Cryptocurrencies - What Does MMT Have To Say? Cryptocurrencies Are Not Currencies
A Modern Monetary Theory (MMT) Perspective on Crypto, Currency, and Inflation
MMT Economics - What you will learn:
Why cryptocurrencies are not actually currencies; why government money is not backed by trust but by law and tax obligations; why crypto is better understood as a real asset like gold or oil; why “printing money” does not mechanically cause inflation; why inflation arises from real resource constraints, not government deficits; and how an MMT perspective clarifies common misconceptions about money and value.
Technical Terms/Jargon Used in This Article
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A Modern Monetary Theory (MMT) Perspective on Crypto, Currency, and Inflation
In this post my intention is to provide a short critique of cryptocurrencies from an MMT perspective. This is not a thorough description of all aspects of cryptocurrencies (or MMT for that matter) or indeed a full critique of the claims made by crypto creators. Instead, I stick to those aspects that I feel an MMT perspective has something to add to the narrative.
The Cryptocurrency Story
The original cryptocurrency, Bitcoin was created in 2009 as a response to the 2008 financial crisis. The two main aims of Bitcoin were: to prevent devaluation of the currency resulting from governments ‘printing money’ (their words) and to provide a decentralised system that allows individuals to manage their money outside of the control of banks and the state.
What are cryptocurrencies?
Cryptocurrencies are ‘digital tokens’ - held in online accounts called wallets – secured by a technology called blockchain. Blockchain technology provides a means of recording transactions on a shared public ledger in a way that is hard to tamper with, and - in theory - independent of any central authority. The Reserve Bank of Australia describes cryptocurrencies in the following way.
“Cryptocurrencies are digital tokens. They are a type of digital currency that allows people to make payments directly to each other through an online system. Cryptocurrencies have no legislated or intrinsic value; they are simply worth what people are willing to pay for them in the market.” (Reserve Bank of Australia) - Thanks to economist Steven Hail for sourcing this quote.
Supporters view crypto as a revolutionary approach to the management of money as it means there are no middlemen (and the associated fees), no banks (and the control they exert on their customers’ money) and no governments (to ‘inflate away the value of citizens’ money’). From the founders’ perspective crypto solves the following main problems:
Bitcoin replaces trust in currency issuing governments with technology. Fiat currencies are inherently unstable because their value comes from government decree and public trust, not from any tangible asset.
When governments “print money” they devalue it. Therefore, Bitcoin’s supply is capped to a finite amount of coins (21 million) on the belief that limiting the amount makes the ‘currency’ a more reliable store of value.
Transactions can be faster and cheaper across borders, avoiding banks and their fees. And these transactions - as they are enacted via blockchain technology - will be more secure.
Crypto gives individuals more privacy and control over their money.
In this post I will concentrate on the first two points: that government currencies are merely based on trust and on the idea that cryptocurrencies are more reliable than governments - who ‘print money’ and, therefore, devalue the currency.
“In an increasingly volatile world, cryptocurrencies like Bitcoin purport to replace trust with technology. Indeed, Bitcoin founder, Satoshi Nakamoto described Bitcoin as an ‘electronic payment system based on cryptographic proof instead of trust, allowing any two willing parties to transact directly with each other without the need for a trusted third party.’” Cryptocurrency and the Myth of the Trustless Transaction Rebecca M. Bratspies CUNY School of Law - Michigan Technology Law Review
If you have any questions or if you disagree with anything I write in this article, I want to hear from you. Please add your comments in the discussion area. Contrary views are welcome.
The MMT Story
If you have found this post because you are interested in cryptocurrencies you may not be aware of MMT. So, with that in mind, for the uninitiated, here is a very, very short description.
MMT is at its simplest, a study of modern monetary systems: how they developed originally and how they work today. MMT uses its findings to point out that currency issuing governments like the US and the UK are not - in relation to managing their finances - like households. That is, that they can only spend what they bring in from taxes or other income.
