Scholars, Admirers and Sceptics in the Aftermath of the Crisis
Maria Cristina Marcuzzo
Sapienza,Università di Roma
Return to Keynes
2008-9 crisis has seen an upsurge in the wave of
references to Keynes
Which aspects of Keynes’s analysis and
recommendations do economists wish to see
accepted and implemented and which are still
rejected and misunderstood?
“Is the return to Keynes” plea matched by original
research into his work?
In the face of unqualified admirers and sceptics alike,
scholarly investigation into Keynes’s writings more
than ever is called for.
Aggregate demand and deficit
Standard “return to Keynes” argument:
more important to address a failure in aggregate demand
than to worry about the size of the government deficit
Opposition to this view:
1) Cato Institute Manifesto: 237 signatories against “we
need action by our government…to jumpstart the
economy” (Obama, Jan 2009)
2) Letter to Sunday Times: 20 signatories advocating a
more reduction of Britain’s budget deficit “to support a
sustainable recovery” (Feb. 2010).
3) G.Osborne (UK Chancellor): fiscal discipline needed to
take Britain off “the road to ruin” (Oct 2010)
“Lessons” from history
• Hoover and Roosevelt did not pull the United States
economy out of the Great Depression in the 1930s.
• More government spending did not solve Japan’s
“lost decade” in the 1990s.
“Lessons” from theory:
• Growth depends on reforms that remove
impediments to work, on lower taxes and competition
• Empirical studies show that value of public spending
multiplier is not large
Rejection of the claim that public expenditure crowds out a
corresponding amount of private expenditure.
There is no theory to justify the “right” size of deficit nor the
amount of government spending.
Unemployment due to insufficient effective demnd, not
rigidities in prices and wages.
Restricting the fiscal space (as European monetary system)
means imposing a deflationary bias
Crisis in the US: a distribution of income problem, i.e. a
private debt which has increased to offset the fall in wages
Samuel Brittan’s point
(FT, 8 Oct 2010)
Impoverished fiscale debate:
Two schools of thought: priority to eliminating current deficit and
to curb expenditure vs to protect “public services” at the cost of
a slower rate of deficit reduction
Confusion between views on public spending and views on the
role of the budget balance in macroeconomic policy.
Logically four, not two positions
• Reduce deficit and public spending
• Reduce deficit, but keep a high proportion of public spending
• No urgency to cut deficy and public spending
• No urgency to cut deficit, but lower public expenditure and lower
Paul Krugman’s point
(NYT, Nov 3, 2010)
Vulgata: America went for Keynesian policies Germany chose
austerity and Germany did better.
Facts: Germany’ s : GDP did not do better
Who are the bees and who are the ants?
Actual government purchases of goods and services, (excluding transfer
payments from the federal government to states), Germany more
Keynesian than the United States
Shadows of Keynes
Q ui kTi e™ e un
decom pr essor e
s i z m n
sono n ecessar i pe r vi ual zar e quest 'i m agi e.
Reversal of the causality relation between deficit
budgeting, level of income and international
confidence in a country.
Public expenditure as a means to reduce
unemployment not to adjust supply to the existing
level of demand.
“Digging holes in the ground” argument: to illustrate
the principle, not to provide a blueprint of “useful”
public work schemes
Expenditures on goods which have no useful
purposes from the point of view of consumption, may
produce effects on income and employment.
“Gold mining, which is just another form of unearthing
bottles dug in the ground, or pyramid building had
positive effects on income and employment because
they yielded fruits that “could not serve the needs of
man by being consumed” and therefore do not ‘stale
with abundance’” (General Theory).
“Two pyramids, two masses for the dead, are twice as
good as one; but not two railways from London to York”
Possibility of increasing the stock of wealth with “useful”
forms of loan expenditure is limited, because of
decreasing of marginal efficiency of investment and/or
marginal utility of useful objects.
Failures of Ideas
• Modern macroeconomics deals with God-like
creatures: they know the statistical distributions of all
the shocks that can hit the economy. As a result, they
can make scientifically founded probabilistic
statements about all future shocks.
• The assumptions of rational expectations and
efficient markets have created an intellectual
framework that blinded economists and policy-
makers, preventing them from seeing the bubble and
the dangers that these create for systemic stability.
Return to another Keynes
Financial crisis has forced us to take on board
Keynes’s division of economics between:
“the study of those economic activities in which ‘our
views of the future are...reliable in all respects’ and
the study of those in which ‘our previous expectations
are liable to disappointment and expectations
concerning the future affect what we do today”
To acknowledge the failure of economics to take
Notion of Uncertainty
A probability relationship is a rational belief in the conclusion from
the knowledge of the premise
The “weight of the argument” expresses the confidence in that
Uncertainty is of lack of a probability relationship.
It applies to cases in
“which no rational basis has been discovered for numerical
comparison. It is not the case here that the method of calculation,
prescribed by theory, is beyond our powers or too laborious for
actual application” (Treatise on Probability).
Keynes’s uncertainty rejects the presupposition that risk can
be measured and allocated in such a away as to prevent
uncertainty of the outcomes
The state of macro is not good: How
should it be fixed?
Blanchard (2008): problem can be “fixed” by introducing a more
sophisticated explanation of the real and nominal wage rigidities
Dahlem Report (2008):interconnectivity (network analysis); the
informational role of financial prices and financial contracts;
construction of indicators warning of bubble formation.
Buiter 2009: “behavioral approaches relying on empirical
studies on how market participants learn, form views about the
future and change these views in response to changes in their
The “return to Keynes” mainly a lip service with very little
original work done on those aspects of Keynes which are
relevant to the present recession and crisis of economics.
What is the return to Keynes
The return to Keynes not just about government
spending and injection of liquidity, but also:
international cooperation on finance, primary
commodities and international payments
coordination and rules in markets and behavior, to
fight irrationality and unreasonableness
rational behavior under uncertainty:
rationality bounded by knowledge, judgment and
Drivers of the research agenda
In finance: to build on Keynes’s insights:
• Unarbitraged margins preventing the law of one price from
prevailing in financial markets
• The Beauty contest – picking what one thinks others are most
likely to think that others think are the best choices
• Noise trading: uniformed agents derail the operations of rational
• Istitutional Reforms: to take action to smooth prices and output
of primary commodities and agricultural products which play a
crucial role in international trade.(Buffer stocks schemes)
• Strong links between fluctuations in prices of primary
commodities and agricultural products on the one hand, and
financial crisis and structural trade imbalances on the other.
Return to Keynes’s wide range of proposals not
simple-minded so-called Keynesian policy.
Three broad lessons:
the notion of uncertainty
the economy cannot be managed as an individual
individual self-seeking behaviour does not
guarantee a stable economic order.
Scholars and admirers of Keynes have failed to
persuade sceptics and opponents
“A new scientific truth does not triumph by
convincing its opponents and making them
see the light, but rather because its
opponents eventually die, and a new
generation grows up that is familiar with it”