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Posts Tagged ‘Keynes’

What would Keynes say if he were alive today?

We’ve considered Keynesian economics and policy in several blogs. For example, a year ago in the post, What would Keynes say?, we looked at two articles arguing for Keynesian expansionary polices. More recently, in the blogs, End of the era of liquidity traps? and A risky dose of Keynesianism at the heart of Trumponomics, we looked at whether Donald Trump’s proposed policies are more Keynesian than his predecessor’s and at the opportunities and risks of such policies.

The article below, Larry Elliott updates the story by asking what Keynes would recommend today if he were alive. It also links to two other articles which add to the story.

Elliott asks his imaginary Keynes, for his analysis of the financial crisis of 2008 and of what has happened since. Keynes, he argues, would explain the crisis in terms of excessive borrowing, both private and public, and asset price bubbles. The bubbles then burst and people cut back on spending to claw down their debts.

Keynes, says Elliott, would approve of the initial response to the crisis: expansionary monetary policy (both lower interest rates and then quantitative easing) backed up by expansionary fiscal policy in 2009. But expansionary fiscal policies were short lived. Instead, austerity fiscal policies were adopted in an attempt to reduce public-sector deficits and, ultimately, public-sector debt. This slowed down the recovery and meant that much of the monetary expansion went into inflating the prices of assets, such as housing and shares, rather than in financing higher investment.

He also asks his imaginary Keynes what he’d recommend as the way forward today. Keynes outlines three alternatives to the current austerity policies, each involving expansionary fiscal policy:

•  Trump’s policies of tax cuts combined with some increase in infrastructure spending. The problems with this are that there would be too little of the public infrastructure spending that the US economy needs and that the stimulus would be poorly focused.
•  Government taking advantage of exceptionally low interest rates to borrow to invest in infrastructure. “Governments could do this without alarming the markets, Keynes says, if they followed his teachings and borrowed solely to invest.”
•  Use money created through quantitative easing to finance public-sector investment in infrastructure and housing. “Building homes with QE makes sense; inflating house prices with QE does not.” (See the blogs, A flawed model of monetary policy and Global warning).

Increased government spending on infrastructure has been recommended by international organisations, such as the OECD and the IMF (see OECD goes public and The world economic outlook – as seen by the IMF). With the rise in populism and worries about low economic growth throughout much of the developed world, perhaps Keynesian fiscal policy will become more popular with governments.

Keynesian economics: is it time for the theory to rise from the dead?, The Guardian, Larry Elliott (11/12/16)


  1. What are the main factors determining a country’s long-term rate of economic growth?
  2. What are the benefits and limitations of using fiscal policy to raise global economic growth?
  3. What are the benefits and limitations of using new money created by the central bank to fund infrastructure spending?
  4. Draw an AD/AS diagram to illustrate the effect of a successful programme of public-sector infrastructure projects on GDP and prices.
  5. Draw a Keynesian 45° line diagram to illustrate the effect of a successful programme of public-sector infrastructure projects on actual and potential GDP.
  6. Why might an individual country benefit more from a co-ordinated expansionary fiscal policy of all countries rather than being the only country to pursue such a policy?
  7. Compare the relative effectiveness of increased government investment in infrastructure and tax cuts as alterative forms of expansionary fiscal policy.
  8. What determines the size of the multiplier effect of such policies?
  9. What supply-side policies could the government adopt to back up monetary and fiscal policy? Are the there lessons here from the Japanese government’s ‘three arrows’?
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Brazil: suffering from an old economic problem in the new world

The article below looks at the economy of Brazil. The statistics do not look good. Real output fell last year by 3.8% and this year it is expected to fall by another 3.3%. Inflation this year is expected to be 9.0% and unemployment 11.2%, with the government deficit expected to be 10.4% of GDP.

The article considers Keynesian economics in the light of the case of Brazil, which is suffering from declining potential supply, but excess demand. It compares Brazil with the case of most developed countries in the aftermath of the financial crisis. Here countries have suffered from a lack of demand, made worse by austerity policies, and only helped by expansionary monetary policy. But the effect of the monetary policy has generally been weak, as much of the extra money has been used to purchase assets rather than funding a growth in aggregate demand.

