Keynesian economics dying?

Unlike most of my fellow Troppo bloggers, my knowledge of economics could easily be encapsulated on the back of a small postcard.  Perhaps that’s why this post by Steve Kates on Catallaxy puzzled me:

This article from The New York Times on the end of Keynesian economics in Europe is quite worth the read. There is a major shift in the world of macroeconomics before us. The practice of macroeconomic policy has changed before our eyes. Our textbooks are complete junk to the extent that they continue to peddle this Keynesian idiocy.

The article itself, obviously written by someone raised on this dying orthodoxy, merely notes what can no longer be doubted. Public spending as a cure for recession does not work. These deficits have made things only worse. Getting our fiscal house in order as the necessary condition for recovery is finally being embraced.

There must be something I’ve missed.  My impression was that just about every nation in the western world embraced Keynesian fiscal stimulation as their immediate response to GFC-induced recession, and that most countries including Australia are now embarked on restoring their budgets to surplus post-GFC.  That too is classic Keynesianism, isn’t it?  Sure there are some like Joseph Stiglitz who argue that deficit-fuelled fiscal stimulus should be continued for longer, but the fact that some European countries are seeking to return to surplus more quickly hardly represents a rejection of the Keynesian recipe for dealing with recession, does it? It’s just a difference of opinion on the timing of winding back fiscal stimulus resulting from differing assessments of the risk of return to recession. Can someone please explain?

About Ken Parish

Ken Parish is a legal academic, with research areas in public law (constitutional and administrative law), civil procedure and teaching & learning theory and practice. He has been a legal academic for almost 20 years. Before that he ran a legal practice in Darwin for 15 years and was a Member of the NT Legislative Assembly for almost 4 years in the early 1990s.
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The Beverage Curve
The Beverage Curve
11 years ago

Moreover Ken chapter 3 of the recent IMF report shows the economic world is very very Keynesian but then Steve has never been noted to produce any evidence to backup his mad theories.

Have any countries got out of the GFC by introducing austerity policies at all?

The IMF can’t find any in fact it cannot find evidence for austerity working at all except in good times as Keynes said it would!

He has listed six different reasons on why the previous Government’s getting the budget into Surplus was classical economics even saying at one stage Howard did this in a recession. Such a pity getting the budget into surplus was pure Keynesian

Edward Mariyani-Squire
Edward Mariyani-Squire
11 years ago

Ken, as far as I can tell, you’re right.

Related: I seem to remember that when governments began introducing stimulus packages, there was much screaming from the rooftops that “Keynes Is Back” … as if he just returned from a holiday taken in 1975. In Australia’s case, right through the 1980s, 1990s and up to today, the federal government/bureaucracy has, by and large, followed or attempted to follow the basic Keynesian line of budget surpluses in booms and deficits in downturns. (That’s so uncontroversial I find it hard to understand how anyone could believe otherwise.)

And as The Beverage Curve notes, this holds true (even) during the Howard-Costello years. The later Costello budget surpluses seem to have been structural rather than discessionary (so a dead cod could have pulled them off), but that provides no succour to anti-Keynesians who hanker for the good ol’ days of the 19th century.

Edward Mariyani-Squire
Edward Mariyani-Squire
11 years ago

whoops “discessionary” –> discretionary.

Paul Bamford
Paul Bamford
11 years ago

Does a nice line in hyperbole, does our Stephen. This is up there with Andrew Bolt’s infamous review of “Finding Nemo”:

…I caught the tail end of Jurassic Park III the other day which had the five humans surrounded by a group of raptors who were about to rip them to shreds. But they got down on their knees and tried to show how they were really friends and were saved because they were able to strike a spark of compassion within the hearts of the raptors.

Let me tell you, if there are a sufficiently large proportion of people out there who will accept as a plausible plot device that raptors can show mercy and have a change of heart then we may not have enough people in reserve who understand who our enemies are and what is required to really defend our way of life. It is this kind of sentimentality that has allowed Barack Obama to become President of the United States. It is the kind of unthinking underlying belief system that the [Mont Pelerin Society] is trying to wake people from.

