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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 12: Anchors Aweigh: From Real to Nominal Money and from Market to Government Stabilization

Edward J. Nell


Edward J. Nell The traditional monetary system was ÔanchoredÕ in precious metal. In the earlier forms of the system, the metal was mined and minted into coins until sufficient coins were in circulation for exchange against current goods and services. This proved to be expensive, so paper came to be substituted. But the value of the paper depended on that of the coins. That is, the value of the monetary unit was tied to the value of metal through the fact that the circulating medium could be converted into metal. This prevented ÔoverissueÕ of the paper currency, the correct issue being the amount needed to replace metal where that amount is determined by the needs of circulation. Since prices were subject to a constraint, it was difficult for inflation to take root. But because the money supply depended on reserves, which had to be earned or obtained in the market, the system tended to be inflexible. For instance, it could not easily adapt to changing levels of activity. It also faced problems in raising the large sums of money needed for the construction of networks necessary for collective goods and services Ð classically, railroads, but later, telephones, radio, and television, not to mention highways. To reap the advantages of scale, these had to be built ahead of demand, amortized over long periods. Nor could the state issue money without backing, thus making it difficult for government to fulfill its new roles. In the interest of flexibility, the anchor has been weighed;...

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