A conference marking the 75th anniversary of the publication of John Maynard Keynes’ most famous work comes as debate over the controversial economist’s policy prescriptions rages as never before. Keynes’ theory, authored in the midst of the Great Depression, has a unique resonance for many economists and policy makers amid the worst economic crisis since the 1930s, though for many others, it is exactly the wrong approach.
Nobel-prize winning economist and New York Times columnist Paul Krugman addressed the plenary session of the conference, held at Keynes’ alma mater, Cambridge University, this week. And while most of his talk was technical, he left no doubt about just how sharply divided is the debate between Keynesian economists and their classical economic opponents, decrying a “descent into an intellectual Dark Age combined with the rejection of policy activism on political grounds.”
Krugman was referring to now dominant chorus of economists and politicians who oppose the interventionist policies Keynes called for as a means of combating recession and unemployment. “Why are we making so little use of Keynesian insights now that we’re living in an economy that, in many respects, resembles the economy of the 1930s?” Krugman asks.
And with characteristic rhetorical flourish, Krugman answers that “there is no excuse for the timidity of Barack Obama, the wishful thinking of Jean-Claude Trichet, and the determined ignorance of almost everyone in the Republican Party.”
The key insight of Keynes’ General Theory of Employment, Interest and Money, published in 1936, is that demand rather than supply governs economic activity. Keynesians hold that activist policies such as government spending on public works can compensate for economic weakness by boosting aggregate demand in the economy.
Some historians argue that it was precisely FDR’s economic experimentation in a plethora of social programs known as the New Deal that provided the Keynesian boost in aggregate demand that lifted America out of the Great Depression. Others argue that FDR’s policies actually retarded economic growth, and sent the economy back into recession. Still others cite the vast military build-up leading up to World War II to either support or refute Keynesian theory.
In contemporary terms, President Barack Obama’s first major initiative in office was passage of a controversial $787 billion stimulus bill, followed by his first budget, which nearly tripled the budget deficit. To supporters, these were bold efforts to boost aggregate demand in a dangerously depressed economy. To people like Paul Krugman, the president’s efforts were laudable, but didn’t go far enough. And to administration opponents, the massive spending seemed to radically ratchet up the economic vulnerability of an economy already burdened by debt and deficits.
At a time when the key economic debate is over whether to raise America’s debt limit — and how much budget cutting must take place to permit this — it would seem that the Keynesian approach is as out of favor today as it was ascendant in the Obama Administration’s first two years.
Administration critics who say the U.S. has ventured on an unsustainable fiscal path have gained the policy initiative. The U.S. national debt is on track to reach 101% of GDP in 10 years, well past the 90% mark where economists Carmen Reinhart and Kenneth Rogoff say countries grow at an average 1.3 percentage points slower rate than less indebted countries, and inflation ratchets up. If this model is correct, U.S. economic problems should considerably worsen.
But Keynesians would retort there has been a lot of gnashing of teeth about inflation, yet little evidence of it. Conservative economists variously respond “not yet,” or that ratings agency’s downgrading of America’s credit could suddenly send bonds plunging, rates rising and lock the U.S. in a fiscal trap from which it cannot easily emerge.
For now, both Democrats and Republicans are proposing budget cuts, although their numbers remain far enough apart as to make a raising of the U.S. debt ceiling genuinely in doubt. But it is a sure thing that Harvard economist Robert Barro, financial historian Niall Ferguson and many others will continue to challenge the intellectual viability of Keynesianism, just as Paul Krugman, his fellow Nobel prize winner Joseph Stiglitz and others will defend the legacy of this influential and controversial theory.
(Editor's Note: An earlier version of this story incorrectly stated that President Obama had quadrupled the national debt, it should have said that he nearly tripled the budget deficit. We apologize for any inconvenience.)