The Home of American Intellectual Conservatism — First Principles

May 24, 2018

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Keynesian Economics
Bruce Bartlett - 11/08/10

Keynesian economics is a term that describes some of the ideas of economist John Maynard Keynes (1883–1946), a British economist who is generally considered the most influential economist of the twentieth century. The principal feature of Keynesian economics is its advocacy of government deficit spending to stimulate economic growth.

Keynes first rose to prominence in the 1920s as a critic of the Versailles Treaty, which ended World War I and required large war reparations from Germany. His first major book, The Economic Consequences of the Peace (1919), argued strongly against the reparations policy as damaging to European economic integration and thus contrary to the interests of the Allies as well as the Germans. In addition, Keynes strongly opposed the British government’s economic policies, especially the decision to peg the value of the pound at its prewar exchange rate. He believed that this would require a severe deflation in England that would seriously damage the economy.

In 1936, Keynes published his most important work, The General Theory of Employment, Interest and Money, which argued in favor of budget deficits and increases in the money supply to restore economic growth. The prevailing view among both economists and politicians of the time was that government budgets should be balanced and that the money supply should be tied to the gold standard. Keynes believed that workers would never allow wage rates to fall enough to eliminate unemployment. He thus favored inflationary policies that would cause the real level of wages to fall even though nominal rates remained unchanged.

Although initially attacked, the Keynesian view soon exerted significant influence on both economists and policymak-ers. This is because Keynesian economics offered a rationale for government intervention in the economy that had been constrained by the laissez-faire doctrines of classical economics, the gold standard, and the balanced budget rule. As Joseph Schumpeter wrote in his History of Economic Analysis (1954): “Whatever its merit as a piece of analysis may be, there cannot be any doubt that [The General Theory] owed its victorious career primarily to the fact that its argument implemented some of the strongest political preferences of a large number of modern economists.”

As a response to the deflationary conditions of the 1930s, the Keynesian program had merit. The problem was Keynes’s insistence that he had put forward a general theory applicable to all times, rather than just the conditions of a deflationary depression. After the return to prosperity during World War II appeared to vindicate Keyne-sian policies, they became the foundation of both economic theory and economic policy in all Western nations. The United States, for example, codified Keynesian economics in the Employment Act of 1946, which obliged the government to utilize Keynesian policies to sustain full employment.

By the 1960s, Keynesian economics dominated economic policymaking in the U.S. The Kennedy tax cut of 1964 was explicitly based on Keynesian economics and by 1971 even President Richard Nixon confessed to being a Keynesian. However, the development of rapid inflation and slow growth in the 1970s, combined with rising budget deficits, severely eroded the credibility of Keynesian policies. Critics of Keynesian economics, such as Professor Milton Friedman of the University of Chicago, had always viewed it as dangerously inflationary. The stagflation of the 1970s appeared to confirm this view. In addition, a growing number of economists, such as Professor Martin Feldstein of Harvard, were becoming concerned about the growth of budget deficits and began to view them as a drag on the economy.

By the 1980s, most economists had already turned away from Keynesian economics, although many of its doctrines continue to be embedded in economics textbooks.

Further Reading
  • Bartlett, Bruce. “Keynes as a Conservative.” Modern Age 28 (1984): 128–33.
  • Buchanan, James M. and Richard E. Wagner. Democracy in Deficit: The Political Legacy of Lord Keynes. New York: Academic Press, 1977.
  • Harrod, Roy. The Life of John Maynard Keynes. New York: Macmillan, 1951.
  • Hazlitt, Henry. The Failure of the “New Economics”: An Analysis of the Keynesian Fallacies. Princeton, N.J.: Van Nostrand, 1959.
  • Lekachman, Robert. The Age of Keynes. New York: Random House, 1966.
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