Has the case for “expansionary fiscal policy”, as the Keynesians term it, gained traction over the years? The recent letter to the Guardian was put together more quickly than the 1981 letter, but it is striking that the number of signatories has dropped by almost 80 per cent. Someone new to the subject might form the impression that the Keynesians are losing the argument.
The Keynesians are in retreat mostly because of facts. In the UK so-called “fiscal austerity” under the Conservatives both in the 1980s and today has been accompanied by above-trend growth in demand, while in the US President Clinton’s large cut in the budget deficit in the 1990s was reconciled with obvious economic prosperity. Whatever the textbooks say, reductions in budget deficits are often associated with healthy economic expansion and rising employment. But the Keynesians might still justify attention if their theoretical analysis were elegantly expressed and presented with conviction. Unfortunately for them, the letter to the Guardian was a mess.
Until now the case for Keynesianism has turned on the core doctrine of the 1936 General Theory, that aggregate demand is a multiple of investment. Extra government spending — supposedly, magically — has the property of causing output to rise by a multiple of itself. But the Guardian letter drops the multiplier fantasies and instead refers to “the principle of sectoral balancing . . . that, if one sector of the economy lends to another, it must be in debt [sic] by the same amount as the borrower is in credit [sic]”.
Let us be nice to the 79, and allow them to reposition the words “debt” and “credit” so that their key sentence makes logical sense. Even then, the Keynesians are going nowhere with this proposition, which is known technically as the “flow-of-funds identity”. True, one agent’s debt is another’s credit. But so what? Debts and credits may cancel out, but someone owns the houses, cars, lorries, machinery and so on that we can see around us. People are net owners of capital assets, while their net worth is much higher than debt. Changes in the value of assets (because of house price and stock exchange movements) are many times larger — and far more important to macroeconomic outcomes — than any sector’s change in indebtedness, including the government’s fiscal balance. The Keynesians might have some residual plausibility if they could organise their thinking properly, but it seems from their letter to the Guardian that they cannot even do that.
The Keynesians are in retreat mostly because of facts. In the UK so-called “fiscal austerity” under the Conservatives both in the 1980s and today has been accompanied by above-trend growth in demand, while in the US President Clinton’s large cut in the budget deficit in the 1990s was reconciled with obvious economic prosperity. Whatever the textbooks say, reductions in budget deficits are often associated with healthy economic expansion and rising employment. But the Keynesians might still justify attention if their theoretical analysis were elegantly expressed and presented with conviction. Unfortunately for them, the letter to the Guardian was a mess.
Until now the case for Keynesianism has turned on the core doctrine of the 1936 General Theory, that aggregate demand is a multiple of investment. Extra government spending — supposedly, magically — has the property of causing output to rise by a multiple of itself. But the Guardian letter drops the multiplier fantasies and instead refers to “the principle of sectoral balancing . . . that, if one sector of the economy lends to another, it must be in debt [sic] by the same amount as the borrower is in credit [sic]”.
Let us be nice to the 79, and allow them to reposition the words “debt” and “credit” so that their key sentence makes logical sense. Even then, the Keynesians are going nowhere with this proposition, which is known technically as the “flow-of-funds identity”. True, one agent’s debt is another’s credit. But so what? Debts and credits may cancel out, but someone owns the houses, cars, lorries, machinery and so on that we can see around us. People are net owners of capital assets, while their net worth is much higher than debt. Changes in the value of assets (because of house price and stock exchange movements) are many times larger — and far more important to macroeconomic outcomes — than any sector’s change in indebtedness, including the government’s fiscal balance. The Keynesians might have some residual plausibility if they could organise their thinking properly, but it seems from their letter to the Guardian that they cannot even do that.
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