Modern Monetary Theory

MMT reinforces some valuable lessons, including that fears over government debt and deficits are often overblown – especially during major economic downturns.
But there are problems with this approach in terms of trusting government to not stoke inflation or crowd out the private sector in the face of the temptations of ever-expanding government.
These are big asks.

I can’t believe it, but Twitter actually taught me something new. It’s not just about fighting with strangers.

Recently I came across a ‘new’ idea in economics called ‘Modern Monetary Theory’ or MMT. As it turns out, it’s actually not particularly new. But it does offer some useful insights into the relationship between government debt, inflation and taxes.

Granted, I only really encountered the idea recently, so I’m sure I’ll be missing or overlooking certain aspects of it. But here is my understanding.

I suppose the main conclusion of MMT is that concerns about government debt and deficits are overblown. MMT asserts that for a country that has its own currency (e.g. Australia, US, UK, etc, but not countries like Greece), there is technically no limit to the amount of money a government can spend. Even if the rest of the world no longer wants to lend money to that government (or for some reason, they start charging a much higher interest rate on that country’s debt), the central bank can hold all the government’s debt – it’s their money, they create it, they can create and spend as much as they want.

Not only does this mean a government can always ensure their economy runs at full employment. Technically, it also means a government that has its own currency can never go broke.

I know, I know, I had the same reaction – “hang on, a government can’t just print whatever money it wants, it’ll spark inflation!”

Correct. That’s why MMT advocates taxes – not as a means for the government to *afford* what it spends, but as a way of shrinking the private sector enough to *accommodate* that government expenditure without sparking inflation[1].

And this reveals what I think is the critical insight of MMT – a government’s budget is not limited to how much it *taxes*. It is limited to how much the economy can *handle*. This still means tax revenue and government spending will approximately coincide. Generally, every dollar the government spends, it has to tax from the private sector so as to not spark inflation. But not always precisely equal.

During a recession for example, the private sector has already retreated. Government spending will not crowd out the private sector – in fact, by supporting economic activity and private sector confidence, government spending in this case will actually crowd *in* the private sector.

And it can do this simply by borrowing money (either from people, businesses, other countries or just their own central bank printing press) – no additional taxes needed to be raised in the short term.

Now, once the economy is back on a solid footing, this extra money in the system can cause problems. Once the private sector recovers, that extra money may be too much for the economy to handle. So … the government has to gradually withdraw it from the system in taxes to keep inflation down.

So there will be a long run close correlation between government spending and taxes – but it doesn’t have to be exact. Which means any debt that happens to be accumulated during this process is, by definition, not a problem. If it doesn’t spark inflation, and it doesn’t crowd out the private sector, it is perfectly acceptable.

So essentially, MMT advocates allowing governments to print whatever money they want/need to finance their expenditures, as long as they correspondingly shrink the private sector with taxes in order to manage inflation. And any money they happen to borrow in order to achieve this – especially if it’s from their own central bank – is irrelevant. It’s their money.

There are useful insights here. First, it destroys the analogy of the government budget being like a household budget – that governments need to ‘live within their means’ like any household. Households are currency-users, not currency-creators, so for that reason alone, it’s not a valid analogy. A government ‘living within its means’ relates not to how much money it ‘earns’ in taxes, but how much the economy can handle (even though the two roughly coincide).

Second, it reinforces the traditional Keynesian idea of government stimulus during an economic downturn. Not only does this kind of stimulus help prevent the kind of human costs and hardships we saw during recent European austerity, and back in the Great Depression. It also gets the economy back on a solid footing sooner, allowing government tax revenues to recover sooner, thereby managing government debt levels sooner. So even if your only concern is debt, stimulus, not austerity, during a downturn is the way to go.

And MMT adds another piece to this argument – the government won’t go broke if it has its own currency. Again, this doesn’t apply to countries like Greece, but it does to countries like the US, who also got caught up in ill-advised austerity following the GFC. Even ignoring MMT, government debt is always manageable if the interest rate on that debt is lower than the country’s economic growth rate – which has almost consistently been the case for the US, especially over the longer term.

