The Rebirth of Keynes, and the Debate to Come

The economy has just about come to a standstill - not so much because credit markets are clogged as because there's not enough demand in the economy to keep it going. Consumer spending has fallen off a cliff. Investment is drying up. And exports are dropping because the recession has now spread around the world.

So are we about to return to Keynesianism? Hopefully. Government is the spender of last resort, which means the new Obama administration should probably be considering a stimulus package in the range of $600 billion, roughly 4 percent of national product -- focused on building and repairing the nation's crumbling infrastructure, providing help to states to maintain services, and investing in new green technologies in order to wean the nation off oil.

But between now and late January, when the stimulus package will be voted on, we're likely to be treated to a great debate over the wisdom of Keynesianism. Fiscal hawks will claim government is already spending way too much. Even without the stimulus package, next year's budget deficit is likely to be in the range of $1.5 trillion, considering the shrinking economy and what's being spent bailing out Wall Street. The hawks also worry that post-war baby boomers are only a few years away from retirement, meaning that the costs of Social Security and Medicare will balloon.

What the hawks don't get is what John Maynard Keynes understood: when the economy has as much underutilized capacity as we have now, and are likely to have more of in 2009 and 2010 (in all likelihood, over 8 percent of our workforce unemployed, 13 percent underemployed, millions of houses empty, factories idled, and office space unused), government spending that pushes the economy to fuller capacity will of itself shrink future deficits.

Conservative supply-siders, meanwhile, will call for income-tax cuts rather than government spending, claiming that people with more money in their pockets will get the economy moving again more readily than can government. They're wrong, too. Income-tax cuts go mainly to upper-income people, and they tend to save rather than spend.

Even if a rebate could be fashioned for the middle class, it wouldn't do much good because, as we saw from the last set of rebate checks, people tend to use extra cash to pay off debts rather than buy goods and services. Besides, individual purchases wouldn't generate nearly as many American jobs as government spending on infrastructure, social services, and green technologies, because so much of we as individuals buy comes from abroad.

So the government has to spend big time. The real challenge will be for government to spend it wisely -- avoiding special-interest pleadings and pork projects such as bridges to nowhere. We'll need a true capital budget that lays out the nation's priorities rather than the priorities of powerful Washington lobbies. How exactly to achieve this? That's the debate we should be having between now and January 20 or 21st.

Comments

[Peter007]

I disagree with the first paragraph in Mr. Reich post.
He states The economy has just about come to a standstill - not so much because credit markets are clogged as because there's not enough demand in the economy to keep it going.

I disagree. Demand is almost endless. If we all had the money of Bill Gates, we would consume 3 to 5 times the amount of stuff we consume now. The reason we don't is due to lack of money. When cheap credit is available, people spend , when its not, people stop spending. Credit is available money. Purchasing power. I don't thank anyone would disagree that the over extension of credit is the reason for the current crisis.

My next point is this. If you don't know the difference between money and wealth, you will be ruled by the people that own the printing press. Think about it.

[Henryk A. Kowalczyk - Huffpost Blogger]

I wanted to place a comment, but it came out longer than 250 words accepted here. I posted it as a polemic with Prof. Robert Reich, "The Lure of Keynesianism",

http://www.huffingtonpost.com/henryk-a-kowalczyk/the-lure-of-keynesianism_b_147286.html

[krocklin]

The real lunacy out there, beside Ayn Rand and supply side economics, is the premise that if you give your money to the companies being drained by the Rich it will return a profit for you.

[knosiswar]

Robert, if we are going to resurrect Keynes (thank Buddha), can we finally lay to rest the failed ideology (lunacy really) of Ayn Rand and her shallow, myopic view of individuality?

[ashcom]

Investing in our infrastructure and developing new energy alternatives just makes sense. Working to make things better -- not to just make money. We have lost our way. The great Republican Pyramid Scheme has crumbled. It's time to start building a solid foundation and let the cards fall where they may.

[yappnmutt]

overcapacity during the great depression was an overcapacity of manufacturing caused by a dizzying rise in production as a result of new manufacturing technologies and systems. the assembly line, radio, airplanes, telephones, automobiles and electricity were in full stride. the depression could not end until the gap was filled by ww2. today's overcapacity is only in the labor market as it contracts due to undercapacity in the financial sector. keynes can't cure its effects because the manufacturing capacity is not large enough and will not be large enough to absorb all the underutilized labor at a pay rate high enough to supplant the financial sector and its downstream benefactors from walmart to tiffany's. the only real solution is a return to a value added economy or opening up shopping accounts at every retailer in the usa for every american employed or not. tha's the only way jobs can be created because that's the only place there are an abundance of possible jobs.

