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Reinventing Functional Finance

Transformational Growth and Full Employment

Edited by Edward J. Nell and Mathew Forstater

This ambitious book seeks both to revive and revise the idea of ‘functional finance’. Followers of this doctrine believe that government budgets should concentrate solely on their macroeconomic impact on the economy, rather than reflecting a concern for sound finance and budgetary discipline. Reinventing Functional Finance examines the origins of this idea and then considers it in a modern context. The authors explore the concept of NAIRU and argue that modern economies can operate at the level of full employment without provoking unmanageable inflation. They also contend that budget deficits do not have the deleterious effects commonly ascribed to them; the belief that they do rests on a misunderstanding of modern money. In this context, they highlight the relevance of Abba Lerner’s famous dictum, ‘money is a creature of the State’. The authors also debate the merits of various proposals for ‘Employer of Last Resort’ programs, which combine automatic stabilizers with the buffer stock principle.
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Chapter 9: Are These Trade-offs Necessary?

James S. Duesenberry


James S. Duesenberry For over 50 years, monetary and fiscal policy have been guided by the twin objectives of full employment and price stability. The painful memories of the Great Depression made full employment a top priority for many people, but the long tradition of sound money and the inflation of World War II were enough to force a compromise, weakening the full employment commitment of the Employment Act of 1946. Inflation fears were reinforced by the Korean War and even more by relatively mild inflation of the late 1950s. The rapid inflation set off by the Vietnam War and oil and commodity shocks made further resistance to inflation a political priority, so much so that the Federal Reserve was able to take the drastic measures required to start the disinflation process in the recession of 1979 to 1981, action that would have probably been impossible after the first oil shock five years earlier. I want to begin this chapter with a review of postwar inflation experience and the evolution of theory as a way of evaluating the concept of nonaccelerating inflation rate of unemployment (NAIRU). This will hopefully provide a background for a discussion of the problems of managing monetary and fiscal policy. In the second part of the chapter, I shall outline the evolution of attitudes leading to the primacy of monetary policy and the current neglect of any concern for a rational fiscal policy, that is, for any form of Ôfunctional finance.Õ I will conclude with some...

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