Best of the Week
Most Popular
1. Stock Markets and the History Chart of the End of the World (With Presidential Cycles) - 28th Aug 20
2.Google, Apple, Amazon, Facebook... AI Tech Stocks Buying Levels and Valuations Q3 2020 - 31st Aug 20
3.The Inflation Mega-trend is Going Hyper! - 11th Sep 20
4.Is this the End of Capitalism? - 13th Sep 20
5.What's Driving Gold, Silver and What's Next? - 3rd Sep 20
6.QE4EVER! - 9th Sep 20
7.Gold Price Trend Forecast Analysis - Part1 - 7th Sep 20
8.The Fed May “Cause” The Next Stock Market Crash - 3rd Sep 20
9.Bitcoin Price Crash - You Will be Suprised What Happens Next - 7th Sep 20
10.NVIDIA Stock Price Soars on RTX 3000 Cornering the GPU Market for next 2 years! - 3rd Sep 20
Last 7 days
Gold & Silver Begin New Advancing Cycle Phase - 6th May 21
Vaccine Economic Boom and Bust - 6th May 21
USDX, Gold Miners: The Lion and the Jackals - 6th May 21
What If You Turn Off Your PC During Windows Update? Stuck on Automatic Repair Nightmare! - 6th May 21
4 Insurance Policies You Should Consider Buying - 6th May 21
Fed Taper Smoke and Mirrors - 5th May 21
Global Economic Recovery 2021 and the Dark Legacies of Smoot-Hawley - 5th May 21
Utility Stocks Continue To Rally – Sending A Warning Signal Yet? - 5th May 21
ROIMAX Trading Platform Review - 5th May 21
Gas and Electricity Price Trends so far in 2021 for the United Kingdom - 5th May 21
Crypto Bubble Mania Free Money GPU Mining With NiceHash Continues... - 4th May 21
Stock Market SPX Short-term Correction - 4th May 21
Gold & Silver Wait Their Turn to Ride the Inflationary Wave - 4th May 21
Gold Can’t Wait to Fall – Even Without USDX’s Help - 4th May 21
Stock Market Investor Psychology: Here are 2 Rare Traits Now on Display - 4th May 21
Sheffield Peoples Referendum May 6th Local Elections 2021 - Vote for Committee Decision's or Dictatorship - 4th May 21
AlphaLive Brings Out Latest Trading App for Android - 4th May 21
India Covid-19 Apocalypse Heralds Catastrophe for Pakistan & Bangladesh, Covid in Italy August 2019! - 3rd May 21
Why Ryzen PBO Overclock is Better than ALL Core Under Volting - 5950x, 5900x, 5800x, 5600x Despite Benchmarks - 3rd May 21
MMT: Medieval Monetary Theory - 3rd May 21
Magical Flowering Budgies Bird of Paradise Indoor Grape Vine Flying Fun in VR 3D 180 UK - 3rd May 21
Last Chance to GET FREE Money Crypto Mining with Your Desktop PC - 2nd May 21
Will Powell Lull Gold Bulls to Sweet Sleep? - 2nd May 21
Stock Market Enough Consolidation Already! - 2nd May 21
Inflation or Deflation? (Not a silly question…) - 2nd May 21
What Are The Requirements For Applying For A Payday Loan Online? - 2nd May 21
How to Invest in HIGH RISK Tech Stocks for 2021 and Beyond - Part1 - 1st May 21
INDIA COVID APOCALYPSE - 1st May 21
Are Technicals Pointing to New Gold Price Rally? - 1st May 21
US Dollar Index: Subtle Changes, Remarkable Outcomes - 1st May 21
Stock Market Correction Time Window - 30th Apr 21
Stock Market "Fastest Jump Since 2007": How Leveraged Investors are Courting "Doom" - 30th Apr 21
Three Reasons Why Waiting for "Cheaper Silver" Doesn't Make Cents - 30th Apr 21
Want To Invest In US Real Estate Market But Don’t Have The Down Payment? - 30th Apr 21
King Zuckerberg Tech Companies to Set up their own Governments! - 29th Apr 21
Silver Price Enters Acceleration Phase - 29th Apr 21
Financial Stocks Sector Appears Ready To Run Higher - 29th Apr 21
Stock Market Leverage Reaches New All-Time Highs As The Excess Phase Rally Continues - 29th Apr 21
Get Ready for the Fourth U.S. Central Bank - 29th Apr 21
Gold Mining Stock: Were Upswings Just an Exhausting Sprint? - 29th Apr 21
AI Tech Stocks Lead the Bull Market Charge - 28th Apr 21
AMD Ryzen Overclocking Guide - 5900x, 5950x, 5600x PPT, TDC, EDC, How to Best Settings Beyond PBO - 28th Apr 21
Stocks Bear Market / Crash Indicator - 28th Apr 21
No Upsetting the Apple Cart in Stocks or Gold - 28th Apr 21
Is The Covaids Insanity Actually Getting Worse? - 28th Apr 21
Dogecoin to the Moon! The Signs are Everywhere, but few will Heed them - 28th Apr 21
SPX Indicators Flashing Stock Market Caution - 28th Apr 21
Gold Prices – Don’t Get Too Excited - 28th Apr 21
6 Challenges Contract Managers Face When Handling Contractual Agreements - 28th Apr 21