There’s also almost no concern of inflation during a major downturn – so the government can just print and spend for much longer than usual without sparking inflation because the private sector has already retreated. No additional taxes required (at least in the short term).

Now for my concerns …

In the end, MMT is advocating for giving government, rather than an independent central bank, greater control over the printing press.

And it’s not as though we haven’t seen what happens when we’ve done this in the past. Governments always have an incentive to print and spend more. And they’ve often not correspondingly increased taxes sufficiently to avoid massive inflation.

Trusting a government to frequently review tax policy – and change it – in response to inflationary fears, is a much bigger ask than for a central bank. Not just because of their incentives to drop taxes and increase spending, but because the administrative logistics of changing taxes are far more onerous than changing interest rates.

But even if we assume a government can adjust taxes effectively enough in response to their own spending and consequent inflationary pressures, there is still the problem of a continually-expanding government.

If a government always has the incentive to spend more, and manages to tax more to keep inflation down, this means the private sector has to keep getting smaller and smaller to accommodate a larger and larger government.

This raises at least a couple of concerns.

One, government is generally less efficient than the private sector. So a government that crowds out private activity will make the economy as a whole less innovative, less productive/efficient and more prone to crises.

Second, there is simply the matter of personal liberty – the right for an individual to choose how to best spend their own money for their own personal benefit, rather than trusting a government to know what is best *for* them and spend accordingly. This doesn’t override the entire need for government, but it does put a limit on how much we should expect or allow governments to do. Personal liberty should not be *entirely* sacrificed under the guise of the greater good.

So can MMT inform current policy in a way that avoids the above concerns?

In short, don’t give additional power to the government. An independent central bank-type entity should still be in charge of managing the economy, and enforcing at least some fiscal prudence on the government.

I’ve written before about the potential value of an independent fiscal body that picks the best infrastructure projects to undertake, and decides when to undertake them. This way, politicians don’t end up picking politically-convenient projects with limited economic value. And their construction is timed consistent with the business cycle.

And the central bank should remain in charge of interest rate policy and (if not some other independent body like Australia’s APRA) financial system stability.

This way, during a boom, the central bank can cool the economy with higher interest rates and the independent fiscal body can slow down the infrastructure activity.

And during a downturn, if the central bank’s interest rate policy can’t provide enough stimulus (i.e. interest rates are at zero and the economy is still sluggish, as was the case in the US and EU following the GFC), then the independent fiscal body can borrow up big (either from their own people and businesses, the rest of the world, or just from their own central bank) and speed up their infrastructure investment activity.

Any debt that is accrued should not be a concern, as long as it doesn’t over-stoke inflation and crowd out the private sector (which are virtually non-issues during a major downturn). Even if your only concern is debt (which as we’ve discussed for a country with its own currency, it shouldn’t be), stimulus during a downturn is better than austerity.

This action of using fiscal policy to complement monetary policy (rather than replace it, as MMT seems to advocate) can help manage economic downturns with far greater effect, without risking the long-term problems of an ever-expanding government.

It also doesn’t risk a central bank’s credibility being undermined by the threat of political incentives – which can make their job much harder to undertake.

So MMT does seem to have something to offer. But we mustn’t forget the lessons of history. Political incentives are not always consistent with economic realities.

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[1] There are other mechanisms, such as interest rates, credit rationing, etc. that could shrink the private sector instead of (or in conjunction with) taxes. But for now, we’ll just focus on taxes doing the job, which is what many MMTers recommend.

It's time for an intervention.

State governments are addicted to stamp duty.

Here's a link to a brief I helped write for the Housing Industry Association.

US Hawks vs NZ Doves.

Here is a link to a brief that I wrote for the Housing Industry Association. Below is an extended version.

New Zealand’s apparent willingness to accept higher inflation than the US could come in handy in the next downturn.

Terminology time! An inflation ‘hawk’ is a person who is more worried about inflation getting too high. An inflation ‘dove’ is someone more worried about inflation getting too low.

The US and New Zealand demonstrate both these positions quite well.

