Dr Bronwyn Kelly, Founder of Commonwealth of Australia Future Planning (ACFP).

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