Ken Parish
Ken Parish
11 years ago

I bet you didn’t know that you and your pinko mates are “raptors in human form, about as malleable to the liberal order and the force of reason as a Hitler or Stalin, you will get a glimmer of understanding of what we are up against. They will never go away. Our only hope is to keep them to such minimal numbers that they can have only minimal effect on our way of life.”

Be afraid Gummo, be very afraid. The Final Solution is being planned.

Geoff Honnor
Geoff Honnor
11 years ago

‘Unlike most of my fellow Troppo bloggers, my knowledge of economics could easily be encapsulated on the back of a small postcard.’

Given that your posts tend stand out as all-too-rare bright beacons in the increasingly obscure firmament of Club Troppo, I’d urge you to remain resolutely uninformed.

Nicholas Gruen
Admin
Nicholas Gruen(@nicholas-gruen)
11 years ago

Ken,

My take on it FWIW is as follows.

Homer is right that surpluses during booms are every bit as Keynesian as deficits during recessions.

Fiscal stimulus is most important when monetary policy is up against the lower (zero) bound of interest rates. That’s why it was important in the Northern Hemisphere. It was also important here for the speed of response – monetary policy takes a lot longer to have its full effect.

The Australian authorities have NOT been Keynesian or particularly vigorous counter-cyclical fiscal policy guys. They often race call the economy pointing out that some budget expansion is worthwhile if otherwise things are slowing down, but the one time when they should have got stuck in was the early 1990s recession and they were very slow to act. They then acted in a pathetic way in the dying days of the Hawke Govt spending something like 0.1% of GDP and then Keating’s ill named ‘One Nation’ stimulus expanded spending by 0.5% of GDP which was ridiculously small when one looked at how much slack there was in the economy.

It was partly that experience which led the Treasury to preach ‘go early, go hard, go households’ (and schools and pink batts).

At least as exemplified by that excellent package – that received its due punishment at the election – Australia’s Keynesianism is truly Keynesian in the sense that it’s countercyclical not just incontinent, and it also discloses a role for fiscal policy not just where monetary policy is at the lower bound but as an adjunct to monetary policy – for instance to speed up action. Also the fiscal stimulus was timed on the assumption that it would take a while for activity to come back – even with loose monetary policy a judgement that seems to have been vindicated by events so far, but which it is unlikely will be perfectly judged either way.

As for the Northern Hemisphere there was a general consensus in favour of fiscal stimulus – fortunately – and that’s now come back with various calls for fiscal contraction. It would be nice if this were justified with some coherent augment (since the kinds of bodies that have endorsed contraction (like the OECD) were also supporting the stimulus.

Anyway the OECD is a strange organisation. In my experience of attending one of its meetings of Treasury Secretaries, its a consensus talking shop, which tries to glean some consensus learning from its members at the same time as not upsetting any of them too much – you know the kind of thing. On the other hand it likes to hand out advice – plaudits together with inevitable school teacherly ‘must do betters’.

Here it is on David Cameron. I have no views on the detail of Cameron’s cuts, though they should be delayed from an economic point of view. But of course it’s better to get your cuts in as early in your term as possible isn’t it. Ironic then that the OECD praises the measures for their ‘courage’.

OECD – Paris, 21 October 2010

UK’s Spending Review a necessary step toward fiscal stability

OECD Secretary General Angel Gurría welcomed the United Kingdom’s Spending Review released 20 October as a necessary step towards achieving long-term fiscal stability.

“Budgetary consolidation is never easy but the timing and scope of the measures balance concerns for near-term growth with the need to stop the snowballing of debt and to preserve credibility,” Mr Gurría said. “The measures are tough, necessary and courageous. Acting decisively now is the best way to secure better public finances and bolster future growth .”

The budgetary measures announced by the U.K. Chancellor of the Exchequer correspond to recommendations for a “concrete and far-reaching consolidation plan” laid out in the OECD’s May Economic Outlook, Mr Gurría said.