The US is increasing interest rates while inflation barely touches their target of 2%. Understandable – they slashed interest rates so dramatically in the GFC and have remained so low for so long that they’re no doubt eager to bring them back up, lest they spur some unintended imbalances, like an over-inflated stock market or housing bubble. Still though, hawkish.

In NZ however, recent economic data is pointing to strength – stronger economic growth, decade-low unemployment now at just 3.9%, and employment and inflation expected to overshoot their targets on a sustained basis. Inflation is still currently in the middle of their 1-3% target, but given this strong data, you’d think they’d upgrade their intentions for future interest rates rises. On the contrary, they’re being quite dovish about it. They’re intent on keeping interest rates where they are until mid-2020 (the same intention they had before this new stronger data came out).

As Westpac’s Dominick Stephens said:

“RBNZ recognises that inflation pressures have built. The inflation forecast was lifted, upside risks to inflation were emphasised more heavily, and rising inflation was discussed up front in the document. Intriguingly, the forecast was for inflation to rise above [their target] 2% in the medium term. [But] RBNZ has declined to alter its [cash rate] forecast … They’re choosing higher inflation rather than a higher [cash rate]”.

There has been commentary for several years, including from Nobel Prize-winning economist Paul Krugman, that advanced economy central banks may have set their inflation targets too low – the US and UK at 2%, the EU under 2%, Australia 2-3%, NZ 1-3%. Again, understandable. They were set in the 1990s, with the high inflation of the 1970s and 80s still fresh in policymakers’ minds. So they were extra keen to keep inflation under control, and believed a 1-3% buffer above zero would be enough to prevent self-fulfilling deflation during any downturn (which can actually be just as bad and just as hard to fix as high inflation – if not more so).

The GFC however, demonstrated that inflation can indeed, still get too close to zero – and lower. Current inflation buffers have not negated the dreaded ‘liquidity trap’, where central banks have already dropped interest rates to zero but, because of inadequate inflation, real interest rates (the gap between interest rates and inflation) are still not low enough, making monetary policy impotent to help recover the economy. Consequently, many advanced economies undershot their inflation targets for most of the last decade. It turns out, even getting close to deflation – let alone actually achieving it – can be hard to reverse.

If however, inflation targets were increased to, say, 3-5%, that would provide a bigger buffer, without inflation getting out of control. Another way to look at it is that the risks of central bank policy are asymmetric: the costs of allowing inflation to venture a little too high right now are far smaller than the risks of increasing interest rates too fast and driving the economy back into a liquidity trap or worse, a deflationary spiral.

Perhaps this is what NZ’s central bank is thinking – an upwards reset of their 1-3% target so they have more inflationary ammunition in the next downturn.

Take the following hypothetical example of what NZ and the US could be facing soon.

 

The US is raising interest rates rapidly to keep their inflation rate no higher than 2%. NZ however, is raising their interest rates more slowly, willing to accept higher inflation of, say, 4%. This means that the real interest rate remains much lower in NZ, actually below zero and declining for most of this period – much more stimulatory for the economy. Therefore, in almost two years, inflation is much higher in NZ and interest rates much lower; and in the US, inflation is much lower and interest rates much higher.

Then in two years, where I have assumed a significant global downturn, both the US and NZ drop their interest rates back down to zero. It would appear the US is in a better position – they were able to drop rates a full 5%, NZ only 2.25%. NZ however, had a much higher inflation rate beforehand that only falls to 2%, whereas the US’s 2% inflation rate falls back to 0%. Which means upon the downturn, NZ’s real interest rate becomes -2% and the US’s just 0%.

This would leave the US dealing with a ‘liquidity trap’ situation. Whereas in NZ, investment would still be preferable to holding cash, so ongoing investment in NZ would act to stabilise the economy during the downturn. In the US, the prospect of deflation would create a disincentive to invest[1] and the lack of investment would be an additional headwind exacerbating the downturn.

So even though the US can drop interest rates more dramatically upon the downturn, NZ is able to achieve a lower real interest rate (even though it barely decreased in the last month) and therefore, undertake stronger stimulus – because they allowed their inflation rate to rise further beforehand, rather than rushing to increase interest rates.