The orthodox story is that the government spending money is sourced from the private sector, i.e. taxpayers finance the activities of government. MMT points out that this story is not only backward but logically impossible: as the private sector is incapable of generating net new money. Commercial bank loans are, as the name suggests, ‘loans’ and loans have to be paid back. Commercial banks add no net new money to the economy: deposits are private IOUs, not the addition of net financial assets for the private sector.
Only the government has the power to issue net new money. As I point out in my article, ‘The Logical Impossibility of Neoliberal Economists’ Tax First, Spend Later Mantra’, ‘without a net injection of new money (either by the state or from net positive earnings from foreign sector sales) modern economies literally don’t work.’
Therefore, MMT advocates point out that the limits to government spending is not finance but the availability of resources, i.e. resources available to be purchased in the government’s currency.
It is axiomatic to say that currency issuing governments can never run out of something they themselves issue. However, although resources are ultimately finite - inflation is about the availability of real productive capacity at a given time.
Is it true to say that ‘Fiat currencies are inherently unstable because their value comes from government decree and public trust, not from any tangible asset.’?
In relation to cryptocurrencies the most pertinent point of the MMT story (a point made by economist Georg Friedrich Knapp’s and adopted by MMT) is that the value of a government’s currency is backed up by the legal system and by the fact that citizens pay their taxes in this currency. That is, it is not based on trust.
Government currencies are backed by the law and by citizens who need to pay their taxes in that currency
This leads me to my first point, which is a refutation of the idea that ‘trust’ is the weak link at the core of fiat currencies. This point is made clearly by MMT economist Steven Hail.
“Bitcoin enthusiasts get this precisely the wrong way around when they discuss the importance of trust when it comes to currency valuation. They say that Fiat currencies like the US dollar or the Australian dollar have a value which is entirely based on trust in the good name of the issuing authority by which they mean the Central Bank from which the currency has come. We know by now that's not true. Currencies issued by governments and their central banks have a value as that which is necessary to pay taxes so they're backed up by the legal system they're backed up by enforceable contracts but particularly their value is guaranteed to an extent by the fact that our taxes are assessed in terms of those currencies and we require those currencies in order to pay our federal taxes if we don't want to go to prison.” MMT Economist Steven Hail
As Steven Hail points out crypto currency advocates have it ‘the wrong way around’. Government currencies are not backed by trust but by the legal system and the fact that individuals cannot do without the governments’ currency - because they need that currency to pay their taxes.
MMT tells us that cryptocurrencies are not currencies
MMT points out that crypto ‘currencies’ are not currencies at all. They can be more accurately described as ‘real assets’ (or if you prefer, virtual real assets), i.e. they are more akin to speculative assets such as gold, or silver or oil or wheat or any other tradeable asset.
From an MMT perspective, to be called a financial asset, that asset must always be someone else’s liability, i.e. my bank deposit is the bank’s liability; reserves are the central bank’s liability; the state currency is a liability of the government. It is that duality: my asset is your liability that anchors its value in a set of enforceable obligations.
However, no institution is obliged to redeem a crypto digital token. Cryptocurrencies are not currencies:
They are no one’s financial liability.
They cannot be used to pay taxes.
Their value is not anchored by government or the legal system.
And they do not function as the default ‘unit of account’ in the economy. That is, they are not used to measure the value of wages, prices, debts, and taxes: which are all set in thr government currency.
The value of crypto ‘currencies’ is based on the faith of those who hold them
The government’s currency has its value backed by the state (for the reason I mentioned earlier), the value of crypto currency, on the other hand, is determined by the faith of those who hold them. I.e. demand is sustained by belief and market dynamics, not by any binding obligation.
Although there is no limit to the value of a single crypto token - that value can also fall to zero. Demand and supply - driven by belief - is what determines the value of a single crypto token.
"And remember, if you decide to invest in crypto then you should be prepared to lose all the money you have invested.” Financial Conduct Authority – Crypto: The basics
Do government ‘print money’ and devalue the currency?
