“Taxes drive Money”: What does this mean in MMT?

This is a very important point since one criticism of my last post is the view that “only taxes levied by the state and the need to pay those taxes in the state-issued fiat money drive the demand for, and value of, that fiat money and its use as a general medium of exchange in modern nations” is not actually held by L. Randall Wray, the most prominent academic advocate of MMT. So it turns out that, on this issue, I have to eat some humble pie!

Rather, the view I forumlated seems to be held more by internet supporters of MMT, and was the way Per Bylund interpretated comments of Stephanie Kelton in their Twitter debate on MMT (Bylund 2023: 148–152).

However, it seems that L. Randall Wray has a different view, and Per Bylund was not correct in his interpretation of MMT.

I quote from L. Randall Wray’s Modern Money Theory: A Primer (2024):

“Ultimately, it is because anyone with tax obligations can use currency to eliminate these liabilities that government currency is in demand, and thus can be used in purchases or in payment of private obligations. The government cannot so easily force others to use its currency in private payments, or to hoard it in piggybanks, but government can force use of currency to meet the tax obligations that it imposes.

For this reason, neither reserves of precious metals (or foreign currencies) nor legal tender laws are necessary to ensure acceptance of the government’s currency. All that is required is imposition and enforcement of a tax liability to be paid in the government’s currency. It is the tax liability (or other obligatory payments) that stands behind the curtain” (Wray 2024: 47).

“We can conclude that taxes drive money. The government first creates a money of account (the Dollar in Australia, the Tenge in Kazakhstan, and the Peso in the Philippines), and then imposes tax obligations in that national money of account. In all modern nations this is sufficient to ensure that many (indeed, most) debts, assets, and prices will also be denominated in the national money of account” (Wray 2024: 48; see also Mitchell et al. 2019: 137).

Tymoigne and Wray (2013) also state their opinion as follows:

“To be more precise, MMT does argue that imposition by authorities of obligations (including taxes, fines, fees, tithes and tribute) is logically sufficient to ‘drive’ acceptance of the government’s currency. Some who adopt MMT (including us) believe that the historical record, such as it exists, does point to these obligations as the origin of money: government currency was first made acceptable through the imposition of an obligation, and the creation of a monetary unit of account was also initiated by a government to denominate those obligations. ....

But to be clear, MMT does not argue that taxes are necessary to drive a currency or money—critics conflate the logical argument that taxes are sufficient by jumping to the conclusion that MMT believes there can be no other possibility. In truth, MMT is agnostic as it waits for a logical argument or historical evidence in support of the belief of critics that there is an alternative to taxes (and other obligations). We have not seen any plausible alternative” (Tymoigne and Wray 2013: 9–10).

This is also explained by Wray in this video:



So Wray’s claim here is that taxes alone are sufficient (but not necessary) to ensure the acceptance of the government’s currency, but that the state may not actually be able to force the use of its money in other private purchases (although in many modern nations today this is indeed the case).

This logically requires that there could be other sufficient causes for creating the acceptance of something as money: for example, a state or private entities minting gold or silver coins of a consistent weight and purity and offering this as money without demanding the coins back as taxes. And, indeed, the creation of Bitcoin (which admittedly functions more as a type of digital financial asset) and its limited acceptance as money in purchases does show that money can be created by entities other than the state (Palley 2015: 60).

So Wray’s much weaker claim is different from the view that “only taxes levied by the state and the need to pay those taxes in the state-issued fiat money drive the demand for, and value of, that fiat money,” which on reflection is a straw man that does not accurately describe Wray’s theory.

However, is it true that taxes alone are sufficient (but not necessary) to ensure the acceptance of the government’s currency?

Unfortunately, even this weaker claim is not true.

There are clear historical instances that falsify this claim. A hyperinflating currency cannot be made acceptable just having the government demand it back in tax revenues.

In certain Latin American nations, some governments struggle to get their national fiat currency accepted in domestic payments or contracts, which can be denominated and payable in US dollars: that is to say, the state demanding that its fiat currency be paid in taxes does not lead to its universal or widespread acceptability (Garzón Espinosa 2024: 49).

Most states before the 1930s needed to mint coins of gold or silver as their state-issued money, as even Abba Lerner admitted (Lerner 1947: 314), and they could only occasionally maintain the acceptance of, or value of, inconvertible paper currency just by taxation. Experiments with inconvertible paper money were mixed at best.

One need only think of the French assignats, a paper money (fiat currency) issued by the successive governments of France from 1789 to 1796 during the French Revolution. The French assignat was a terrible failure and had lost most of its value by 1795, despite the fact that successive French governments accepted them for payment of taxes.

In light of all this, it would be far better if advocates of MMT revised their claims about “taxes driving money” to the following:

“Taxes drive money” in the sense that, in the modern world after the abolition of the Gold Standard, many powerful modern states (that do not face serious economic problems) can create demand for their fiat money by levying taxes payable in that fiat money. This is a major cause of fiat money’s acceptability, but the state must maintain public confidence both in itself and in its currency. Of course, in crisis situations such as hyperinflation, the acceptability of fiat money can break down.

BIBLIOGRAPHY
Bylund, Per. 2023. “Is it Money because it is redeemed in Tax Payments?: A Response to Kelton and Wray,” Quarterly Journal of Austrian Economics 25.4: 147–165.
https://qjae.mises.org/article/77380-is-it-money-because-it-is-redeemed-in-tax-payments-a-response-to-kelton-and-wray

Colander, D. 2019. “Are Modern Monetary Theory’s lies ‘plausible lies’?,” Real-World Economics Review 89: 62–71.

Garzón Espinosa, Eduardo. 2024. Modern Monetary Theory A Comprehensive and Constructive Criticism. Routledge, Abingdon, Oxon, UK.

Lerner, A. P. 1947. “Money as a Creature of the State,” American Economic Review 37.2: 312–317.

Mitchell, William, L. Randall Wray, and Martin Watts. 2019. Macroeconomics. Macmillan International, London.

Palley, T. I. 2014. “Money, Fiscal Policy, and Interest Rates: A Critique of Modern Monetary Theory,” Review of Political Economy 27.1: 1–23.

Palley, T. I. 2015. “The Critics of Modern Money Theory (MMT) are Right,” Review of Political Economy 27.1: 45–61.

Tymoigne, E. and L. Randall Wray. 2013. “Modern Money Theory 101: A Reply to Critics,” Working Paper Series No. 778, Levy Economics Institute.

Wray, L. Randall. 2024. Modern Money Theory: A Primer on Macroeconomics for Sovereign Monetary Systems. Palgrave Macmillan, Cham, Switzerland.