While these numbers are somewhat arbitrary, it does illustrate that it’s not the size of the interest rate cut you have up your sleeve. It’s the stimulatory effect of your interest rate position after the cut has been made – the real interest rate. 0% interest rates with 2% inflation is more stimulatory than 0% interest rates with 0% inflation. Furthermore, in the former case of 2% inflation, people are also less worried about self-fulfilling deflation[2].

The implications if Australia’s Reserve Bank similarly chose to run the economy hotter for longer are clear for the housing industry. Lower interest rates for longer will support mortgage holders and investors alike, thereby supporting one of Australia’s most significant industries, even in the face of the current housing downturn.

I know all of this sounds like a bit hypothetical and abstract. But remember, psychology is very important in economics. The perception of being too close to deflationary territory can, all by itself, cause an economy to fall into deflationary territory. And the housing industry, through the mortgage market, can be the hardest hit in such an event. That’s why an arbitrary buffer sufficiently above 0% inflation is so important. Because perception very much becomes reality.

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[1] Not just business investment in things like property, buildings, equipment, machinery and staff, but also household investment in property, appliances, furniture, vehicles, etc. Even government, upon the deflationary expectation that things will be cheaper (or at least not much more expensive) in the future, may be tempted to put off major infrastructure investments.

[2] And as for the unintended consequences of prolonged low interest rates, like financial instability – interest rates are not a good tool for reigning in asset markets, especially if they are running in the opposite direction to the real economy (as was the case in Australia until recently with booming housing markets). This is more a job of macro-prudential regulation and oversight, by the central bank and/or other regulators (like APRA and ASIC in Australia). Interest rates should be the tool used to manage the real – not financial – economy.

The hangover.

As predicted, US soybean exports surged last quarter in an effort to beat Chinese retaliation to Trump’s trade war (artificially inflating economic growth figures), and have now plummeted 97% as a result.

China is weaning themselves off US soybeans, consistent with the broader global trend away from the US.

Combined with the ongoing drag of Trump’s trade war and the inevitable weakening of the impact of Trump’s spending spree, the US’s current binge can’t go on much longer. The hangover is coming.

Sayonara, America!

Just as predicted, while Trump continues his trade war, the rest of the world continues to move on without him.

This time … fierce rivals China and Japan.

China, Japan Vow to Cooperate as Trump Hits Both on Trade
By Isabel Reynolds and Emi Nobuhiro
‎26‎ ‎October‎ ‎2018‎ ‎12‎:‎50‎ ‎PM‎ ‎AEDT Updated on ‎26‎ ‎October‎ ‎2018‎ ‎11‎:‎07‎ ‎PM‎ ‎AEDT

China and Japan capped a restoration of ties with agreements on everything from currency swaps to ocean rescue Friday, a thaw that comes as President Donald Trump seeks better trade terms with both nations.

Shinzo Abe became the first Japanese prime minister to pay an official visit to China in seven years, as Asia’s two largest economies sought to play down disagreements that have hindered relations for decades. They both reiterated support for free trade and called for the early conclusion of a regional trade pact with 16 Asia-Pacific nations that doesn’t include the U.S.

After Abe and Chinese Premier Li Keqiang commemorated the 40th anniversary of a peace and friendship treaty on Thursday, the two held formal talks on Friday and oversaw the signing of cooperation agreements between the two governments. Abe then met and dined with President Xi Jinping, marking a new high point for a relationship he has long sought to mend.

At that meeting, Xi said the two countries are becoming increasingly interdependent and that they should be partners rather than threats to each other, according to a Japanese official. He also said China’s Belt and Road initiative provides a platform for cooperation and that the nations will adhere to free trade and face global challenges together.

Abe was accompanied to China by foreign and trade ministers and a 500-strong business delegation. The two sides signed 50 cooperation agreements, including reviving a 200 billion yuan ($29 billion) currency-swap deal. The neighbors also agreed to discuss establishing a clearing bank for offshore yuan and cooperation between Japan’s Financial Services Agency and the China Securities

“China is willing to work together with Japan to take Sino-Japanese relations back to a normal track, maintaining stable, sustainable and healthy development and making new progress,” Li said during an appearance with Abe on Friday. Both sides believed that stable relations were important and that they should take “concrete measures” to become cooperative partners, he said.