Ok, let’s look at the assertion that cryptocurrencies solve the problem of inflation; because as the founders of Bitcoin assert, when governments “print money” they devalue it, thus undermining the value of citizens’ savings.
The idea that “printing money causes inflation” is a restatement of the monetarist view that “inflation is always and everywhere a monetary phenomenon” (Milton Friedman’s phrase).
This assertion has, however, been debunked; due both to the failure of government attempts to control the money supply (when economist Milton Friedmans’ monetarism was driving government policy decisions) - and by a clearer understanding of how the monetary system works in practice. That is, that the money supply is primarily controlled by commercial banks – due to the greater or lesser demand for loans during the different phases of the business cycle.
Inflation is not a direct result of government spending: spending is only one side of the demand/supply equation. Even if we ignore the idea that many periods of inflation have been caused by supply-side factors (Warren Mosler points out that since WWII energy price shocks have been the main driver of many of our inflation episodes) - inflation is caused by the combined spending of government and private sector butting up against a limited supply of resources.
So, government spending is part of the story but it is not the most important part, the most important part is the availability (or otherwise) of real resources – workers, materials, energy – to meet demand. In other words, inflation only arises when spending outpaces the real resources available.
Besides, governments don’t ‘print money’, they spend on goods and services based on the decisions of the politicians who have been voted into office (I’m referring to currency issuing governments such as he US and UK). And governments do not only make payments into the economy – they also remove money from the economy when they tax. MMT points out that taxation not only validates the governments currency - but provides a policy for the management of demand-side inflation.
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In conclusion: cryptocurrencies are real assets not currencies and government spending does not devalue the currency
In this short post I have covered,and argued against the two main points most pertinent to the MMT understanding of the monetary system: the idea that cryptocurrencies are real assets not currencies and the idea that inflation is not mechanically caused by government spending or ‘printing money’ but by real resource constraints (capacity, supply chains, energy prices, etc.)
I have not touched upon more general points, which could be part of a longer article relating to crypto.
Although distributed record-keeping is based on decentralised technology, the administration of that technology has tended to be concentrated in a small number of actors.
Cryptocurrencies have not proven to be a more secure and reliable way to manage transactions (fraud and hacking incidents are commonplace) than the current monetary system.
And the cryptocurrency ecosystem has a negative impact on the environment due to the huge amount of electricity it consumes (crypto mining, particularly for Bitcoin, consumes more electricity each year than some entire countries);
Although I have not covered that third bullet point in this post, the MMT approach is relevant. MMT points out the importance of real resources (and in the big picture - recognises that the earth’s resources are finite) and points out that currency-issuing governments do indeed have the finance available to help mitigate environmental damage.
“Recent years have seen the rise of cryptocurrencies, with words like “Bitcoin,” “Ethereum”, and “Dogecoin” entering common parlance and appearing as pop-culture references. But the popularity of cryptocurrencies has also seen an exponential rise in crypto exchange hacks.” Kspersky – Biggest Crypto Exchange Hacks: How to Make Sure You Protect Your Crypto Against Hacks
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If you have any questions or if you disagree with anything I write in this article, I want to hear from you. Please add your comments in the discussion area. Contrary views are welcome.
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Thanks for your efforts.
I would humbly add our modern phenomenon of exploitation of crises (manufactured or real) and the effects of monopolization (greedflation) as substantial factors in overall inflation beyond simply the actual availability of materials in comparison to money supply.
The failure to understand the monopolization and consolidation aspects has, IMHO, led us (both in US and UK) into our current dilemma. It’s partially a media failure and partially a result of intentional (and, unfortunately, highly effective) propaganda campaigns.
Thanks again. All the best.
This is a fantastic and much-needed perspective. You've perfectly articulated why, through the lens of Modern Monetary Theory, cryptocurrencies fall short of the fundamental definition of a currency.
Focusing on the role of the sovereign issuer and the power to tax as the source of a currency's value makes the argument so much clearer than just talking about volatility or adoption. It cuts to the core of what money actually is in the modern world.