Mainstream neoclassical economics is hooked on the idea of individual worker-savers as prime movers in capitalist market economies. As workers, individuals choose how much to work, determining the economy\u2019s output; as savers, they determine how much of that output takes the shape of the economy\u2019s capital investment. With banks as conduits channeling saving flows into investment, firms churn inputs into outputs that match worker-savers\u2019 tastes. In this way, the neoclassical world gets shaped by what rational intertemporal utility-maximizing worker-savers wish it to be.<\/p>\n
In its most fanciful version \u2013 erected on supposedly sound micro foundations and known as \u201creal business cycle theory\u201d (RBC) \u2013 the neoclassical fantasy world of intertemporally optimizing worker-savers is subject to exogenous shocks to tastes and technology. Random technology shocks may be either positive or negative, and as Edward Prescott\u2014acclaimed RBC founding father, together with Fynn Kydland\u2014famously explained, negative technology shocks arise whenever there is a traffic jam on some bridge (see Romer 2016<\/a>). That\u2019s truly creative: Imagine a couple of dancers receiving the Nobel prize in medicine for wildly hopping around a coconut tree while peeing on a rotten banana and screaming voodoo until they are blue in the face. Unlikely to happen in medicine, you might say, but in economics voodoo routines and hallucinations of this kind can still earn you a pseudo-Nobel prize properly known as \u201cThe Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.\u201d<\/p>\n There also exists a \u201cNew Keynesian\u201d variety of mainstream neoclassical economics that accepts the RBC framework as its core but adds some \u201cfrictions\u201d to the modeled worker-saver paradise that hinder continuous and smooth full-employment equilibrium. Both camps share a common modeling technique (or speak the same language) known as \u201cDynamic Stochastic General Equilibrium\u201d (DSGE) methodology. The only thing \u201cKeynesian\u201d about the New Keynesian variety is that it provides a rationale for government stabilization policies.<\/p>\n Hardcore (\u201cNew Classical\u201d) RBC proponents interpret the Great Depression as a worker-saver mass movement into the world of leisure. By contrast, New Keynesians offer an apology for why market economies might take their time in returning to full employment. Regaining full employment may then be accelerated by government intervention, preferably to be enacted by an independent central bank \u2013 with central bank independence being re-interpreted as \u201crules rather than discretion\u201d in another extraordinarily muddled piece of obscurantism by said RBC-duo Kydland and Prescott (1977<\/a>) (see Bibow 2001<\/a>).<\/p>\n Needless to say, and obvious to any serious economist, the worker-saver fantasy world depicted in DSGE models has little in common with capitalism as we know it on this planet. In fact, modern mainstream macroeconomics has completely unlearned the \u201cKeynesian revolution\u201d and essentially turned macroeconomics into an especially shoddy version of microeconomics.<\/p>\n Keynes identified two key flaws in the mainstream neoclassical economics of his time. The first was a fallacy of composition regarding the working of the labor market: while the individual worker may price themselves into employment by accepting a lower wage, workers in the aggregate can only price the macroeconomy into debt deflation by going down that route. Keynes observed that the only reliable expansionary effect of a falling wage level arises through competitiveness gains and net exports. Writing at a time when the world was engaging in \u201cbeggar-thy-neighbor\u201d competitive devaluations, that seemed hardly a promising strategy to rely on.<\/p>\n The second flaw Keynes identified concerns the neoclassical capital market supposedly channeling worker-savers\u2019 saving flows into investment, with banks collecting loanable funds as deposits which they then lend out to investing firms. Keynes exposes a fatal neoclassical confusion between money and saving (Bibow 2009<\/a>). In capitalism nothing much happens without money, so it\u2019s money first, then saving \u2013 if money can make James Meade\u2019s (1975<\/a>) investment dog smile and wag its tail. In Keynes\u2019s vision of capitalism, entrepreneurial investors and their financiers emerge as the prime movers, while worker-savers are largely relegated to a more passive role. They, too, try to optimize \u2013 but under the macroeconomic constraint posed by the level of effective demand.<\/p>\n Interestingly, Schumpeter\u2019s vision of capitalism is quite similar to Keynes\u2019s, with entrepreneurial-investors driving the never-ending process of \u201ccreative destruction\u201d and banks acting as \u201cephor\u201d (gatekeepers) of capitalist development. Schumpeter, too, understood the money-first principle and saw banks as money producers rather than loanable funds conduits. Minsky stood on both giants\u2019 shoulders, elaborating on the central role of finance in capitalism and the endogenous emergence of financial fragility as the driving force behind boom-bust cycles. However, Minsky clearly leaned towards the Englishman rather than the Austrian regarding the role of government as a player in its own right potentially stabilizing the macro economy.<\/p>\n It was Abba Lerner (1943<\/a>, 1944<\/a>), who pushed Keynes\u2019s macroeconomic insights to its logical conclusion with regard to fiscal policy. Lerner\u2019s \u201cfunctional finance\u201d approach proposes that the government, not facing the usual monetary constraints that can hold back private actors, should let its budgetary position passively adapt to whatever may be required to achieve macroeconomic equilibrium.<\/p>\n Keynes responded to Lerner\u2019s functional finance as a \u201csplendid idea\u201d but had reservations as far as putting it into practice was concerned: \u201cfunctional finance is an idea and not a policy; part of one\u2019s apparatus of thought but not, except highly diluted under considerable clothing of qualification, an apparatus of action. Economists have to try to be very careful, I think, to distinguish the two.\u201d<\/p>\n It is here that \u201cModern Monetary Theory\u201d (MMT) comes into the picture. As a recent conference<\/a> held in New York City made clear, MMT is a call for action. It is a program to alert policymakers and the public that decisions about, for instance, infrastructure, the environment, or progressive social programs are nothing but political choices within the fiscal powers of sovereign states.<\/p>\n MMT\u2019s theoretical roots reach back to Keynes, Lerner, and a less well-known German political economist with the name of Georg Friedrich Knapp (1905<\/a>). The latter is known for his \u201cstate theory of money\u201d (or: \u201cchartalism\u201d) emphasizing that money is a creature of the state rather than a convenient market invention to reduce transaction costs.<\/p>\n