Japan’s relations with its biggest trading partner turned hostile in 2012, when it nationalized part of a disputed East China Sea island chain, sparking sometimes violent protests and damaging business ties. Since taking office at the end of that year, Abe has consistently sought meetings with Chinese leaders, even as anger simmered over the territorial and other disputes.

Abe said he sought frank talks with Xi and Li covering North Korea and trade issues. The two sides also agreed to cooperate on search-and-rescue operations at sea, and assist each other in developing health care and elderly care services.

In a speech to a business forum on Friday, Abe harked back to Japan’s role in providing aid and private sector investment from the 1980s that helped turn China into an economic powerhouse.

“The Japanese government and companies invested and worked with the Chinese people toward modernization,” he said. “Seeing how China has developed is a source of pride for Japan as well.”

The thorniest issues between the two sides had so far received little mention. There were no immediate agreements on how to handle the territorial dispute, or the issue of gas resources around the disputed sea border between their exclusive economic zones.

“The difficult issues are going to stay,” said Akio Takahara, a professor at the University of Tokyo, adding that he expected relations to remain cordial at least until Xi visits Japan, which he is expected to do for the Group of 20 summit in Osaka next year.

“The Chinese Communist Party always has this history card against Japan in their pocket,” Takahara said. “Whenever they feel the need to take it out, I’m sure they will do that.”

What do you do when your argument can't stand on its own?

Interesting article by Catherine Rampell about how Republicans, instead of attempting to defend their policies on their own merit, are simply lying about what they want to achieve. With regard to health care for example, Republicans have long desired (and attempted) Obamacare’s destruction. But instead of trying to justify this position, they actually claim they’re trying to do the exact opposite:

“For instance, they might argue that in their ideal capitalist society, it’s not government’s job to shield Americans from the financial risks of serious health conditions. Every man (or woman) is an island, responsible for his or her own health care. If expensive illnesses befall some unlucky members of society, and they lacked the foresight or haven’t saved enough to plan for this risk on their own, then too bad. Life ain’t fair.” Catherine Rampell

But instead of doing this, Republicans still maintain that they want to do things like protect those with pre-existing conditions, despite continued efforts to the contrary.

I made essentially the same point about Trumpcare last September.

“If Republicans actually justified Trumpcare by saying that health care is not the role of government, but the responsibility of the individual, and that the risk of sickness, bankruptcy and death that comes from this is the inevitable price we should pay for our 'freedom', then I could respect it.

I wouldn't agree with it. Both socially and economically, public health care makes sense. But at least their policy narrative would be consistent with their ideology. 

But from beginning to end, Republicans have claimed that Trumpcare will provide BETTER health care to MORE people at LOWER cost, when so much evidence (including the CBO and the insurance industry itself) seems to suggest WORSE, LESS and HIGHER. 

So are they being dishonest about their ideology or ignorant about their policy?”

Catherine Rampell thinks the former.

Republicans are mischaracterizing nearly all their major policies. Why?
By Catherine Rampell
October 25 at 6:45 PM 

Republicans have mischaracterized just about every major policy on their agenda. The question is why. If they genuinely believe their policies are correct, why not defend them on the merits?

Consider the GOP tax cuts. Last year, Republicans said their bill would primarily benefit the middle class, pay for itself and raise President Trump’s taxes, among other claims.

Not one of these contentions is remotely true.

A more honest defense — and one occasionally revealed via accidentally-told-the-truth Kinsley gaffes — might have been something like: We want to let rich people keep more of their money, regardless of the cost to Uncle Sam. We want this both because we (unlike most of the public) think that’s fair, and also because our donors are demanding a return on their investment in us. Plus, maybe it’s a good thing to reduce government revenue; that gives us motivation to “starve the beast” and cut the safety net, which we think is a drag on the economy that protects people from the consequences of their poor life choices.

Likewise with family separations, a policy Trump is considering reviving.

