We’re all Keynesians now
Classical economic theory is all but extinct within the lecture theatres of universities worldwide, and Keynesian thinking dominates the decision making of governments internationally. Keynesian economics advocates for state intervention in the economy, arguing that it is necessary to moderate the business cycle and provide overall economic stability. Regrettably, most modern policymakers now accept Keynesian economics as truth, rather than as contested theory.
But this was not always the case. In 1981, Margaret Thatcher went head to head against 364 distinguished Keynesian economists, and won.
Among the 364 economists were seventy-six past or present professors, a majority of the Chief Economic Advisors to the government in the post-WWII period, as well as 11 senior members of the Royal Economic Society. Each of them disagreed with Thatcher’s strategy to decrease the British fiscal deficit by raising taxes and cut public spending in a time of recession, but by showing a determination to cut borrowing, the government made it easier to control monetary policy, meaning interest rates could be reduced.Criticism around the Prime Minister’s economic policy quickly turned to praise. The combination of Thatcher’s monetarist policies and the enactment of a series of much needed free market reforms throughout the 1980’s resulted in a boom which transformed the UK’s economy.
Rather than implementing a typical Keynesian stimulus of aggregate demand, other leaders in the US have utilised supply side approaches to policy. In both cases the US economy has boomed as a result.
Harry Truman was the 33rd President of the United States during the post war period, which saw millions of workers who served in war-related industries returning to the mainstream workforce. The US economy was also still recovering from a recession just four years earlier. The President refused to listen to Keynesians who advocated for continued deficits and high levels of public spending. Instead, Truman enacted policies which targeted the balancing of the budget. His refusal to apply Keynesian stimulus and instead embrace the market economy initiated the most sustained period of economic growth in American history.
Another such example was Ronald Reagan, who entered office in 1981 after a decade of rising unemployment and inflation. In what has become known as “Reaganomics”, the President enacted a series of supply side reforms; restrictive monetary policy, simplification and cuts to taxes, and the rolling back of government regulation. By the end of the Reagan years, the American economy was almost one third larger than it was when they began. Most significant, however, is the fact that the economy of the 1980s outperformed that of the 1970s and 1990s across almost every economic indicator, including economic growth, job creation, productivity, and income growth.
There is no debating that supply side policy has proven effective means to repair economies and fostering economic growth in the future. But politicians today fail to even consider more classical, market orientated economic policies.
Take, for example, this statement in the UK Conservative Party’s 2017 manifesto:
We do not believe in untrammelled free markets. We reject the cult of selfish individualism. We abhor social division, injustice, unfairness and inequality. We see rigid dogma and ideology not just as needless but dangerous.
Whilst some aspects of the statement are defendable, the quote hardly sounds like something that would be coming out of the main policy document of a Conservative party. It seems the Tories have evolved from a party which advocated for economic liberalism to one which endorses government intervention in the market, and a number of figures back this up.
UK public spending as a percentage of GDP has fallen 6 percentage points in 7 years of Conservative Government, however previous progress to reign in spending made by George Osborne seems like it may be in vain. Chancellor Philip Hammond remains under increasing pressure from within the Conservative Party to address the UK’s productivity woes through a misguided public spending program which will only increase government debt further. It is no wonder then, that the Office for Budget Responsibility is now predicting the UK’s books will not balance until 2030-31, a far cry from George Osborne’s promise to balance the budget within 5 years when the Conservatives came to power back in 2010.
Across the Atlantic, the recent Republication budget encourages more wasteful expenditure in the name of economic growth. The Trump administration appears to have all but given up on initial promises to balance the budget – instead opting to add over $7 trillion to government debt stock over the next 10 years. Recent tax reform, which on its own could have proven to be an effective policy, has been accompanied by $4.4 trillion in federal expenditure. This includes a $1.5 trillion infrastructure spending programme, which goes a long way in adding to the US’ final budget deficit of $984 billion next year.
The President has vowed that his infrastructure spending programme will create millions of jobs, which, in essence, may be true – but such employment lasts only as long as state spending on infrastructure is maintained. For the administration, the spending serves as a way for the State to maintain popular support by a large class of workers whose livelihoods now depend on federal spending. Even some Keynesians argue that Trump’s spending plan is irresponsible, asserting that the combination of large tax cuts and higher government spending are unprecedented so late into an economic cycle.
With many of the world’s conservative parties diverging from the free market principles upon which they were founded, it is of little wonder why a good portion of the public have lost faith in the false “free market capitalism” they continue to peddle. Keynesian economic theory outwardly encourages government intervention in markets which could otherwise prosper, and modern policymakers assert that the solution to these market distortions (which arise because of government meddling) remains even more intervention.
Keynes himself inadvertently outlines the reason for which so many of his policies fail in The General Theory:
To dig holes in the ground,” paid for out of savings, will increase, not only employment, but the real national dividend of useful goods and services.
Government spending to “stimulate” economic growth is a pointless activity if workers have nothing of value to spend their income on. An economy can only grow when what is produced has a greater value than the resources used in its production – this is why government expenditure rarely creates value.
Efficiency and cost effectiveness are not words which spring to mind when envisioning publicly financed projects. The traditionally liberal values of freedom, individualism, tolerance, and equality of opportunity are today threatened not by free markets, as the left assert, but by the governments who continue to intervene in them. The influence Keynesian theory has on policymakers, which allows them to readily spend taxpayer dollars in any way they please in the name of growth, therefore must be broken.
This article was originally published on the Centre for Policy Studies website.