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November 18th 2013 print

Peter Smith

A Deficit of Clear Thinking

Keynesians have dominated economic policy for so long even conservatives now couch their thoughts against a background noise of pumps being primed and demand stimulated. It is past time to break that habit

gearsDemand – ‘spending’ to the common folk – is a constant theme when commentators talk about the economy. The Reserve Bank (RBA), which perhaps can be taken as a commentator par excellence in Australia, makes constant references to domestic demand. Try to find an RBA meeting or commentary on the economy in which domestic demand is not given mention, not to say prominence. I doubt there is one.

Australian producers variously rely on two demands to sell their products: one from outside Australia; and one (domestic) from inside. The concentration by the RBA on domestic demand recognises that it is the only part of total demand that is potentially within Australia’s control. And that is surely right, so far as it goes. Unfortunately it doesn’t go too far before it crashes and burns.

I would like to quote two extracts from articles on the conservative web site PJ Media. I could quote any number of sources. These are simply convenient and fulfill a condition that the authors be conservative. Why make it a condition that the authors are conservative? This is simply and starkly to illustrate the absolute dominance, across the political spectrum, of Keynesian economics in setting the lingua franca in discussions about the state of economic affairs and economic policy.

The first is from Stephen Green, on November 10, commenting on the USA October job numbers.

Consumer spending slowed last month on a “deceptively weak” GDP report…The real fun might begin next month, when [Obamacare] is supposed to be up and running… Millions are going to find themselves facing the twin devils of higher premiums and higher deductibles. That means they’ll take home less pay, and have to sock away more money into savings. The resulting reduction in consumer spending — 70% of the U.S. economy — could be a body blow to our already weak growth.

The second is from Tom Blumer, on November 12, commenting on what he called the real unemployment rate.

Barack Obama’s “signature achievement” [Obamacare]… will suddenly force millions of Americans to spend hundreds of dollars extra per month most of them don’t have, leading to massive cuts in discretionary spending…A no-growth Obamacare Christmas will be in the offing.

Both of these authors would undoubtedly eschew Keynesianism as they understand it. Their reasoning would be clear enough. Make-work government spending is wasteful, puts pressure on interest rates, and complicates and impedes sustainable private sector recovery. They would be right. Yet they still speak ‘Keynesian’ by giving consumer demand a driving role in generating overall economic activity; and this is corrupting. As George Orwell perceptively pointed out in Politics and the English Language, “if thought corrupts language, language can also corrupt thought.”

It is but a short step from giving consumer demand a driving role to giving government demand such a role; and becoming, in the process, a fully fledged Keynesian — a Reserve Bank or Treasury economist, for example. Conservative thinkers have to try to get it right.

Simply put, those who invest real capital and produce things pay income to their employees who in turn, as consumers, buy goods and services. These consumers might not buy some of the goods produced. This sends a signal to producers to alter their pattern of production. Consumers therefore play a critical role in determining the pattern of production. What they don’t do is determine the overall level of production. It would be plain silly to think that. And, yes, most economists qualify to join those thinking these silly thoughts.

It would be plain silly because it would be circular. It would be saying A produced B yet B produced A. This is not akin to a chicken-and-egg conundrum. You simply can’t eat fish unless they are caught. You can’t buy a car unless it is made. Consumers as a whole will have no luck stocking their house with goods unless as a prior and driving condition the goods have been made and income earned.

Of course there is usually something lurking within balderdash to give it the semblance of veracity to fool the unwary, who in this case number among them, unfortunately, hosts of economic illiterate conservatives. If Obamacare leads to reduced consumer spending, which it might and probably will, some producers of consumer goods and services will be disappointed as their inventories of unsold stock and unremunerated time grows. There can be no doubt of that. They will have to adjust to the new situation. They may lay off employees.

What to do you may ask. Nothing at all is the correct reply. The market will adjust to the new situation. However, if there are government policies impeding real investment and production they should be scaled down or removed to encourage businesses to invest and produce more and, lo and behold, as they produce more, so earnings and consumer spending will rise.

The fault in focusing on consumer demand is that it diverts attention away from the real action and from policies which might facility more of that action. Leaving aside maintaining a stable value of the currency, the prime role of economic policies should be to make it easier for producers to invest and produce. Everything else, and certainly consumer demand, more or less takes care of itself. Conservatives get a grip. Stop talking about consumer demand. Stop being Keynesian doppelgangers.

Peter Smith, a frequent Quadrant Online contributor, is the author of Bad Economics

Peter Smith, a frequent Quadrant Online contributor, is the author of Bad Economics