[Overd0g]

Forget about manufacturing. It's a dead end. In the near future, humans won't even be involved in the process.

[TheUnpopularQuestion]

Bravo Mr.Reich, Bravo. And let us not forget the legions of unemployed and underemployed college graduates out there, we need FDR style make-work programs, not just big construction projects that the unions will benefit from--although there is nothing wrong with the labor unions benefiting.

Blessings.

[EminentGrise]

Governmant spending is inefficient and usually misdirected. Obama wants a bigger Government which will tank the economy. No matter how often it happens there are still people who want to try it again. It's no suprise that the ones driving these ideas are the ones most likely to profit. Bureaucracies, by nature, have a conflict of interest. They want to expand their power and maintain thir existance at the expense of the privste sector. Consider how bad Venezuela's economy and infrastructure is despite all its oil wealth. Inflation is crushing the people and the wheels are coming off. Chavez is trying to stir up trouble to take peoples' minds off his abject failure.

[Counterglow]

The national debt, the national deficit and the bureaucracy have all ballooned under Bush. As for "tanking" the economy...it's happening already. Haven't you noticed?

[Overd0g]

Yes, Bush policy has been a fiscal disaster. Most of the foreign policy as well. Increasing the size of government even further will make it even worse.

[GuyRC]

I recall that they showed that Medicare run by the government is more efficient than the best HMO even after the profit that HMO's make off our sick and injured is factored out. A stimulus package that rebuilds infrastructure would not increase the size of the government. The free market Reagan model has failed, there is no mechanism in it to maintain the commons and our infrastructure is falling apart. There is no mechanism in it for far-sighted research. Sure, a lot of discovery was individually funded in the past, but the cost of engineering now is so high that another Ben Franklin with a kite and key budget isn't possible. The requirement that there be a profit has reduced our health care system to one where only the wealthy can afford the co-payment. I don't understand how anybody can admire people like the CEO's of the auto industry more than Barack Obama, I just don't understand it.

[ScreedName]

AAs others have mentioned, the key in this waaaayyyyy-downturn is the debt to income ratio among all consumers (me included). Much of any increased income through fiscal stimulus would rationally be used by folks to pay down debt, it seems. Of course, I agree with Reich and others calling for drastic spending, and also recognize the inflationary implications for an eventual upturn. In fact, the Fed has little ammo to fight that inflation -- but, that's the next war . . . To avoid a true depression we have to fight today's battle.

Krugman at http://krugman.blogs.nytimes.com/2008/11/30/the-greatness-of-keynes/ offers this too : "The key to Keynes"s contribution was his realization that liquidity preference " the desire of individuals to hold liquid monetary assets " can lead to situations in which effective demand isn"t enough to employ all the economy"s resources. . ."

There's another very good posting on this topic at "They'll say ANYTHING!" : "A low wage debt driven system where the vast number of Americans were consigned to the role of permanent worker class, such as what the Republican party hoped to bring about during the nearly 30 year Reagan era, required really careful fine tuning. It literally makes no sense to push their mass of workers into so much debt relative to their incomes that they simply cannot meet their obligations." at http://mytinyspot.blogspot.com/2008/11/fords-better-idea.html

[PhilipTaylor]

Why are we in this FIX, CRISIS, Downturn?

1. Our Export Base has been decimated and Exports Build Wealth - look at China.
2. No Exports because our top Sector is Finance and Banking and it Exported "Ponzi" Derivatives.
3. No Exports because our manufacturing Base was shipped to other countries.
4. No Jobs that pay decent incomes because we lost our manufacturing base.
5. Neglect in automation of manufacturing and "YES" also Financial Functions and BANKS to control corruption.
6. Corrupt Banksters who charging HIGH FEES for "FAKE AAA Derivatives" created from "TRICK" loans and yes those loans often exceeded the value of the property.
7. Banksters FEES and Obscene INCOMES drained our Economy using Trick products!

[freerovingbovine]

This is such a thoughtful discussion I'd like to ask a question.

I think the great depression ended with the great destruction of production capacity and human capital, not government spending at a rate of 25% of GDP. The US did well after the WWII as America was spared the devastation.