Different policy prescriptions are proposed in the article. For developed countries struggling to grow, the solution would seem to be expansionary fiscal policy, made easy to fund by lower interest rates. For Brazil, by contrast, the solution proposed is one of austerity. Fiscal policy should be tightened. As the article states:

Spending restraint might well prove painful for some members of Brazilian society. But hyperinflation and default are hardly a walk in the park for those struggling to get by. Generally speaking, austerity has been a misguided policy approach in recent years. But Brazil is a special case. For now, anyway.

The tight fiscal policies could be accompanied by supply-side policies aimed at reducing bureaucracy and inefficiency.

Brazil and the new old normal: There is more than one kind of economic mess to be in The Economist, Free Exchange Economics (12/10/16)


  1. Explain what is meant by ‘crowding out’.
  2. What is meant by the ‘liquidity trap’? Why are many countries in the developed world currently in a liquidity trap?
  3. Why have central banks in the developed world found it difficult to stimulate growth with policies of quantitative easing?
  4. Under what circumstances would austerity policies be valuable in the developed world?
  5. Why is crowding out of fiscal policy unlikely to occur to any great extent in Europe, but is highly likely to occur in Brazil?
  6. What has happened to potential GDP in Brazil in the past couple of years?
  7. What is meant by the ‘terms of trade’? Why have Brazil’s terms of trade deteriorated?
  8. What sort of policies could the Brazilian government pursue to raise growth rates? Are these demand-side or supply-side policies?
  9. Should Brazil pursue austerity policies and, if so, what form should they take?
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What would Keynes say?

Here are two thought-provoking articles from The Guardian. They look at macroeconomic policy failures and at the likely consequences.

In first article, Larry Elliott, the Guardian’s Economics Editor, argues that Keynesian expansionary fiscal and monetary policy by the USA has allowed it to achieve much more rapid recovery than Europe, which, by contrast, has chosen to follow fiscal austerity policies and only recently mildly expansionary monetary policy through a belated QE programme.

In the UK, the recovery has been more significant than in the eurozone because of the expansionary monetary policies pursued by the Bank of England in its quantitative easing programme. ‘And when it came to fiscal policy, George Osborne quietly abandoned his original deficit reduction targets when the deleterious impact of an over-aggressive austerity strategy became apparent.’

So, according to Larry Elliott, Europe should ease up on austerity and governments should invest more though increased borrowing.

‘This is textbook Keynesian stuff. Unemployment is high, which means businesses are reluctant to invest. The lack of investment means that demand for new loans is weak. The weakness of demand for loans means that driving down the cost of borrowing through QE will have little impact. Therefore, it is up to the state to break into the vicious circle by investing itself, something it can do cheaply and – because there are so many people unemployed and businesses working well below full capacity – without the risk of inflation.’

In the second article, Paul Mason, the Economics Editor at Channel 4 News, points to the large increases in both public- and private- sector debt since 2007, despite the recession. Such debt, he argues, is becoming unsustainable and hence the world could be on the cusp of another crash.

Mason quotes from the Bank for International Settlements Quarterly Review September 2015 – media briefing. In this briefing, Claudio Borio,
Head of the Monetary & Economic Department, argues that:

‘Since at least 2009, domestic vulnerabilities have developed in several emerging market economies (EMEs), including some of the largest, and to a lesser extent even in some advanced economies, notably commodity exporters. In particular, these countries have exhibited signs of a build-up of financial imbalances, in the form of outsize credit booms alongside strong increases in asset prices, especially property prices, supported by unusually easy global liquidity conditions. It is the coincidence of the reversal of these booms with external vulnerabilities that should be watched most closely.’

We have already seen a fall in commodity prices, reflecting the underlying lack of demand, and large fluctuations in stock markets. The Chinese economy is slowing markedly, as are several other EMEs, and Europe and Japan are struggling to recover, despite their QE programmes. The USA is no longer engaging in QE and there are growing worries about a US slowdown as growth in the rest of the world slows. Mason, quoting the BIS briefing, states that:

‘In short, as the BIS economists put it, this is “a world in which debt levels are too high, productivity growth too weak and financial risks too threatening”. It’s impossible to extrapolate from all this the date the crash will happen, or the form it will take. All we know is there is a mismatch between rising credit, falling growth, trade and prices, and a febrile financial market, which, at present, keeps switchback riding as money flows from one sector, or geographic region, to another.’