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

The Problem with Keynesian Economics

Economics / Economic Theory Jul 14, 2019 - 04:53 PM GMT

By: John_Mauldin

Economics

In The General Theory of Employment, Interest and Money, John Maynard Keynes wrote:

“The ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist.”

I think Lord Keynes himself would appreciate the irony that he has become the defunct economist under whose influence the academic and bureaucratic classes now toil, slaves to what has become as much a religious belief system as an economic theory.


Men and women who display appropriate skepticism on other topics indiscriminately funnel facts and data through a Keynesian filter without ever questioning the basic assumptions. Some go on to prescribe government policies that have profound effects upon the citizens of their nations.

And when those policies create the conditions that engender the income inequality they so righteously oppose, they often prescribe more of the same bad medicine. Like 18th-century physicians applying leeches to their patients, they take comfort that all right-minded people will concur with their recommended treatments.

This is an ongoing series of a discussion between Ray Dalio and myself (read Part 1Part 2Part 3, and Part 4) . Today’s article addresses the philosophical problem he is trying to address: income and wealth inequality.

Last week I dealt with the equally significant problem of growing debt in the United States and the rest of the world. The Keynesian tools much of the economic establishment wants to use are exacerbating the problems. Ray would like to solve it with a blend of monetary and fiscal policy, what he calls Monetary Policy 3.

The Problem with Keynesianism

Let’s start with a classic definition of Keynesianism from Wikipedia, so that we can all be comfortable that I’m not coloring the definition with my own bias (and, yes, I admit I have a bias). (Emphasis mine.)

Keynesian economics (or Keynesianism) is the view that in the short run, especially during recessions, economic output is strongly influenced by aggregate demand (total spending in the economy). In the Keynesian view, aggregate demand does not necessarily equal the productive capacity of the economy; instead, it is influenced by a host of factors and sometimes behaves erratically, affecting production, employment, and inflation.

The theories forming the basis of Keynesian economics were first presented by the British economist John Maynard Keynes in his book The General Theory of Employment, Interest and Money, published in 1936 during the Great Depression. Keynes contrasted his approach to the aggregate supply-focused “classical” economics that preceded his book. The interpretations of Keynes that followed are contentious, and several schools of economic thought claim his legacy.

Keynesian economists often argue that private sector decisions sometimes lead to inefficient macroeconomic outcomes which require active policy responses by the public sector, in particular, monetary policy actions by the central bank and fiscal policy actions by the government, in order to stabilize output over the business cycle. Keynesian economics advocates a mixed economy—predominantly private sector, but with a role for government intervention during recessions.

Central banks around the world and much of academia have been totally captured by Keynesian thinking. In the current avant-garde world of neo-Keynesianism, consumer demand—consumption—is everything. Federal Reserve policy is clearly driven by the desire to stimulate demand through lower interest rates and easy money.

And Keynesian economists (of all stripes) want fiscal policy (essentially, government budgets) to increase consumer demand. If the consumer can’t do it, the reasoning goes, then the government should step into the breach. This of course requires deficit spending and borrowed money (including from your local central bank).

Essentially, when a central bank lowers interest rates, it is encouraging banks to lend money to businesses and telling consumers to borrow money to spend. Economists like to see fiscal stimulus at the same time, as well. They point to the numerous recessions that have ended after fiscal stimulus and lower rates were applied. They see the ending of recessions as proof that Keynesian doctrine works.