The Spending Review demonstrates that the U.K. plans to address the rapid build-up of debt and reduce it over time . By raising the retirement age faster than previously planned, the U.K. has also shown that it is willing to push for structural reforms. Further steps should focus on increasing the efficiency of health provision and education.

While major budgetary consolidations are always painful, the Spending Review takes several important steps towards minimising the effects on growth, by mitigating cuts in infrastructure investment and prioritising education and research spending.

The United Kingdom has been a front-runner in international climate change. Mr Gurría supports the U.K.’s continuing willingness to back its commitment to a greener economy with further budgetary resources.

Senexx
11 years ago

I’ve been struggling to phrase all of this simply.

When it comes to nation wide economics – Macroeconomics good – Keynesian and post-Keynesian economics.

When it comes to nation wide economics – Microeconomics bad – Chicago and Austrian stuff – what they peddle over at Catallaxy. It runs into a thing called the Aggregation problem.

This is not to say the micreconomic schools of thought are not useful at times.

I have emailed you some information you may be interested in as well, Ken.

Tel
Tel
11 years ago

You guys are all talking like the hard times are over, the UK are moving towards austerity not because they are suddenly booming again, but because the other choice is “over the brink” into debt they could never repay. The US employment participation rate continues to fall (and if you ignore the temporary hump of census collectors, it has done nothing but fall). They still haven’t hit to worst of it yet, there’s another 12 months of mortgage interest rate resets still in the queue. A new round of QE is starting in the US as they have decided that the only answer to restarting their manufacturing industries is devaluation of their currency. China can choose to import inflation from the US by going into a currency war, or they can choose to allow their currency to rise and export less manufactured goods.

Australia has been protected by mineral prices and demand from Asia. We are essentially running the “Banana Republic” economy that Keating talked about — minerals, agriculture and tourism. But pretty soon we will scuttle agriculture (by taking their water away and forcing them to turn their farms into carbon capture programs) then we will be down to just minerals and tourism. Not a long term solution, but good enough for my lifetime.

Keynesianism doesn’t fix structural problems, nor does it operate as a substitute for good management. A Keynesian stimulus merely puts a bit of a band aid over bad management so it doesn’t seem so bad, and delays the inevitable restructuring (which can be more pleasant for those involved because sudden restructuring is harsh). But there’s two questions that Keynesian advocates never can seem to answer:

Given that a private investor who correctly invests in a counter-cyclic manner stands to make a lot of money — there is more than enough incentive already in the market to encourage individuals to level out the boom-bust cycle. The reason the cycle still exists is that people cannot actually figure out what phase of the cycle they are in until well after the fact. So what makes government able to recognise the phases of the boom-bust cycle better than private investors? Where is the crystal ball?

The other question is how we are supposed to identify the difference between a real structural problem (that cannot be fixed by Keynesian stimulus) and a temporary cyclic fluctuation (that can)? When you are holding a hammer, everything looks like a nail (admittedly, many other advocates fall for the same problem).

Alphonse
Alphonse
11 years ago

It’s amazing how many people who don’t know what Keynes said do know that it was a load of crap.

Nicholas Gruen
Admin
Nicholas Gruen(@nicholas-gruen)
11 years ago

What Alphonse said.

Paul Frijters
Paul Frijters
11 years ago

I concur with Nick. The doctrine known as Keynesianism (anti-cyclical fiscal policy) is alive and well, particularly in Australia.

The Beverage Curve
The Beverage Curve
11 years ago

A very easy way to determine whether anyone has actualy read Keynes is to see if they actually know the reason when Keynes favoured fiscal policy over monetary policy.

Very few understand a deficit has different repercussions on the economy dependent on where the economy is in the business cycle.

An easy way to know whether a critic of Keynes understands what they are talking about is whether they say Japan in the 90s was a failed Keynesian experiment

conrad
conrad
11 years ago

“The doctrine known as Keynesianism (anti-cyclical fiscal policy) is alive and well, particularly in Australia.”