So should there be more expansionary policy, or should rising debt levels be reduced by tighter monetary policy? Read the articles and then consider the questions.

I told you so. Obama right and Europe wrong about way out of Great Recession The Guardian, Larry Elliott (1/11/15)
Apocalypse now: has the next giant financial crash already begun? The Guardian, Paul Mason (1/11/15)


  1. To what extent do the two articles (a) agree and (b) disagree?
  2. How might a neo-liberal economist reply to the argument that what is needed is more expansionary fiscal and monetary policies?
  3. What is the transmission mechanism whereby quantitative easing affects real output? Is it a reliable mechanism for policymakers?
  4. What would make a financial crash less likely? Is this something that governments or central banks can influence?
  5. Why has productivity growth been so low in many countries? What would increase it?
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The political dynamite of calm economic reflection

In a carefully argued article in the New Statesman, the UK Business Secretary, Vince Cable, considers the slow recovery in the economy and whether additional measures should be adopted. He sums up the current state of the economy as follows:

The British economy is still operating at levels around or below those before the 2008 financial crisis and roughly 15 per cent below an albeit unsustainable pre-crisis trend. There was next to no growth during 2012 and the prospect for 2013 is of very modest recovery.

Unsurprisingly there is vigorous debate as to what has gone wrong. And also what has gone right; unemployment has fallen as a result of a million (net) new jobs in the private sector and there is vigorous growth of new enterprises. Optimistic official growth forecasts and prophets of mass unemployment have both been confounded.

He argues that supply-side policies involving “a major and sustained commitment to skills, innovation and infrastructure investment” are essential if more rapid long-term growth is to be achieved. This is relatively uncontroversial.

But he also considers the claim that austerity has kept the economy from recovering and whether policies to tackle the negative output gap should be adopted, even if this means a short-term increase in government borrowing.

But crude Keynesian policies of expanding aggregate demand are both difficult to implement and may not take into account the particular circumstance of the current extended recession – or depression – in the UK and in many eurozone countries. World aggregate demand, however, is not deficient. In fact it is expanding quite rapidly, and with the sterling exchange rate index some 20% lower than before the financial crisis, this should give plenty of opportunity for UK exporters.

Yet expanding UK aggregate demand is proving difficult to achieve. Consumers, worried about falling real wages and large debts accumulated in the years of expansion, are reluctant to increase consumption and take on more debts, despite low interest rates. In the light of dampened consumer demand, firms are reluctant to invest. This makes monetary policy particularly ineffective, especially when banks have become more risk averse and wish to hold higher reserves, and indeed are under pressure to do so.

So what can be done? He argues that there is “some scope for more demand to boost output, particularly if the stimulus is targeted on supply bottlenecks such as infrastructure and skills.” In other words, he advocates policies that will simultaneously increase both aggregate demand and aggregate supply. Monetary policy, involving negative real interest rates and quantitative easing, has helped to prevent a larger fall in real aggregate demand and a deeper dive into recession, but the dampened demand for money and the desire by banks to build their reserves has meant a massive fall in the money multiplier. Perhaps monetary policy needs to be more aggressive still (see the blog post, Doves from above), but this may not be sufficient.

Which brings Dr Cable to the political dynamite! He advocates an increase in public investment on infrastructure (schools and colleges, hospitals, road and rail projects and housing, and considers whether this should be financed, not by switching government expenditure away from current spending, but by borrowing more.

Such a strategy does not undermine the central objective of reducing the structural deficit, and may assist it by reviving growth. It may complicate the secondary objective of reducing government debt relative to GDP because it entails more state borrowing; but in a weak economy, more public investment increases the numerator and the denominator.

He raises the question of whether the balance of risks has changed: away from the risk of increased short-term borrowing causing a collapse of confidence to the risk of lack of growth causing a deterioration in public finances and this causing a fall in confidence. As we saw in the blog post Moody Blues, the lack of growth has already caused one ratings agency (Moody’s) to downgrade the UK’s credit rating. The other two major agencies, Standard & Poor’s and Fitch may well follow suit.

The day after Dr Cable’s article was published, David Cameron gave a speech saying that the government would stick to its plan of deficit reduction. Not surprisingly commentators interpreted this as a split in the Coalition. Carefully argued economics from Dr Cable it might have been, but political analysts have seen it as a hand grenade, as you will see from some of the articles below.

