How difficult it is to be right. John Maynard Keynes is “an entertaining economist whose bright but shallow dissertations on finance and political economy, when not taken seriously, always provide a source of innocent merriment to his readers.”
The remark above was published in 1933 by David Lloyd George, British prime minister during World War I, who, Keynes strenuously argued, failed the nation by demanding inhumanly harsh treatment of the defeated enemy after the conflict. Keynes supported Lloyd George’s later attempts to salvage the Liberal Party, but this apparently did not win him sufficient respect from the fading lion.
In fact, Lloyd George’s comment reflected the view held by much of the British establishment. Keynes was unorthodox and had been a thorn in the side of the powers that prevailed in England ever since 1919, when he railed against Lloyd George, Georges Clemenceau, and Woodrow Wilson. He continued to challenge the conventional wisdom again and again in the 1920s, remained an academic gadfly even when he had become a fellow at King’s College, Cambridge, and argued vehemently that government must do more for the unemployed, rid itself of its attachment to gold, and invest aggressively in public works.
Keynes was editor of the most prestigious economics journal of his time. But he was also an active journalist, commenting on public issues mostly for the Manchester Guardian, then the most distinguished of Britain’s Liberal publications. This was also held against him in serious circles. His journalistic writing, if brilliant in retrospect, and usually right, certainly lacked the hallmark of probity and dullness that merits scholarly credibility. In addition, the cautious U.K. Treasury (which had earlier employed him) was often his target.
Do not feel bad for Keynes, of course. He was from a moderately privileged academic family and had many a door open to him. He did well in the best schools, was hired by the much-admired Treasury in his thirties, became famous well before forty, grew wealthy due to his speculative proclivities in currencies, married a leading Diaghilev ballerina, and was an intimate of Virginia Woolf and others of the Bloomsbury set. By almost any standard he was on top of the world, despite his dubious reputation in the Treasury and established halls of academia.
It was crisis that transformed Keynes’s relationship to economics and the world’s relationship to Keynes. Throughout the 1920s and into the 1930s, he had largely remained a free-market economist. The Great Depression forced him to think more profoundly about how the economy worked. The book he immodestly anticipated would change the world was to be called The General Theory of Employment, Interest and Money, and he was right. It raised Keynes in terms of influence and respect above any other economist of the century. His reign lasted without serious competition a full generation.
But by the late 1970s, Keynes was the subject of ridicule and widespread dismissal. His great argument, in the American interpretation, was that governments should run deficits to raise economies from recession and assure rapid growth. He was thus firmly identified with government spending, which, thanks to the articulate proselytizing of Milton Friedman and his acolytes, became in the public eye the one certain source of inflation and economic ruin. As inflation soared in the 1970s, Keynes’s reputation suffered in the equal and opposite direction. He was not merely eclipsed by Friedman, but made into a relic.
Now crisis has resurrected him again. The world avoided a depression, or something close to it, largely because Keynes was summoned back swiftly and enthusiastically. Indeed, according to many, including even some conservative economists, he was never completely wrong. It is the times that change—and there is wide agreement that Keynes is right for these times.
Peter Clarke, the respected British historian, has written at length in the past on the Keynesian revolution. In light of the current revival, he has produced a short book on who Keynes was and what Keynesianism is. It seems designed to be a primer, but I am surprised to say he succeeds in doing more. Clarke has captured something of the character of the man that many longer and more convoluted biographies fail to convey.
Keynes was a man of life, wide interests, and an exquisite mind. His early focus was more politics than economics, a fact that few of his American admirers have absorbed. (It may explain why his economic theory was more subtle, engaged, and realistic than anyone else’s.) He also had a taste for beautiful things. He drove a Rolls-Royce, at least for a while, and was an avid supporter of ballet, the visual arts, and literature.
It is worth listening to his peers. “When I argued with him, I felt that I took my life in my hands, and I seldom emerged without feeling something of a fool,” wrote Bertrand Russell. And here is what Lionel Robbins, a younger economic antagonist, wrote of him:
I often find myself thinking that Keynes must be one of the most remarkable men that have ever lived—the quick logic, the birdlike swoop of intuition, the vivid fancy, the wide vision, above all the incomparable sense of the fitness of words, all combine to make something of several degrees beyond the limit of ordinary achievement . . . .