I’d bet that fairly ignorant people like myself would think more highly of it if governments actually saved money at the top of cycles and then used the saved money to fund spending at the bottom of cycles, rather than just spend different amounts at different times in the economic cycle. Now, I know that Australia isn’t too bad at this compared to other places that just spend too much at all times, but if the goverment had a little war chest of money for these sorts of times (like a few places in Asia do), that would be better (or at least they should explain why that isn’t worth having).

Paul Frijters
Paul Frijters
11 years ago

Conrad,

yes, the problem with the Keynesian doctrine has always been the difficulty of saving up in the good times for when the recessions come. That difficulty is well understood by economists and politicians. It is simply that the political imperative in many countries is to spend now and let the next administration worry about the consequences. One of the advantages of the long-time Australian obsession with balanced budgets is the absence of debt when a truly big crisis hit. For historical reasons I do not know, that obsession has been ingrained in the national conscience such that the mean voter cares about it.

Catching up
Catching up
11 years ago

I do not knows what works or not. I am eagerly awaiting the state of the British economy in 6 to 12 months. You can bet, it will not be the wealthy that suffers. It makes more sense to me to ensure we do not have unemployment, against trying to get people back to work when we do. We have to spend money either way.

Oktay
Oktay
11 years ago

“The behaviour of our economy depends on the pace of investment. In a capitalist economy the valuation that is placed upon capital assets, which determines current investment, and the ability to fulfil contractual commitments, which determines financing possibilities, depend critically upon the pace of gross profits. Gross profits in turn are largely determined by investment. Thus the ability to debt-finance new investment depends upon expectations that that future investment will be high enough so that future cash flows will be large enough so that the debts issued today will be repaid or refinanced…… In today’s economy positive fiscal actions and the built in stabilizers lead to massive government deficits as income falls. Such deficits sustain income, sustain or increase corporate profits, and feed secure and negotiable financial instruments into portfolios hungry for safety and liquidity……”
Hyman P. Minsky
The Financial Instability Hypothesis:
An interpretation of Keynes and
an Alternative to “Standard” Theory

Tel
Tel
11 years ago

A very easy way to determine whether anyone has actualy read Keynes is to see if they actually know the reason when Keynes favoured fiscal policy over monetary policy.

He favoured both:

Later on, a decline in the rate of interest will be a great aid to recovery and, probably, a necessary condition of it. But, for the moment, the collapse in the marginal efficiency of capital may be so complete that no practicable reduction in the rate of interest will be enough. If a reduction in the rate of interest was capable of proving an effective remedy by itself, it might be possible to achieve a recovery without the elapse of any considerable interval of time and by means more or less directly under the control of the monetary authority. But, in fact, this is not usually the case; and it is not so easy to revive the marginal efficiency of capital, determined, as it is, by the uncontrollable and disobedient psychology of the business world.

Clearly recognising that monetary policy is limited by the zero interest rate barrier, which was already clearly stated at #7 above and by a million other times in the last decade. The low interest rates in Japan similarly failed to create a boom (but I’d argue that at least Japan had no equivalent to the Great Depression either).

Homer is right that surpluses during booms are every bit as Keynesian as deficits during recessions.

This concept is modern Keynesian (i.e. the current evolution of the idea) not literal Keynesian (i.e. slavish copying of Keynes himself), but that’s OK, because ideas do evolve and so they should do, or else we would just sit reading the Ten Commandments over and over. Keynes was a product of the Great Depression and his thinking was stimulus, stimulus and more stimulus.

Thus the remedy for the boom is not a higher rate of interest but a lower rate of interest! For that may enable the so-called boom to last. The right remedy for the trade cycle is not to be found in abolishing booms and thus keeping us permanently in a semi-slump; but in abolishing slumps and thus keeping us permanently in a quasi-boom.

Making Ben Bernanke a literal follower of Keynes.