When the facts change, should I change my mind? New Statesman, Vince Cable (6/3/13)
Keynes would be on our side New Statesman, Vince Cable (12/1/11)
Exclusive: Vince Cable calls on Osborne to change direction New Statesman, George Eaton (67/3/13)
Vince Cable: Borrowing may not be as bad as slow growth BBC News (7/3/13)
Vince Cable makes direct challenge to Cameron over economic programme The Guardian, Nicholas Watt (7/3/13)
Vince Cable Says George Osborne Must Change Course And Borrow More To Revive Growth Huffington Post, Ned Simons (6/3/13)
David Cameron and Vince Cable at war over route to recovery Independent, Andrew Grice (6/3/13)
Vince Cable: Borrowing may not be as bad as slow growth BBC News, James Landale (6/3/13)
David Cameron: We will hold firm on economy BBC News (7/3/13)
David Cameron: We will hold firm on economy BBC News (7/3/13)
Clegg Backs Cable Over Controversial Economy Comments LBC Radio, Nick Clegg (7/3/13)
It’s plain what George Osborne needs to do – so just get on and do it The Telegraph, Jeremy Warner (6/3/13)
Vince Cable’s plan B: a “matter of judgement” BBC News, Stephanie Flanders (7/3/13)
George Osborne needs to turn on the spending taps The Guardian, Phillip Inman (12/3/13)


  1. Why has monetary policy proved ineffective in achieving a rapid recovery from recession?
  2. Distinguish between discretionary fiscal policy and automatic fiscal stabilisers.
  3. Why has the existence of automatic fiscal stabilisers meant that the public-sector deficit has been difficult to bring down?
  4. In what ways has the balance of risks in using discretionary fiscal policy changed over the past three years?
  5. In what ways is the depression of the late 2000s/early 2010s (a) similar to and (b) different from the Great Depression of the early 1930s?
  6. In what ways is the structure of public-sector debt in the UK different from that in many countries in the eurozone? Why does this give the government more scope for expansionary fiscal policy?
  7. Why does the Office of Budget Responsibility’s estimates of the tax and government expenditure multipliers suggest that “if fiscal policy is to work in a Keynesian manner, it needs to be targeted carefully, concentrating on capital projects”?
  8. Why did Keynes argue that monetary policy is ineffective at the zero bound (to use Dr Cable’s terminology)? Are we currently at the zero bound? If so what can be done?
  9. Has fiscal tightening more than offset loose monetary policy?
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What would Keynes do?

The debate about how much and how fast to cut the deficit has often been presented as a replaying of the debates of the 1920s and 30s between Keynes and the Treasury.

The justification for fiscal expansion to tackle the recession in 2008/9 was portrayed as classic Keynesianism. The problem was seen as a short-term one of a lack of spending. The solution was seen as one of expansionary fiscal and monetary policies. There was relatively little resistance to such stimulus packages at the time, although some warned against the inevitable growth in public-sector debt.

But now that the world economy is in recovery mode – albeit a highly faltering one in many countries – and given the huge overhang of government deficits and debts, what would Keynes advocate now? Here there is considerable disagreement.

Vince Cable, the UK Business Secretary, argues that Keynes would have supported the deficit reduction plans of the Coalition government. He would still have stressed the importance of aggregate demand, but would have argued that investor and consumer confidence, which are vital preconditions for maintaining private-sector demand, are best maintained by a credible plan to reduce the deficit. What is more, inflows of capital are again best encouraged by fiscal rectitude. As he argued in the New Statesman article below

One plausible explanation, from Olivier Blanchard of the IMF, is that the Keynesian model of fiscal policy works well enough in most conditions, but not when there is a fiscal crisis. In those circumstances, households and businesses react to increased deficits by saving more, because they expect spending cuts and tax increases in the future. At a time like this, fiscal multipliers decline and turn negative. Conversely, firm action to reduce deficits provides reassurance to spend and invest. Such arguments are sometimes described as “Ricardian equivalence” – that deficits cannot stimulate demand because of expected future tax increases.