This thinking has several problems.

The Flaws of Keynesian Stimulus

First, using leverage (borrowed money) to stimulate spending today must by definition reduce consumption in the future. Debt is future consumption denied or future consumption brought forward. 

Keynesian economists argue that bringing just enough future consumption into the present to stimulate positive growth outweighs the future drag on consumption, as long as there is still positive growth.

Leverage just equalizes the ups and downs. This has a certain logic, of course, which is why it is such a widespread belief.

Keynes argued, however, that money borrowed to alleviate recession should be repaid when growth resumes. My reading of Keynes does not suggest he believed in the unending fiscal stimulus his disciples encourage today.

Secondly, as has been well documented by Ken Rogoff and Carmen Reinhart, there comes a point at which too much leverage becomes destructive. There is no exact way to know that point.

It arrives when lenders, typically in the private sector, decide that borrowers (whether private or government) might have some difficulty repaying and begin asking for more interest to compensate for their risks.

An overleveraged economy can’t afford the higher rates, and economic contraction ensues. Sometimes the contraction is severe, sometimes it can be absorbed. When accompanied by the popping of an economic bubble, it is particularly disastrous and can take a decade or longer to work itself out, as the developed world is finding out now.

Every major “economic miracle” since the end of World War II has been a result of leverage. Often this leverage has been accompanied by stimulative fiscal and monetary policies. Every single “miracle” has ended in tears, with the exception of the current recent runaway expansion in China, which is still in its early stages.

Insufficient Income Causes Recessions

I would argue (along, I think, with the “Austrian” economist Hayek and other economic schools) that recessions are not the result of insufficient consumption but rather insufficient income.

Fiscal and monetary policy should aim to grow incomes over the entire range of the economy. That is best accomplished by making it easier for entrepreneurs and businesspeople to provide goods and services. When businesses increase production, they hire more workers and incomes go up.

Without income, there are no tax revenues to redistribute. Without income and production, nothing of any economic significance happens. Keynes was correct when he observed that recessions are periods of reduced consumption, but that is a result and not a cause.

Entrepreneurs must be willing to create a product or offer a service in the hope there will be sufficient demand for their work. There are no guarantees, and they risk economic peril with their ventures, whether we’re talking about the local bakery or hairdressing shop or Elon Musk trying to compete with the world’s largest automakers. If government or central bank policies hamper their efforts, the economy stagnates.

The Reason Keynesianism Sticks

Many politicians and academics favor Keynesianism because it offers a theory by which government actions can become decisive in the economy. It lets governments and central banks meddle in the economy and feel justified.

It allows 12 people sitting in a board room in Washington DC to feel they are in charge of setting the most important price in the world, the price of money (interest rates) of the US dollar and that they know more than the entrepreneurs and businesspeople who are actually in the market risking their own capital every day.

This is essentially the Platonic philosopher king conceit: the hubristic notion that a small group of wise elites is capable of directing the economic actions of a country, no matter how educated or successful the populace has been on its own.

And never mind that the world has multiple clear examples of how central controls eventually slow growth and make things worse over time. It is only when free people are allowed to set their own prices of goods and services and, yes, even interest rates, that valid market-clearing prices can be determined. Trying to control them results in one group being favored over another.

In today's world, savers and entrepreneurs are left to eat the crumbs that fall from the plates of the well-connected crony capitalists and live off the income from repressed interest rates. The irony of using “cheap money” to drive consumer demand is that retirees and savers get less money to spend, and that clearly drives their consumption down.

Why is the consumption produced by ballooning debt better than the consumption produced by hard work and savings? This is trickle-down monetary policy, which ironically favors the very large banks and institutions.

If you ask Keynesian central bankers if they want to be seen as helping the rich and connected, they will stand back and forcefully tell you “NO!” But that is what happens when you start down the road of financial repression. Someone benefits. So far it has not been Main Street.

The Great Reset: The Collapse of the Biggest Bubble in History

New York Times best seller and renowned financial expert John Mauldin predicts an unprecedented financial crisis that could be triggered in the next five years. Most investors seem completely unaware of the relentless pressure that’s building right now. Learn more here.

John Mauldin Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in