In the spring, the administration systematically ripped immigrant children from their mothers’ breasts with no plan for tracking where they ended up or how to reunite these families. The rationale, as gaffingly revealed by White House Chief of Staff John F. Kelly, was that such cruelty would deter asylum seekers.

But when voters recoiled, the administration explained things differently. Officials alternately lied that the policy was designed to help children, was actually a Democratic policy or didn’t exist at all.

Lately, the biggest GOP lies involve health care — the top midterm issue for voters — and especially how Republicans would treat Americans with costly medical issues.

The public has had ample opportunity to learn where Republicans stand on protections for those with preexisting conditions. The party spent the past eight years, after all, trying to repeal the Affordable Care Act, including these particular (very popular) provisions.

And while Republicans failed to repeal Obamacare legislatively, they’ve found other means to undermine its protections.

For instance, the Trump administration has expanded the availability of junk insurance. These cheap plans look like regular insurance but actually cover little to no care, something you would notice only if you read the fine print. Such policies are not required to accept enrollees with preexisting conditions or to pay claims related to preexisting conditions — even if the preexisting illness hadn’t even been diagnosed at the time of enrollment.

These policies threaten coverage another way, too. Because they siphon young, cheap and healthy people off the Obamacare exchanges, they drive up prices on (real) insurance and thereby put coverage further out of reach for people who are sicker and older.

On Monday, the administration issued new regulatory guidance that will effectively allow states to nudge more people into these junk plans. And that’s just one of many measures the administration has taken that will destabilize the individual marketplaces and jack up unsubsidized premiums for people with preexisting conditions.

There’s clearly appetite among state-level Republicans to roll back such protections, too.

In fact, 20 red states have sued the federal government, arguing that Obamacare, including its preexisting-condition protections, is unconstitutional. Administrations are supposed to defend laws passed by Congress, but on these provisions, the Trump administration has refused.

And yet, Trump continues to argue that “Republicans will totally protect people with Pre-Existing Conditions, Democrats will not!”

When Trump made this claim at a rally in Wisconsin, he was echoed by Gov. Scott Walker (R), who urged the crowd: “Don’t believe the lies. We will cover people with preexisting conditions.”

This despite the fact that Walker authorized his own attorney general to join that 20-state lawsuit. But Walker is far from alone. Across the country, Republican politicians shamelessly conceal their track record on this issue.

Once again, rather than misrepresenting their own positions, Republicans could try to defend them on the merits.

For instance, they might argue that in their ideal capitalist society, it’s not government’s job to shield Americans from the financial risks of serious health conditions. Every man (or woman) is an island, responsible for his or her own health care. If expensive illnesses befall some unlucky members of society, and they lacked the foresight or haven’t saved enough to plan for this risk on their own, then too bad. Life ain’t fair.

You might wonder if maybe Republican politicians are mischaracterizing so many of their own positions because they don’t fully understand them. But given that Republican leaders have occasionally blurted out their true motives — on taxes, immigration and, yes, even health care — this explanation seems a little too charitable.

Republican politicians aren’t too dumb to know what their policies do. But clearly they think the rest of us are.

The Impossible Trinity

No nation can simultaneously achieve low taxes, easy business conditions, and low inequality.
There are plenty of valid middle-ground combinations.
But a free market with a large social safety net (high taxes + easy business conditions) appears more effective at tackling inequality than a command economy (low taxes + stringent business regulations).

I’ve written before about how globalisation has actually been a spectacular success. It has generated monumental amounts of wealth, drastically reduced poverty, and fostered international relations. Consequently, the solution to rising inequalities in the developed world is not a retreat from globalisation. It is to more fairly share its benefits through the tax system – social welfare, infrastructure, education, health care, etc.

But there is another option – regulation. Instead of tackling inequality through higher taxes and a greater redistributive role of government, regulating business could reign in monopoly and monopsony power[1]. This would allow workers to share more in corporate success, thereby reducing inequality[2]. Theoretically, unions are supposed to facilitate this too, which can also be aided through regulation. Maybe businesses can also be regulated to provide more things like health insurance, education and training, and salary insurance to their workers. Mechanisms like ‘developer contribution plans’ even force the private sector to contribute to infrastructure like public transport – all of which would help address inequality.

