AN independent Scotland will likely have a trade deficit. But this is not an external constraint.

During our interview with Mark Blyth, he very handily summarised his argument against Modern Monetary Theory (MMT): “If someone can give me a good explanation how the current account doesn’t matter for a small open economy and they can do MMT, I will listen to it.”

So, here we go.

To clarify, a current account records transactions – goods and services – for a nation with the rest of the world.

So, let's look at the arguments from Mark’s perspective. An independent Scottish government’s “fiscal space” – or, more plainly, how much money it can spend on domestic policies – is limited because it runs a trade deficit.

Without external demand for its productive capacity (exports) exceeding imports, “printing money” will devalue the currency.

Mark (above) believes this relationship is universal: he is not suggesting Scotland is an outlier. Only the US can run a trade deficit for any length of time without seeing its currency drop. And that drop is bad. A cheaper currency means you can import fewer valuable things you don’t produce. This makes you “poor as shit”, as Mark said.

This is Mark’s argument against “MMT” in a nutshell. I have tried my best to summarise Mark’s position, but please listen to what he says between 31.23 and 33.40 minutes to ensure I am giving him a fair crack of the whip.

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So, let's look at the evidence.

Australia has had a capital account surplus for only three years – since 1960!

New Zealand, seven years since 1998.

Two-thirds of the world’s countries, including Iceland, Estonia, Finland, Switzerland (below), and Belgium – all countries similar in some ways to Scotland – have a persistent trade deficit.

The UK has had a trade deficit since 1997 – more than a quarter of a century. And there is no expectation or likelihood that this will change soon.

So, if Scotland became independent next year and replicated its current position within the UK, it would take us until 2050 to “fix things” (MMT says there is nothing to fix). So, even under Mark’s argument, there is much wiggle room.

However, it is important to look deeper into Mark’s case. Mark says fewer exports equals lower demand for your currency. So, at some point, countries will have to export more than they import, or they will see their currency fall. This makes some logical sense. All other things being equal, if a country runs a trade deficit, its currency will depreciate as fewer people need it.

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However … you knew there was a “however” coming: there is no real-world evidence to suggest this actually happens.  Countries with a persistent deficit are not poor as shit. See Australia, New Zealand, Finland, Belgium and Switzerland et al.

This is because the economy is complicated, and a change in one macroeconomic indicator rarely has the expected impact.

The value of a currency is, in fact, not greatly impacted by the trade deficit. This is because trade-related currency transactions comprise at most 10% of total currency transactions. So, around 90% of currency transactions are unaffected by the trade balance.

The belief that a current account deficit makes you “poor as shit” is on shaky empirical ground. Only neoclassical economists think that trade deficits impact the value of a currency by more than a tiny percentage.

Evidence supports the MMT position that a trade deficit does not restrict fiscal space. So, to quote Mark's words back to him, “I just don’t buy it”.

The final point is that MMT detractors often focus on increased budget deficits – the printing money bit. However, they do not consider the effect of that extra government spending.

Let’s say spending is for a job guarantee scheme that increases Scotland's productive capacity and aggregate demand. Using Mark’s language and framing here, investors would be keen to invest in a country with growing aggregate demand and full employment. Our currency might actually appreciate, making us “rich as fuck” or some other hyperbolic sound bite.

An MMT economist like Fadhel Kaboub would advise a government to use its fiscal space to reduce imports. Government spending also builds up the economy's food, technology and energy resilience, and targeted spending dampens import demand.

(Image: NQ archive)

If you look at ALL of the MMT policies, it is easy to argue the exact opposite of what Mark says. Here is a link to economics professor John Harvey's presentation of the MMT perspective. It is totally at odds with Mark’s view.

It would be impossible to persuade Mark that there is a solution to the problem he raised because MMT does not see it as a problem. Mark believes that the current account is an external constraint, and MMT economists do not. Economists, eh?

I have pointed to the evidence and hope we can persuade people to believe our view of the world. To quote MMT economist Bill Mitchell – his words, not mine – Mark has put forward views that “trade(s) on an incomplete understanding of macroeconomic realities and exploits powerful metaphors to ensure that these realities and related policy opportunities are obscured from vision”. MMT economists can also come out swinging.

So imagine “MMT” for Scotland. A decade after independence, Scotland would have a private sector surplus, and the foreign sector would have a surplus, too. Both these sectors would be funded by a government deficit.

The twin deficits – trade and government – would pose no external constraint on the government spending money on policies like a job guarantee scheme, a wellbeing pension or anything else the government could purchase or pay for in its own currency. Public money would be used to provide a more resilient economy.

So, back at you, Mark. “If someone can explain to me why the current account is an external constraint, I would be willing to listen.”

You can watch an expanded discussion on this argument on the Scotonomics YouTube channel.