If FDR could have considered a UTT (Universal Transaction Tax) with pre-bate for subsistence consumption and rebates for cost of production could that have led to a sustainable economy without all the damage of WWII? Could such a system survive and defeat central planning totalitarian regimes?

Here are some points to consider:
1) The incentive of no taxes on employment, cost of goods, investment or savings would dramatically increase productivity and investment and real income to producers.
2) Pre-bate payments would provide support for subsistence consumption and to industries that supply necessities.
3) Tax collection would be nearly cost free as the burden of proof for production rebates would be with the producers.
4) Tax avoidance would be difficult and not especially profitable as the rates could be much lower than the proposed Fair Tax, or the current income, corporate or wage taxes.
5) Hidden costs of consumption like pension, health care, education, security, welfare, infrastructure ... funded by the government would be directly proportional to consumption.
6) Consumption would be directly proportional to individual productivity.

[schatsie]

they had prebates in 1923, only the top 10% paid taxes up to 80%....

[Raster]

Perish the very thought! What ever would the bureaucrats do? Little or nothing to bestow on the populace? Not workable.

[jaxdawg]

one last thing.......i am a big fan of jimmy carter.....great mind but hired the wrong people.....my grandparents and jimmy and his wife used to dance in southwest georgia.....we were only 20 minutes from plains........please people have patience......stock market,,,looks like has leveled off......8k is bottom.....obama needs to take reigns NOW but constitution says otherwise......we MUST respect that.....we WILL get out of this.......jimmy,,,i will be watching obama with the comparison to FDR.....you are right,,,,,it's diff being a deficiet nation instead of a creditor nation.......time will tell....

[KareninSac]

One commenter here thinks this is a call to consume. It is not. It is to spend US dollars wisely by fixing our crumbling infrastructure (which will save us money in the long run, and also put people to work), and to create jobs in the green energy field, which also will save us money in the long run, put people to work and most likely generate income if we can then import the technology to other countries.

But the most important thing to realize is it's time for all of us to pay off our own personal debts and start saving money again. When you live by the credit card, eventually your house of cards will fall.

[Jimmy1920]

This has to be one of the more intelligent discussions that I have read on-line. Very few inane outbursts.
Congrats to all!

But there are still some things I do not understand.

Entering the Depression, the US was a net creditor nation. Now we are a debtor nation. Does that make a difference?

Does the nature of deficit spending matter - infrastructure vs. social services vs tax relief? If so, why?

Is there a discussion about getting an honest accounting of "the deficit"? Does it matter that most of it is off the books and doesn't really count towards the official "deficit"?

[jaxdawg]

i believe that as far as a creditor nation,,,,,we outpaced the world in goods and were a prominent exporter and imports were minimal====>i am no scholar on the depression,,,,,just my intuition......we are in a really good situation in reagrds to inflation====>it's low.....so we are printing cash as fast as we can to pay for these bailouts....... i think monitoring to inflation rate is the biggest key in this animal.......if the dollar is strong,,,,,,we can keep borrowing and china et all will not try to cash in====>it's a delicate waltz if you will......

[mostlybluedot]

China is a net creditor nation and it is in trouble too. We have a potential problem though because of all the outstanding debt - -over 11 trilion dollars. Some will argue that makes no difference. I hope they are right but the truth is no one really knows. On the flip side, you can't just sit around with your finger up... You have to do something to create jobs. ergo the spending package. It "potentially" matters how we spend the money. So far Paulson has been dropping it from helicopters. If we wait long enough that may work or maybe not if the banks just put it in a vault. So what is now proposed is to spend it directly on things that create jobs, like roads, medical services, you name it, but not put any more money in banks. They now have lots of it. That is a big difference. But mind you, neither one is "guaranteed" to work. So far Paulson's plan is coming up short. I like the idea of creating jobs better.

[jaxdawg]

the debt is a gamble......our forces at be are banking on the dollar and it's strengh......china has gotten attention of trying to manipulate thier currency......basically,,,the rational of deficeit spending is getting more for us buck.(imho).......inflation is SOOOO key

[ArturoYee]

Yes - where spending are being spent does matter.

There will have to be deficit spending - we have no choice. (not sure if we should really call it deficit spending since we are returning taxpayer money - but that is another topic!)

I have posted earlier that there were recessions in 1937 and 1938 when spending stopped - because the jobs were dependent on the spending.

So - some spending on infrastructure are required if the recovery is to be "self-sustaining".

