The Keynesian Debacle
Quoting Britain’s National Institute of Economic and Social Research, Nobel Laureate Paul Krugman pointed out that Britain and Italy are faring worse in the current recession than they did during the Great Depression of the 1930s.
Krugman contends it is because they have fallen into an austerity trap.
Lampooning the idea of belt tightening, Krugman contends in “The Austerity Debacle” that we have learned a lot about economics in the last 80 years but that “the policy elite decided to throw hard-won knowledge out the window”.
Krugman, a mouthpiece for the Keynesian crowd, apparently hasn’t learned enough yet.
Allow me to explain where Krugman and his Keynesian cohorts flew off the railroad tracks…
Keynesian Macroeconomics: A Simplified Mini-Primer
The heart and soul of Keynesian macroeconomics is a little concept called “counter cyclical fiscal policy“. It rolls right off the tongue at high-brow dinner parties when ya wanna impress rich widows for… welll… you know.
It is just a fancy way of saying that big government should deficit spend during a recession to stimulate demand to grow the economy; but that big government should reduce spending or raise taxes to reduce demand when “aggregate demand rises rapidly”… that’s what causes inflation.
Applying counter cyclical fiscal policy keeps a national economy on an even growth trajectory and prevents the type of extreme feast-or-famine economics that was commonplace before the 1930s.
Its a great idea that makes sense… and works.
But like all great ideas, such as communism, what looks good on paper can fall flat on its face when implemented incorrectly. That is what has happened to Keynesian macroeconomics today.
The Missing Puzzle Pieces
Krugman and the Keynesians must have glossed over or misunderstood these things:
- The private-sector drives economic growth, not governments
- Keynesian macroeconomics, at best, tweaks a national economy
- You pay down recession incurred debt during good economic times
Its that last ‘pay-down’ part that is the Achilles’ heel of Keynesian macroeconomics as practiced today. Long term it is generally ignored by Keynesians and world governments.
No self-respecting Keynesian would say the word “debt” unless they absolutely have to. For example, in Krugman’s article “The Austerity Debacle” the “D” word is never uttered.
The Keynesian Collapse
Both Europe and the United States have piled debt on top of debt for the last 80 years without paying it down in the good times… and there were plenty of good times.
We got away with it because of strong economic growth driven by general population growth. Macroeconomics and/or government fiscal policy had little to do with it.
Instead, in the U.S. and Europe, increased revenues taken in during good economic times were simply redirected into massive social programs. That and “mandatory spending” swallows up over 80% of the U.S. federal budget. It was probably justified by some economist’s bogus multiplier factor.
In calendar year 2011 the federal government spent $1.2 trillion more than it took in. Despite what Krugman says, on a $3.6 trillion budget you don’t get any more Keynesian than that during a recession!
When debt grows faster than the economy and inflation’s ability to mitigate its effects then eventually you have to do some belt tightening, or “fiscal consolidation“ as economists quaintly put it.
Recession or no, when you don’t pay attention to your bills then you don’t have a choice over when or where you can chose to pay them. That is what is happening to the U.S. and Europe now.
The last time the United States seriously attempted to pay down debt was after WWI in the 1920s. We kinda, sorta started a halfhearted attempt to pay down debt after WWII but then just gave up and haven’t tried ever since.
Until we do fiscal consolidation, Keynesian macroeconomics is more harmful than good right now. We must take our medicine to get well.
Yes, we are in a recession and Keynesian counter cyclical spending to increase demand is a logical and accepted method to fix the problem.
Unfortunately, the federal government has taken to many decades to face up to fiscal reality and the 2008 recession has only made things worse.
But once your debt level gets so large that the interest payments alone are a drag on the national economy and government spending exceeds 20% of GDP then fiscal consolidation is the only answer. Ya gotta pay the piper.
Yes, that is painful and, yes, it will drag down an economy in the short term.
But the longer we wait before we bite the bullet, the more devastating the long-term consequences.