Keynes’ Ideas Don’t Work

by Burt on July 9, 2013

Christina Romer, former chairman of President Obama’s Council of Economic Advisers, made this revealing statement two years ago: “The polarization of fiscal policy is one of the worst legacies to come out of the recession. Before the crisis, there was agreement that what you do when you run out of monetary tools is fiscal stimulus [i.e. a stimulus package]. Suddenly it’s like we’re back in the 1930s.”

Romer unwittingly points to the key cause in the current recession and why it is dragging on so painfully. John Maynard Keynes, the British economist of the 1930s, recommended massive government spending to get economic recovery. Keynes was arguing against the classical economists who favored letting free markets create a recovery.

FDR followed the Keynesian line of thinking when he promoted the huge federal spending on the WPA, the CCC, the TVA, and the AAA as part of his New Deal. Romer recognizes FDR as the turning point where Keynesian spending became fashionable and classical economics lost favor. Paul Samuelson, a Keynesian who in 1948 would write the best-selling economics textbook of all time, said, “Bliss was it in that dawn to be alive, but to be young was very heaven,” when Keynes’s book The General Theory of Employment, Interest and Money was first published in 1936. Romer, President Obama, and the current economic thinkers are all Keynesians, and they are all puzzled by the failure of Obama’s stimulus packages to spark economic development.

Why should these leaders keep an open mind? Two questions are critical. First, when has Keynesian economics ever produced a solid economic recovery? Answer: I can’t think of an example, and no Keynesian discussing this subject who I have read thus far has yet made the case for any Keynesian recovery in history. In other words, we have a theory with no notches in the win column–and many notches in the loss column. FDR and the Great Depression is one example; unemployment in the U.S. was 20.7 percent almost ten years after the stock market crash in 1929. A second example is the stagflation of the 1970s.

On the other side, a move toward classical economics helped us get out of both the Great Depression of the 1930s and the stagflation of the 1970s. After World War II, President Harry Truman allowed Congress to slash the corporate tax, the capital stock tax, and even the income tax (though the cut on the income tax was not as large). Businessmen immediately responded to lower taxes and freer markets.

In a similar way, President Ronald Reagan cut tax rates in the 1980s, and that helped spark an economic recovery that lasted for one quarter of a century. Then, in 2008, we turned back to Keynesian economics–with stimulus packages, cash for clunkers, various bailouts, and huge federal debts. And we are mired in a large economic slowdown.

We need an openness to different economic ideas. Large debts and massive spending have again failed; let’s try freedom. Our nation’s Founders did and found the taste refreshing.

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