The source of the spending - tax relief vs government spending - it would seem to be more "reliable" if it was government spending. Can't seem to trust some of the companies to use tax relief funds for investments.

With our economy in such a state, we should be looking at both
Infrastructure spending
Job creation spending

[TheKurgan]

Now we see all the effects of Supply-Side Economics. The DISASTROUS effects. Thank God Reaganism/Bushism is dead and we can rely on Keynes and support for the people who actually spend money. The real problem is that those who are supposed to spend money are so far into debt waiting for the (*&^ to trickle down from above that they may not be able to spend much until they're out of debt, which might be years. I hope we don't go down the hyper-inflation route, but unless something is done, and quickly, we might have some really disastrous consequences to the Supply-Side debacle. Can you say Weimar Republic? I knew you could.

[mostlybluedot]

I don't want to hear that. But the end result of deficits and printing money is utter failure. I think we were brought low by this constant thing about spending. tax cuts, wars and deregulation that we have experienced from 1980 to now with a small interruption during Clinton years, but even he added some of the deregulation to the brew. Hell, I hear tell cheney even told Bush not to worry about deficits. Somehow we all got to thinking deficits were ok. They are. For a time but not perpetually in my view. We are about to test the theory now. We have no other choice but to spend out way out of this - - again.

[TheKurgan]

We can only hope that the rest of the world now is not so stupid and shortsighted as the Allies were after the end of WWI at Versailles. France's spoiled brat desire for revenge after starting and losing the Franco-Prussian war in 1870 (and their convincing of England to go along) is what set up the German state for the failure of the Weimar Republic and the rise of Hitler. The terms of the treaty were so unfair that they made the Germans pay the salary of all the French workers who were employed in Versailles at the time. If the rest of the world tries to stick it to us because of a desire for revenge due to Bush's complete failure of a presidency, then Weimar, here we come. I pray they are smarter than that (no repeating of stupid history, that is).

[FreedomBeforeDemocracy]

Why do you believe this has anything to do with supply-side economics? Bush increased spending more than anyone since LBJ. Medicare part D, aid to Africa, Iraq war,etc. Clinton, on the other hand, expanded free trade, signed the law that ended welfare as we know it (Republican driven though), and signed the 96' capital gains tax cut (also republican driven) that caused the economy to grow 30% faster in his second term than in his first (also caused by the dot com liquidity bubble). Sometimes, it's not just about the R or D in front of someone's name, but the policies they pursue. Not to mention that the president is NOT a legislator. They can push through legislation, but all responsibility for enacting (and drafting) law is on the shoulders of congress. The president can only say yes or no. We should stop this foolish notion that the president is leader of the country. The president is in charge of the executive branch. Period. And that entails executing the laws of the United States from a federal perspective. Nothing else. They don't run the economy (nor does congress). They don't make laws (the congress does). There only job is to carry out the laws of the United States. They also have responsibility for appointing international representatives and as commander-in-chief.
For years, progressives have tried to make the president head all government and therefore, the lead all Americans. You know what that got us? George W. Bush. Congratulations.

[Peter007]

Here is my paradigm or model. You have a 100 acre corn farm destroyed by locust. Farmer Paulson comes to you and offers to plant it with corn for $10,000, You agree. He comes back after working and says he planted wheat instead. He thinks it will be better and you will make more money than the corn.. You are pissed. He's a lier . Now Builder Reich comes and offers to build you a spec house on your land if you lend him $100,000. He says you will make big money. Do you wait for the wheat or build the house?

[mostlybluedot]

Paulson never promised to deliver the corn or the wheat. If he had the answer might be different. How many people is he directly employing ? Still imaginary corn or wheat might work. Evidence to date (unemployment and GDP) is not much help. We need something real to create jobs.

[Peter007]

When the housing prices were skyrocketing, I predicted a huge crash that would take the economy down with it. When prices fell, and the stock market crashed, I felt that the end of our economic system was at hand. A depression was coming. Boxcar Willy here I come. The drop in mortgage rates last week caught my eye. Also, the stock market was up 17% from the bottom. Black Friday sales are up over last year. Billions upon Billions are sitting in cash reserves on the side line. Unemployment is a lagging economic indicator..I believe in cycles and patience. Maybe in the spring.........................................maybe....

[jaxdawg]

good synopsis....as you probably know,,,,it boils down to emotion and a roll of the dice...that's the situation we're in===>any good psychics out there?