Book Review: The Deficit Myth, by Stephanie Kelton

Joel Cawley
7 min readSep 15, 2020

I’m asked all the time what I think about Modern Monetary Theory (MMT) which is the subject of this important new book written by the economist, Professor Stephanie Kelton. My answer usually goes something like this:

“Somewhere in the future, say ten or twenty years from now, a host of Nobel Prizes will be awarded to the people who ushered in a complete new conceptual framework for the management of the economy — a new economic paradigm. MMT will be an integral element of that new paradigm. Unfortunately, it’s not quite ready for prime time.”

I’ll now add: “And, you should really read this new book, The Deficit Myth.

I first encountered MMT many years ago and, frankly, scoffed at it. I thought it was silly. It just seemed like an assertion that anyone who controls printing money can print it whenever they want and in any quantity they need. That seemed obviously true, but equally obviously irrelevant to any responsible management of the economy.

But, I kept running into it and eventually decided I needed to dig in, do my homework, and figure out what it was really all about. I read dozens of papers and articles and watched numerous academic talks given by Prof. Kelton and her colleagues, along with their often contentious debates with critics. I eventually got comfortable that I understood its central truth and could see its limits and open questions. I’m happy to say that, thanks to this relatively short and highly readable book, you can skip all my drudgery. If you want to be informed about the economic policy debates we will see in the next few years you owe it to yourself to read and contemplate what Prof. Kelton and her colleagues have come to realize.

In the introduction to The Deficit Myth Kelton draws an analogy to the paradigm shift in our understanding of the cosmos brought on by Copernicus and his followers. The idea that the earth rotates around the sun instead of the empirically “obvious” observation of the opposite, was publicly greeted with the same sort of scorn I and others have felt when we originally encounter MMT. That’s what always happens when a true paradigm shift comes along.

In the case of MMT, the equivalent perceptual shift is described in chapter one of The Deficit Myth. Just as everyone before Copernicus assumed the sun revolved around the earth, because that’s what they saw with their own eyes every day, we all tend to assume that government budgets work just like ours, because that’s what we see every day. But, at least for governments that control their own currency, that’s just not correct. We think that governments must first raise money through taxes or the issuance of bonds before that money can be spent. After all, that’s how our budgets work. However, it turns out not to be true. Government spending is decided by policy makers and then simply carried out by the Treasury and Federal Reserve. There’s no real connection to tax collections at all.

We do have a policy that says whenever there’s a delta between spending and tax collections we should issue Treasury Bills in an amount that matches that delta. But, that’s just a policy, a law we put on the books. It’s not anything real in the sense that some higher power forces that process. It’s a political choice, not a natural or economic law.

Like Copernicus, MMT is based on empirical observations. It is a description of reality. However, also like Copernicus, those observations aren’t readily accessible to the everyday observer. Its only really observable by people who have plumbed the arcane details of treasury and banking operations. Therein lies part of the challenge in the dissemination of this insight.

I often tell people MMT is misnamed, because it really isn’t a “theory.” It’s an observation of how the world actually works that flies in the face of all the existing theories. As an intellectual matter, it’s actually existing theory that ought to be on the defensive. Those theories don’t fit the observed facts. Early in my explorations of this topic I ran across a comment that said anyone who thinks they understand money hasn’t spent any real time studying the subject. That was true of me at the time, and, the more I have studied the subject, the more layers of truth I find in that simple assertion. In some ways, that’s my greatest criticism of MMT. It’s lacking a strong theoretical framework to replace the existing ones that it has proven to be incorrect.

Staying with the Copernican analogy, the same thing was true in his time. It wasn’t until Newton developed his laws of motion and gravity that a theoretical framework was developed that matched the observations assembled by Copernicus and the many seminal figures who followed him.

This is where my “…not ready for prime time” comment comes into the picture. What MMT asserts is that the “deficit” calculated by subtracting taxes from spending, isn’t what limits our choices about what we want to do. The real limit comes, not from that simple mathematical exercise, but from the real limits on the capacity of the economy to absorb new real activities.

Nobody has any idea what those limits are, nor how to measure or manage them. So, economists assert the evidence we’ve exceeded those limits comes in the form of inflation. We know inflation is a real thing, and a dangerous one at that, so we then say the real limits are the avoidance of inflation. Unfortunately, we must then acknowledge that while we know inflation is a real thing we don’t really know what causes it. There are whole libraries written on the subject and there are many who assume they understand it perfectly. But, they’re wrong. Go find the correct wings of that putative library and you’ll find mountains of counter factual evidence to every theory in an alternate wing.

Professor Kelton doesn’t dodge this at all. She openly admits we don’t understand inflation even though that’s what we need to manage. This is where we really encounter “not ready for prime time.” It is useful to be able to forcefully reject the “how do you pay for it” nonsense, but at some point, we need a practical, workable means of managing the economy. Thanks to the work of these MMT pioneers we now know that deficits are not the right tool, but it doesn’t tell us what should replace it.

In the meantime, since we know deficits are a red-herring, and have no alternate tool, we need a major reset on how we discuss various policy proposals. We need to focus on the limits that are real… which are the real limits, not the economic fictions. These discussions ought to be guided by observations of the real economy not the fictitious theoretical overlays that dominate most public discourse. We’ve pumped trillions and trillions of dollars into the economy with no sign of any significant inflation. Every pundit who arrogantly asserted those policies would trigger inflation has been wrong. Every single one. Their theoretical framework is bankrupt, both based on the empiricism of MMT and the failures of their models to accurately predict the future.

Stephanie Kelton is under no illusion that there are “no limits” and neither am I. There are. We just don’t know where those boundaries are and it’s abundantly clear from the events of the last decade that we’re nowhere near the real danger zone.

In my fictitious library of works on inflation there’s an entire wing named for one of its chief theorists, Milton Friedman. There’s a plaque over the doorway to that wing that says, “Inflation is always a monetary phenomenon caused by too much money chasing too few goods and services.” There are lots of problems down that particular corridor, but I’ve always felt that plaque offered a useful compass.

Here’s the interesting thing. If congress decides to build a field of wind turbines to generate electricity and allocates… spends… prints a billion dollars for the project, that money “chases” exactly a billion dollars of immediate goods and services. And, it then generates far more than that in downstream economic activity. Good old Milton might spin in his grave, but that means it’s almost impossible for direct government investment in the economy to generate inflation — even on his own terms.

The objection, one even Prof Kelton might fall into, is that if that project creates “excess” resource competition in the economy, if we’re at the real limits, then it will generate inflation as the private sector is forced to bid against the public for those resources. But, if that were truly the case, then if Citibank decided to fund a project to build the wind turbines they would trigger inflation. And, since the banking industry pumps far more money into the economy than the public sector, it implies we need to limit, place inflation controls on, the banking industry. Everyone, and I mean everyone, knows that’s the opposite of what we need.

So, yes there are limits. But we don’t know where they are and right now we need to realize we live in a time of plenty, not scarcity. The envelope of things we can do is far, far greater than we realize. It’s time we got up off the couch and started flexing all those muscles. Stephanie Kelton and her MMT colleagues have opened a window into the possible. It’s time we went exploring.



Joel Cawley

After 20 years as IBM VP of Corp Strategy Mr. Cawley retired in 2016 and now spends his time consulting and writing on business, economics and politics.