Milton Friedman: "We Are All Keynesians Now"

The other night Chas, Andy and I were talking about the bail-outs and I mentioned Keynes. They did not know who he was so I said I would write a post about him.

John Maynard Keynes (pronounced "canes") lived from 1883 to 1946. He was the British economist who advocated "interventionist government policy by which the government would use fiscal and monetary measures to mitigate the adverse effects of economic recessions, depressions and booms." His economic theories became known as "Keynesianism."

He warned that the reparations which Germany was forced to pay after WWl were too large, would cause the destruction of the German economy and would lead to another war. It was Germany's hyperinflation of 1923 that led ultimately to the rise of Hitler in 1926. (Hitler was a staunch believer in Keynesianism.)

Keynes was a successful investor. He became very wealthy but was nearly wiped out by the Stock Market Crash of 1929. However he soon recouped his fortune.

From Wikipedia:

Keynes provided the main inspiration for European and American policy makers from about 1941 – 1979. The fifties and sixties, when Keynes' influence was at its peak, appears in retrospect as a golden age. In late 1965 Time magazine ran a cover article with the title echoing Milton Friedman's statement that "We Are All Keynesians Now". The article described the exceptionally favourable economic conditions then prevailing, and reported that "Washington's economic managers scaled these heights by their adherence to Keynes's central theme: the modern capitalist economy does not automatically work at top efficiency, but can be raised to that level by the intervention and influence of the government." The article also states that Keynes was one of the three most important economists ever, and that his 'general theory' was more influential than the magna opera of his rivals - Smith's The Wealth of Nations and Marx's Das Kapital.

[...]

Keynesianism out of favour 1979 – 2007

The adverse economic conditions of the seventies, most especially the 1973 oil crisis and the stagflation that followed, unleashed a swelling tide of criticism for Keynesian Economics, most notable from by Friedrich Hayek's Austrian School and Milton Friedmans Chicago School. By 1979 Monetarist/Austrian principles had displaced Keynesian as the primary influence on Anglo American economic policy. However many officials and economists on both sides of the Atlantic retained a preference for Keynes, and in 1984 the Federal Reserve officially discarded monetarism, after which Keynesian principles made a partial come back.

[...]

The Keynesian Resurgence of 2008

The free market theories which displaced the Keynesian middle path had been consistently been criticised by left leaning economists and activists. In the wake of the financial crisis of 2007-2008, the free market consensus began to attract negative comments even by main stream opinion formers from the economic right. In March, free market guru Martin Wolf, chief economics commentator at the Financial Times, announced that the death of the dream of global free-market capitalism, and quoted Josef Ackermann, chief executive of Deutsche Bank, as saying "I no longer believe in the market's self-healing power." Shortly afterwards influential Economist Robert Shiller began advocating for robust government intervention to tackle the financial crises, specifically citing Keynes. A series of major bail outs followed starting on September 7th with the announcement that the US government was to nationalise the two firms which oversaw most of the US sub prime mortgage market, Fannie Mae and Freddie Mac . In October the British Chancellor of the Exchequer referred to Keynes as he announced plans for substantial fiscal stimulus to head off the worst effects of recession, in accordance with Keynesian economic thought.

[...]

Friedrich von Hayek extensively critiqued Keynes's 1930 Treatise on Money, only to have Keynes assert that the Treatise no longer reflected his thinking. However, after reading Hayek's The Road to Serfdom Keynes said, "In my opinion it is a grand book ... Morally and philosophically I find myself in agreement with virtually the whole of it: and not only in agreement with it, but in deeply moved agreement." Keynes was known, however, to open his letters with such complimentary language. He concluded the same letter with the prophecy, "What we need therefore, in my opinion, is not a change in our economic programmes, which would only lead in practice to disillusion with the results of your philosophy; but perhaps even the contrary, namely, an enlargement of them. Your greatest danger is the probable practical failure of the application of your philosophy in the United States.

[...]

Keynes replied to Hayek's criticism in the following way,

"I should... conclude rather differently. I should say that what we want is not no planning, or even less planning, indeed I should say we almost certainly want more. But the planning should take place in a community in which as many people as possible, both leaders and followers wholly share your own moral position. Moderate planning will be safe enough if those carrying it out are rightly oriented in their own minds and hearts to the moral issue. This is in fact already true of some of them. But the curse is that there is also an important section who could be said to want planning not in order to enjoy its fruits but because morally they hold ideas exactly the opposite of yours, and wish to serve not God but the devil."

Hayek explained the first section of the letter saying that this is "because Keynes believed that he was fundamentally still a classical English liberal and wasn't quite aware of how far he had moved away from it. His basic ideas were still those of individual freedom. He did not think systematically enough to see the conflicts."

The Keynes-Hayek conflict was but one battle in the Cambridge-LSE war. Hayek also felt that application of Keynes' policies would give too much power to the state and lead to socialism.

And here are some quotations by and about Keynes:

* On inflation, Keynes wrote in The Economic Consequences of the Peace: "Lenin is said to have declared that the best way to destroy the Capitalist System was to debauch the currency. By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens." ... "Lenin was certainly right. There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose."

* On Karl Marx's work, Keynes wrote in 1931, "How can I accept the [Communist] doctrine, which sets up as its bible, above and beyond criticism, an obsolete textbook which I know not only to be scientifically erroneous but without interest or application to the modern world? How can I adopt a creed which, preferring the mud to the fish, exalts the boorish proletariat above the bourgeoisie and the intelligentsia, who with all their faults, are the quality of life and surely carry the seeds of all human achievement? Even if we need a religion, how can we find it in the turbid rubbish of the red bookshop? It is hard for an educated, decent, intelligent son of Western Europe to find his ideals here, unless he has first suffered some strange and horrid process of conversion which has changed all his values."

* Winston Churchill was quoted as saying: "If you put two economists in a room, you get two opinions, unless one of them is Lord Keynes, in which case you get three opinions."

* Keynes had much to say on the importance of international co-ordination of economic policies, the development of international economic institutions (such as the IMF and World Bank, which he helped to found), the ways in which economic factors could lead to war or promote peace, the importance of managing capitalism to promote peace, and the desirability of free trade if this were done.

* Keynes wrote, "The ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed, the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back... soon or late, it is ideas, not vested interests, which are dangerous for good or evil."

Time wrote: "His radical idea that governments should spend money they don't have may have saved capitalism."

I did not pay much attention to the "dismal science" of economics (and did not know much about Keynes) until I started reading Hayek, Von Mises and Milton Friedman in the late 70s and then their criticism of Keynesianism convinced me that Keynes was a socialist and very wrong.

I am very disturbed by our government's new love affair with Keynesian intervention but I know I am too ignorant of "macroeconomics" (a word which Keynes coined) to condemn it out of hand. I've run several successful small businesses but the businesses which we are currently bailing out are on a scale so large that I can't really comprehend them.

Keynes' ideas once worked (in the period between the wars) in Europe but the price that the European nations paid was heavy. The European state-run economies have created populations of infantilized, irresponsible and self-centered citizens dependent on immigrants to keep their welfare states viable. And many free-market economists think that Keynesianism was the culprit for extending the duration of the Great Depression in the USA.

Are we headed that way again or will government intervention work this time? I don't know for sure. I do understand why the movers and shakers are worried but their panic seems to me to be exacerbating the problem.