And through this thought, I may have discovered something interesting – what I’m dubbing The Impossible Trinity of Inequality[3].

My hypothesis – it’s impossible to simultaneously achieve low taxes, easy business conditions, and low inequality:

·         If you want to go the capitalist route (easy business conditions and low taxes), you have to accept that there will be a high level of inequality, as those that are disadvantaged or simply unlucky in their employment or health fortunes, won’t receive the support they need;

·         If you want to have low inequality but easy business conditions, you have to have high taxes for the government to perform its redistributive role; and

·         If you want to have low inequality but low taxes, you have to have stringent business regulations that protect workers from exploitation and support social mobility.

The evidence?

I previously wrote of the link between income inequality and government tax revenue. An intuitive enough link – governments that collect more taxes can undertake a greater redistributive role (social welfare, infrastructure, education, health, etc.), resulting in lower rates of inequality.

The following graph illustrates this for the OECD countries, with surprising statistical accuracy (0.59 is actually a pretty good correlation).

This time though, I combined an index of ‘ease of doing business’ with tax revenue as a percentage of GDP. A lower value of this combined index indicates lower taxes and easier business conditions. The relationship is weaker, but still there, especially at the extremes. Countries with the lowest taxes and easiest business conditions tended to have the highest inequality.  And those with the highest taxes and most stringent business conditions tended to have the lowest inequality.

And most importantly, not a single country in the OECD was able to achieve the Impossible Trinity. No country simultaneously had low taxes, easy business conditions and low inequality (three green boxes below).

Some countries couldn’t even achieve two – Mexico, Chile and Turkey all enjoy low taxes, but stringent business conditions and high inequality. And Belgium, while achieving low inequality, achieved it at the cost of both high taxes and stringent business conditions.

But Norway and Denmark achieved both low inequality and easy business conditions only at the cost of high taxes. The US chose another trade-off – easy business conditions and low taxes at the cost of high inequality.

Korea was perhaps the only major success-story outlier – it achieved low taxes and easy business conditions at the cost of only moderate inequality.

Several countries also chose a successful middle ground:

·         Australia and Switzerland enjoy low taxes with average business conditions and average inequality;

·         The Czech Republic, the Slovak Republic, Slovenia and Iceland achieved low inequality with average business conditions and average taxes;

·         Estonia enjoys easy business conditions with average taxes and average inequality; and

·         Canada, Ireland, the Netherlands, Poland, Portugal, Spain and Germany were around average on all three indicators.

It’s worth noting though that no country was able to use stringent business regulations to achieve low inequality and low taxes. This was contrary to one of my above hypotheses. And it possibly suggests that heavily regulating businesses is not as effective at tackling inequality as high taxes and redistribution efforts. This is perhaps unsurprising. Income redistribution puts resources (and therefore, choice) in the hands of individuals. This is arguably more effective at helping those individuals than regulation, which requires the government to attempt to decide what is best for the individual.

Of course, these relationships aren’t perfect. And there are several different ways this data could have been sliced and diced. Further research could also yield the importance of personal vs. corporate tax rates. But this is a blog, not a submission to the Nobel Prize Committee. So for these purposes, I will still conclude thusly:

·         You can’t achieve all three – it is indeed an Impossible Trinity;

·         There are also plenty of valid middle-ground combinations;

·         But a free market with a large social safety net (high taxes + easy business conditions) like Norway and Denmark appears more effective at tackling inequality than a command economy (low taxes + stringent business regulations).

Task for humanity – can we turn it into The Possible Trinity? Can we provide for everyone in society without the need for high taxes or stringent regulations? An altruistic capitalist society, if you will. *laughter*

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[1] The ability of businesses to control not just the price of the products they sell, but also the price of the labour they buy.

[2] It would also help address the ‘two-speed economy’ between corporate (and therefore, asset market) success, and wage growth, thereby making the job of Central Banks easier.

[3] I first heard this expression when it referred to the Impossible Trinity of Central Banking – the idea that an economy could not simultaneously achieve a fixed exchange rate, open capital markets, and a Central Bank policy that targets internal stability.