Those on the other side are not arguing against a long-term reduction in government deficits, but rather that the speed and magnitude of cuts should depend on the state of the economy. Too much cutting and too fast would cause a reduction in aggregate demand and a consequent reduction in output. This would undermine confidence, not strengthen it. Critics of the Coalition government’s policy point to the fragile nature of the recovery and the historically low levels of consumer confidence

The following articles provide some of the more recent contributions to the debate.

Keynes would be on our side New Statesman, Vince Cable (12/1/11)
Cable’s attempt to claim Keynes is well argued — but unconvincing New Statesman, David Blanchflower and Robert Skidelsky (27/1/11)
Growth or cuts? Keynes would not back the coalition – especially over jobs Guardian, Larry Elliott (17/1/11)
People do not understand how bad the economy is Guardian, Vince Cable (20/5/11)
The Budget Battle: WWHD? (What Would Hayek Do?) AK? (And Keynes?) PBS Newshour, Paul Solman (29/4/11)
Keynes vs. Hayek, the Rematch: Keynes Responds PBS Newshour, Paul Solman (2/5/11)
On Not Reading Keynes New York Times, Paul Krugman (1/5/11)
Would a More Expansionary Fiscal Policy Be Effective Right Now? Yes: On the Invisible Bond Market and Inflation Vigilantes Once Again Blog: Grasping Reality with a Prehensile Tail, Brad DeLong (12/5/11)
Keynes, Crisis and Monopoly Capitalism The Real News, Robert Skidelsky and Paul Jay (29/4/11)


  1. What factors in the current economic environment affect the level of consumer confidence?
  2. What are the most important factors that will determine whether or not a policy of fiscal consolidation will drive the economy back into recession?
  3. How expansionary is monetary policy at the moment? Is it enough simply to answer this question by reference to central bank repo rates?
  4. What degree of crowding out would be likely to result from an expansionary fiscal policy in the current economic environment? If confidence is adversely affected by expansionary fiscal policy, would this represent a form of crowding out?
  5. Why may fiscal multipliers have ‘turned negative’?
  6. For what reasons might a tight fiscal policy lead to an increase in aggregate demand?
  7. Your turn: what would Keynes have done in the current macroeconomic environment?
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The ‘paradox of cuts’

Keynes referred to the ‘paradox of thrift’ (see, for example, Box 17.5 on page 492 of Sloman and Wride, Economics, 7th edition). The paradox goes something like this: if individuals save more, they will increase their consumption possibilities in the future. If society saves more, however, this may reduce its future income and consumption. Why should this be so? Well, as people in general save more, they will spend less. Firms will thus produce less. What is more, the lower consumption will discourage firms from investing. Thus, through both the multiplier and the accelerator, GDP will fall.

What we have in the paradox of thrift is an example of the ‘fallacy of composition’ (see Sloman and Wride, Box 3.7 on page 84). What applies at the individual level will not necessarily apply at the aggregate level. The paradox of thrift applied in the Great Depression of the 1930s. People cutting back on consumption drove the world economy further into depression.

Turn the clock forward some 80 years. On 26/27 June 2010, leaders of the G20 countries met in Canada to consider, amongst other things, how to protect the global economic recovery while tackling the large public-sector deficits. These deficits have soared as a result of two things: (a) the recession of 2008/9, which reduced tax revenues and resulted in more people claiming benefits, (b) the expansionary fiscal policies adopted to bring countries out of recession.

But the leaders were divided on how much to cut now. Some, such as the new Coalition government in the UK, want to cut the deficit quickly in order to appease markets and avert a Greek-style crisis and a lack of confidence in the government’s ability to service the debt. Others, such as the Obama Administration in the USA, want to cut more slowly so as not to put the recovery in jeopardy. Nevertheless, cuts were generally agreed, although agreement about the timing was more vague.

So where is the fallacy of composition? If one country cuts, then it is possible that increased demand from other countries could drive recovery. If all countries cut, however, the world may go back into recession. What applies to one country, therefore, may not apply to the world as a whole.

Let’s look at this in a bit more detail and consider the individual elements of aggregate demand. If there are to be cuts in government expenditure, then there has to be a corresponding increase in aggregate demand elsewhere, if growth is to be maintained. This could come from increased consumption. But, with higher taxes and many people saving more (or reducing their borrowing) for fear of being made redundant or, at least, of having a cut in their incomes, there seems to be little sign that consumption will be the driver of growth.

