Phlogiston with a Keynsian Twist

There needs to be a wall of shame for economists who endorsed Keynesian solutions back in 2009. Picked up in a secondhand bookshop recently was a particularly pathetic example of what had been quite common back in those heady days of the stimulus, this being a book titled Animal Spirits by Nobel Prize winners George Akerlof and Robert Shiller. If these types were capable of shame they would be buying up every copy and consigning them to the flames. Instead, they no doubt continue in the delusion that we were saved from far worse by the timely actions they advocated to stimulate demand.

Mind you, I had been just as certain that the entire attempt to diminish the impact of the recession and return us to reasonable rates of growth would turn out to be the disaster it has proven to be, so I can now run the told-you-so as much and as far as I like. There is not a shred of evidence, outside the authors’ Keynesian nonsense models, that the stimulus did anything but harm. But since the authors are incapable of harbouring even a glimmer of the notion that the economic models to which they have devoted their lives are about as useful as was the theory of phlogiston in physics, they just carry on. It is only their critics who go back to those books and try to remind others that Keynesian economic policy has been an unmitigated disaster. So far are we now from a robust recovery, a ten-year pause will turn out to be the best we can hope for. This is from the book’s preface — and recall that it was published in 2009, just as the stimulus programs were getting under way:

“A repeat of the Great Depression is now a possibility because economists, the government and the general public have in recent years grown complacent. They have forgotten the lessons of the 1930s. In those hard times we learned how the economy really works. . . .

“In the middle of the Great Depression John Maynard Keynes published The General Theory of Employment, Interest and Money. In this 1936 masterwork, Keynes described how creditworthy governments like those of the United States and Great Britain could borrow and spend, and thus put the unemployed back to work.”

As I said, that was 2009. Is the world of 2014 the one they expected, the outcome they foresaw? I suspect not. Yet there is hardly another ripple of any other kind on which they could blame the deeply depressed nature of the US economy, other than the policies of the past five years. The one certainty is that no one is any longer telling us about the great “masterwork” written by Keynes.

Almost as nonsensical is the potted history of economic thought Akerloff and Shiller provide. Can they actually be as ignorant of pre-Keynesian economic thought as they suggest by these words:

“According to traditional economics, free market capitalism will be essentially perfect and stable. There is little, if any, need for government interference. On the contrary, the only risk of major depression today, or in the future, comes from government intervention.

“This line of reasoning goes back to Adam Smith.” (p. 2)

The notion that Adam Smith, or any other economist of the classical tradition, expected a ripple-free economy with no depressions and that no government interference was ever necessary is so lacking in historical accuracy I would barely accept such ignorance from a first-year student. That they could believe and commit to print such obviously untrue statements – obvious, that is, to anyone who has taken the trouble to learn even the rudiments of the classical theory of the cycle or what Adam Smith had actually written – is a disgrace.

But if I have to choose the least sensible statement they made in this startling superficial and inane book, it is their attribution of the cause of the Global Financial Crisis to an excess of saving, the precise issue raised by Keynes:

“In the short run, an exogenous increase in the demand for desired saving rate of just a couple of percentage points may be enough to tip the economy into recession, as indeed seems to be happening in the current financial crisis.” (p. 116)

The entire financial world held its breath as the banking system teetered on the edge of collapse, with every lender profoundly unsure of the safety of lending to others, and this is reduced to decisions to save. It is embarrassing to have to read such thoughts from two of the world’s most respected economists. This is more of the Keynes the Master, but though no one any longer would write any such thing, given how events have turned out, it makes one despair whether economic theory can ever again provide serious guidance to those who make economic policy. It is a frightening book lacking even the rudiments of depth or common sense.

Steve Kates teaches economics at RMIT University. His most recent book is Free Market Economics: an Introduction for the General Reader