Clarke knows that to understand the man’s influence and the quality of his work, it is important to understand his struggle with his own ideas and his willingness to seek intellectual advice from others. The author has found a novel tool to shed light on the way Keynes thought: verbatim transcripts of policy discussions among a panel of experts (including Keynes) convened by the British government that took place from 1929 to 1931. They allow us to see Keynes as a man of doubt, determination, and dogged pursuit of several large truths.
In such pursuit, he stood one hundred years of conventional economics on its head. Traditional wisdom had it that economies were essentially self-adjusting. In bad times, prices (meaning interest rates, wages, currencies, or the value of commodities) fell until they stimulated more demand. Then, as incomes rose again, all was well with the world.
The most important element in the self-adjusting system was the interest rate. As savings increased or business declined, the interest rate fell, and thereby stimulated more business investment. At some point in the 1920s or early 1930s, Keynes grew skeptical that the interest rate, however low, would assure full and optimal investment of savings. But it took him several years to come up with an adequate explanation of why this was so. This he did, breathtakingly, in his General Theory.
Clarke sells this achievement somewhat short, and draws no distinction between his contribution and that of his later rival, Milton Friedman, during the Reagan years. Friedman cleverly and controversially revived the old theory for contemporary times. Keynes’s achievement was a good deal more—and more revolutionary. He made a strong case that economies could settle for long periods of time in a situation of high unemployment, and fundamentally reoriented the game by introducing uncertainty and psychology into macroeconomics. He showed that “animal spirits,” not simply a low interest rate, were a foundation of investment and that such “animal spirits” depended on confidence, a strong business environment, and a few things one simply couldn’t know at any moment in time. During recession, doubt, fear, and pessimism prevail—and must be counteracted.
This is what is happening today. People are saving far more of their income and thus undercutting demand for goods and services. Profits collapse, businesses fail, jobs vanish, and spending falls all the more. Add to this dangerous spiral a credit crisis of stunning proportions, in which banks and other intermediaries have (or had) no money to make available for investment.
The Federal Reserve acted a bit sluggishly but quite admirably under Ben Bernanke, cutting interest rates sharply and providing funds to the banking system. They may well have stanched the ensuing economic depression. But it was not enough. Government had to spend to make up for the shortfall in demand and bring back confidence. The Obama administration got a $787 billion stimulus passed. Sadly, much of it was tax cuts, which will not help encourage spending in this environment. Instead those dollars will flow into savings.
Still, Keynes’s central propositions are now in full harness. A falling interest rate will not itself stimulate adequate investment. Economies can bounce along in supposed equilibrium with high unemployment, unused capacity, and feeble investment. Credit must be force-fed, demand must be stimulated, and this requires the government to spend.
Because of Keynes, the nation will probably avert the worst of economic possibilities. If it does, many of Keynes’s natural antagonists will soon forget why. They will say that the economy mostly adjusted on its own. They will say new levels of debt were not worth it. They will say that government intervention may well “crowd out” private investment. And they will again be wrong.
Clarke’s book is not exhaustive, but he has made a contribution to the sociology of knowledge—to the way great ideas are created—that often eludes many of those who write about and sometimes worship Keynes. However blessed he may have been with talents and the wherewithal to live a lofty and privileged life, Keynes always kept his feet on the ground. He was not a prisoner of pretty, quantifiable economic models but of the hard and dirty facts and a certain abiding common sense about how consumers and savers, businesses and investors, actually made decisions. After steering the British economy through the Depression, he developed sensible policies to finance the war effort, then worked with the U.S. to establish a new postwar currency system. If we had followed Keynes’s advice more closely on matters of international currency, we may well have avoided much of what is happening today.
But that is another story. Clarke has written more than a primer about the man who, it is again proven, got the economy more right than anyone else. And whose reputation is likely to live on for another century.