Then there is investment. But, fearing a ‘double-dip recession’, business confidence is plummeting (see) and firms are likely to be increasingly reluctant to invest. Indeed, after the G20 summit, stock markets around the world fell. On 29 June, the FTSE 100 fell by 3.10% and the main German and French stock market indices, the Dax and the Cac 40, fell by 3.33% and 4.01% respectively. This was partly because of worries about re-financing the debts of various European countries, but it was partly because of fears about recovery stalling.

The problem is that cuts in government expenditure and rises in taxes directly affect the private sector. If government capital expenditure is cut, this will directly affect the construction industry. Even if the government makes simple efficiency savings, such as reducing the consumption of paper clips or paper, this will directly affect the private stationery industry. If taxes are raised, consumers are likely to buy less. Under these circumstances, no wonder many industries are reluctant to invest.

This leaves net exports (exports minus imports). Countries generally are hoping for a rise in exports as a way of maintaining aggregate demand. But here we have the fallacy of composition in its starkest form. If one country exports more, then this can boost its aggregate demand. But if all countries in total are to export more, this can only be achieved if there is an equivalent increase in global imports: after all, someone has to buy the exports! And again, with growth faltering, the global demand for imports is likely to fall, or at best slow down.

The following articles consider the compatibility of cuts and growth. Is there a ‘paradox of cuts’ equivalent to the paradox of thrift?

Osborne’s first Budget? It’s wrong, wrong, wrong! Independent on Sunday, Joseph Stiglitz (27/6/10)
Strategy: Focus switches from exit to growth Financial Times, Chris Giles (25/6/10)
Once again we must ask: ‘Who governs?’ Financial Times, Robert Skidelsky (16/6/10)
Europe’s next top bailout… MoneyWeb, Guy Monson and Subitha Subramaniam (9/6/10)
Hawks hovering over G20 summit Financial Times (25/6/10)
G20 applauds fiscal austerity but allows for national discretion Independent, Andrew Grice and David Usborne (28/6/10)
To stimulate or not to stimulate? That is the question Independent, Stephen King (28/6/10)
Now even the US catches the deficit reduction habit Telegraph, Jeremy Warner (28/6/10)
George Osborne claims G20 success Guardian, Larry Elliott and Patrick Wintour (28/6/10)
G20 accord: you go your way, I’ll go mine Guardian, Larry Elliott (28/6/10)
G20 summit agrees on deficit cuts by 2013 BBC News (28/6/10)
IMF says G20 could do better BBC News blogs: Stephanomics, Stephanie Flanders (27/6/10)
Are G20 summits worth having? What should the G20′s top priority be? (Economics by invitation): see in particular The G20 is heading for a “public sector paradox of thrift”, John Makin The Economist (25/6/10)
Why it is right for central banks to keep printing Financial Times, Martin Wolf (22/6/10)
In graphics: Eurozone in crisis: Recovery Measures BBC News (24/6/10)
A prophet in his own house The Economist (1/7/10)
The long and the short of fiscal policy Financial Times, Clive Crook (4/7/10)

G20 Communiqué
The G20 Toronto Summit Declaration (27/6/10) (see particularly paragraph 10)


  1. Consider the arguments that economic growth and cutting deficits are (a) complementary aims (b) contradictory aims.
  2. Is there necessarily a ‘paradox of cuts’? Explain.
  3. How is game theory relevant in explaining the outcome of international negotiations, such as those at the G20 summit?
  4. Would it be wise for further quantitative easing to accompany fiscal tightening?
  5. What is the best way for governments to avoid a ‘double-dip recession’?
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Keynes is dead; long live Keynes

The following two clips look at John Maynard Keynes’s contribution to macroeconomics and whether his theories have been proved to be correct by the events of the past two years.

“What would John Maynard Keynes make of the financial crisis and the credit crunch?” In the first clip, “Author Peter Clarke, former professor of modern British history at Cambridge University, and the former Conservative chancellor Lord Lamont consider whether Keynes’s ideas were twisted by modern politicians to support their desires to run big spending deficits.”

