Out of crisis comes opportunity. Unfortunately, neo-Keynesians
are trying to seize this chance to rewrite both economic history
and theory. As case in point is the Washington Post’s
October 19
piece by Robert Skidelsky entitled “We Forgot Everything
Keynes Taught Us.” Attempting to rehabilitate Keynesian economics
and denigrate the more successful monetarist approach, the
neo-Keynesians achieve neither. However allowing the attempt to
go unchallenged would, in Skidelsky’s own words, risk basing
“economics on assumptions that [have been] so often discredited
by events.”
Skidelsky’s neo-Keynesian thesis is “the New Economics, as
Keynesian economics was known in the United States….[It] held
that governments should vary taxes and spending to offset any
tendency for inflation to rise or output to fall.” He states such
manipulation was beneficial, effective, and would have prevented
the current financial crisis. That it did not is because of the
ascendancy of the monetarist school’s counter-argument that
“inflation was due to governments’ printing too much money” and
that “asset bubbles can [not] coexist with a stable price level.”
The fatal flaw in this simplistic explanation, that economic
downturns could be governmentally fine-tuned away, are its
empirical and theoretical inaccuracies. First, Keynesian
economics was neither beneficial nor effective and has been
rightfully superseded as a result. Second, nowhere in the
monetarist approach exists the “theory” that stable prices equal
stable markets; nor are there grounds for assuming a
Keynesian-regulated economy equates to regulated markets.
Despite conceding the Keynesian failure — it “generated its own
problems, causing it to collapse into stagflation in the 1970s”
— Skidelsky states that “the years from 1950 to 1975 were a
golden age.” Ignoring the author’s arbitrary date selection, an
examination of post-WWII until monetarism’s successful
implementation by Federal Reserve chairman Paul Volcker in the
1980s shows the U.S. experienced eight recessions during
1947-1982. During this 36-year period, CPI-U inflation
(year-over-year) was above four percent in 19 years. Hardly
“golden” results.
THESE RESULTS are intolerable today precisely because of the
monetarist school’s success. Correctly attributing its rise to
Milton Friedman (though incorrectly dating it to the 1970s —
Friedman’s classic work, A Monetary History of the United
States, 1867-1960, was published in 1963), Friedman
definitively showed monetary policy’s primacy over Keynes’s
fiscal policy. Its brilliance was basic: control monetary growth
and you control inflation.
Monetarism’s success has caused us to forget inflation’s
devastating effects. However, Keynes himself did not: “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.” Friedman was that one man in a million and,
interestingly, he included Keynes’s quotation in his last major
economic work.
Adherence to monetarism has almost eliminated U.S. inflation.
During 1983-2007, inflation has been above four percent only five
times. Similarly, only two recessions have occurred, one of which
was the technical recession following 9/11/01.
Skidelsky is grudgingly forced to acknowledge this success (the
“formula seemed to work”) but then tries to shift focus to say
stable prices did not equate to stable markets. Yet there is no
reason or monetarist claim the two should equate. Removing
inflation certainly takes away a major source of instability, but
hardly all.
Nothing prevents money from flowing into a sector and driving up
prices — as occurred in the housing sector. The neo-Keynesians
continue to hold the common misconception that rising prices
equal inflation; when in fact, the relationship runs in reverse:
a growing money supply (inflation) equals rising prices.
The neo-Keynesians also make another basic theoretical error by
assuming their prescribed manipulation of fiscal policy —
regulating the economy — necessarily equates to regulating
markets. It does not, as eight recessions in 36 years attests.
THEIR FINAL ERROR is to attempt to use economic uncertainty (a
point Skidelsky uses seven times in the last half of his article)
to undercut monetarism. Again, just the opposite is true. The
Keynesian approach, with its emphasis on constant fiscal
tinkering on the economy, relies far more on certainty and
“knowability” than monetarism. Friedman promoted monetarism
precisely because of economic uncertainty: controlling money
supply is much easier than controlling the entire economy as
Keynesians attempt. Reliance on certainty indicts Keynes, not
Friedman.
Aside from his empirical and theoretical errors, the author’s
worst failing is the implicit “philosophization” of the current
crisis. Keynes and Friedman produced economic theories, not
political ones. Certainly both have been seized by politicians
for their purposes, but this is not economics’ role or its
failing. If we are going to discern the problems causing the
current financial crisis, far better that we pursue it
economically rather than politically. And far more likely that we
will solve it that way as well. If we do so, we will stay on the
current and correct monetarist course and resist Keynesian
attempts to turn back the clock on the economy.