For people who still believe that stimulus and artificially forced consumption are the solutions to all economic problems, I can only suggest a little bit of time spent understanding how an integral controller works and why the long term average input to the integral must be zero (not approximately zero, exactly zero) and perhaps also note that stability is a big problem for this particular controller.

I mean Elmer Sperry built a PID controller in 1911, Nicolas Minorsky published a theoretical analysis of it in 1922 and Keynes wrote his influential work in 1935. One would think a little soul searching was in order by now. Come to think of it, a centenary birthday party is coming up pretty soon. Fortunately digging through the original theory is unnecessary because it has been cleaned up and made into a textbook example by now.

For those who have got beyond the “stimulus, stimulus, more stimulus” formula and who will accept that in order to stablise an oscillating system you need to inject signal in both positive and negative direction, I go back to my original question of what makes the government bureaucrats uniquely cognizant of the correct phasing and magnitude to inject this signal so they won’t make things worse? Perhaps has a peek at noise canceling headsets where engineers have genuinely solved the problem in a different domain, and get a feeling for the algorithms required. Hint: bashing the ears harder is not the correct solution.

Edward Mariyani-Squire
Edward Mariyani-Squire
11 years ago

Ah, Michel Kalecki (1943) … always a good read:

It looks at present as if “business leaders” and their experts (at least part of them) would tend to accept as a pis aller public investment financed by borrowing as a means of alleviating slumps. They seem, however, still to be consistently opposed to creating employment by subsidising consumption and to maintaining full employment.

This state of affairs is perhaps symptomatic of the future economic regime of capitalist democracies. In the slump, either under the pressure of the masses, or even without it, public investment financed by borrowing will be undertaken to prevent large scale unemployment. But if attempts are made to apply this method in order to maintain the high level of employment reached in the subsequent boom a strong opposition of “business leaders” is likely to be encountered. As has already been argued, lasting full employment is not at all to their liking. The workers would “get out of hand” and the “captains of
industry” would be anxious to “teach them a lesson.” Moreover, the price increase in the up-swing is to the disadvantage of small and big rentiers and makes them “boom tired.”

In this situation a powerful block is likely to be formed between big business and the rentier interests, and they would probably find more than one economist to declare that the situation was manifestly unsound. The pressure of all these forces, and in particular of big business-as a rule influential in Government departments-would most probably induce the Government to return to the orthodox policy of cutting down the budget deficit.

Kalecki, M. 1943. “Political Aspects Of Full Employment”, Political Quarterly, 14 (4): 322-331. [emphasis in the original]

The Beverage Curve
The Beverage Curve
11 years ago

Tel,

Keynes said to use fiscal policy when there was a liquidity trap as monetary policy didn’t work , in most other circumstances you left it well alone.
I think it was 1937 Keynes said Austerity was very good in boom times

Nicholas Gruen
Admin
Nicholas Gruen(@nicholas-gruen)
11 years ago

Tel,

Read Keynes on how to pay for the war.

The Beverage Curve
The Beverage Curve
11 years ago

yep Nick is right on reading that.

I might respectfully disagree with him on fiscal policy in 1991/2.

Two people,a person called David Gruen and anther person called Glenn Stevens wrote a paper showing the fiscal p stimulus was too late.

Given there was no liquidity trap or indeed not even a credit crunch in sight the economy only needed monetary policy plus automatic stabilisers

Grant Musgrove
Grant Musgrove
11 years ago

Yes 1991/1992 “One Nation” stimulus was too little too late, but exemplary in terms of a good capacity building stimulus package. The problem was awful monetary policy preceding that, leading to the recession we may not have had to have, born largely from a terrible rift between academic economists and a blinked RBA/ Treasury view that fiscal policy is dead (crowding out effect), and only monetary policy could address the perceived current account deficit crises(then running at about 6%) with (the private sector generating almost all of this) by crushing aggregate demand. Astonishing stuff in hindsight.

Nicholas Gruen
Admin
Nicholas Gruen(@nicholas-gruen)
11 years ago

Homer,

I know it was too late. Too small, too late. And yes, monetary policy could have taken more of the load, but it takes a while to work.