What would Keynes make of the crisis? BBC Today Programme (25/9/09)
Is Keynes influencing today’s politics? (video) BBC News (2/10/09)


  1. How is the recent crisis and recession similar to and different from the Great Depression of the inter-war period?
  2. Can recent fiscal policies adopted around the world be described as Keynesian?
  3. How would a government of a Keynesian persuasion attempt to manage the move from recession to economic growth and deal with the problem of mounting public-sector debt?
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Repeat of the Great Depression – or learning the lessons from the past?

The early part of the current recession, dating from April 2008, had much in common with the Great Depression dating from June 1929. But the Great Depression lasted three years. So does this grim prospect await the world this time round? Or have we learned the lessons of the past and will the policies of giving economies a large fiscal stimulus, combined with bank rescues and quantitative easing, help to pull the world out of recession this year? The following articles look at the issues.

The recession tracks the Great Depression Martin Wolf, Financial Times (16/6/09)
A Tale of Two Depressions Barry Eichengreen, Kevin H. O’Rourke, Vox (4/6/09)
Economics: How the world economy might recover its poise Financial Times (15/6/09)
Weak recovery in sight but damage from crisis likely to be long-lasting, says OECD OECD (24/6/09)
OECD sees strongest outlook since 2007 Financial Times (24/6/09)
Press Release Board of Governors of the US Federal Reserve System (24/6/09)

You might also like to watch the following two videos. The first uses historical footage to examine the Wall Street Crash of 1929 and the Great Depression that followed. The second is an interview with Joseph Stiglitz about whether the recession of 2008/9 is heading for another Great Depression.
The 1929 Crash (1 of 6) Nibelungensohn, YouTube (27/2/09). Note that you can link to the other five parts of this from this link.
Joseph Stiglitz: ‘This is worse than the Great Depression’ NBC Nightly News (10/2/09)


  1. Why may the past be a poor guide to the present and future?
  2. What dangers are there from the policies of expanding aggregate demand through fiscal and monetary policies?
  3. Explain why the ‘race to full recovery is likely to be long, hard and uncertain.
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An economic theory vacuum?

The current financial crisis had led to Keynesian theory coming back into fashion. Governments all around the world have put in place a significant fiscal and monetary stimulus to try to mitigate the impact of the downturn. But is this really Keynesian policy at work? Keynes argued for permanent and tough controls on the financial sector to allow the government to pursue a policy of full employment. It would be difficult that current policies are therefore pure Keynesian policies, so is there an economic theory vacuum with market economics discredited, but Keynesian economics not really taking its place? The article below looks at how economic theory has changed in recent months and considers whether we need a ‘new’ Keynes.

Wanted: the Keynes for our times Guardian (22/12/08)


  1. Explain the difference between classical and Keynesian beliefs with respect to government intervention in the ecoomy.
  2. Analyse the extent to which the recent policy stimulus has been Keynesian in nature.
  3. Discuss the changes that have taken place in economic policy during 2008/9 in the context of economic theory.
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Can Keynesianism ever be ‘crass’?

Peer Steinbrück, the German finance minister, has ridiculed the UK’s VAT cut and accused Gordon Brown of ‘crass Keynesianism’ in cutting VAT by 2.5 percentage points. He argued that the fiscal stimulus will raise the level of UK public debt to such an extent that it will take a generation to pay off. Gordon Brown has dismissed the attack as ‘internal German politics’, a stance that was given some credibility when Angela Merkel threw her weight behind a €200bn Europe-wide fiscal stimulus plan, seeming thereby to contradict the views of her own finance minister.

Brown’s VAT cut just crass Keynesianism, say Germans Guardian (11/12/08)
Germany attacks ‘depressing’ UK economic rescue Times Online (11/12/08)
Brown hits back at German criticism of his economic rescue plan ahead of summit Times Online (11/12/08)
Angela Merkel plays Scrooge. Thank goodness Times Online (11/12/08)
Angela Merkel throws weight behind Brown’s fiscal stimulus approach Guardian (11/12/08)


  1. Why may the boost to aggregate demand from the fiscal measures announced in the pre-Budget report be less than the Chancellor hoped?
  2. What would be the effect on the budget deficit if the Chancellor had given no fiscal boost to the economy and the recession, as a result, was deeper?
  3. Can Keynesianism ever be “crass”?
  4. How would you design a fiscal policy for maximum impact in combatting a recession?
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