Game of Theories: The Keynesians

by on November 8, 2017 at 7:25 am in Economics, Education | Permalink

Over the next few weeks our Principles of Macroeconomics class at MRUniversity will offer four “mini-classes” on theories of the business cycle. Today, we begin with the Keynesian theory.

1 shrikanthk November 8, 2017 at 7:33 am

Do Keynesians indeed favour activist monetary policy?

If yes, why did no Keynesian indict the inaction of the Fed for the Great Depression? I guess nobody did that, until Friedman and Schwartz came along in the late 60s.

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2 clockwork_prior November 8, 2017 at 8:49 am

‘If yes, why did no Keynesian indict the inaction of the Fed for the Great Depression?’

You are joking, right? If that was not a joke, here is a bit of information concerning Keynes and the framework associated with his writing – ‘Keynesian economists generally argue that, as aggregate demand is volatile and unstable, a market economy will often experience inefficient macroeconomic outcomes in the form of economic recessions (when demand is low) and inflation (when demand is high). These can be mitigated by economic policy responses, in particular, monetary policy actions by the central bank and fiscal policy actions by the government, which can help stabilize output over the business cycle. Keynesian economists generally advocate a managed market economy – predominantly private sector, but with an active role for government intervention during recessions and depressions.’ https://en.wikipedia.org/wiki/Keynesian_economics

Keynes’s work is fundamentally an indictment of the failures seen during the Great Depression when using older models – such as a central bank that does not attempt to use monetary tools to deal with the excesses of the business cycle.

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3 Nate November 8, 2017 at 9:14 am

Yes by why didn’t Keynes say anything about the recent recession? /s

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4 A Truth Seeker November 8, 2017 at 9:22 am

He has remained suspiciously silent, and his silence speaks volumes.

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5 shrikanthk November 8, 2017 at 11:13 am

Alex – Thanks. That helps.

Also could it be that while both Keynesians and monetarists may agree on economic theory largely, where they differ is in their policy prescriptions? So Keynesians I guess favor discretionary monetary policy to manage the business cycle. Whereas monetarists, while acknowledging the non-neutrality of money, favor a non-discretionary policy where the money supply grows at a steady rate (as prescribed by Friedman) or the NGDP grows at a steady rate (as suggested by Sumner).

6 shrikanthk November 8, 2017 at 9:29 am

I wasn’t joking.

And yes, I get what the theory is about. What I am saying is a bit different – notwithstanding what the theory says, I don’t recall Keynesians pointing the finger at the Fed for the Great Depression. John Galbraith, a Keynesian, and a historian of the Depression, harped a lot on how the speculation in the stock market had caused the crash. But did not quite indict tight monetary policy for the Depression.

That indictment happened only when Friedman and Schwartz wrote their great book some 35 years after the Depression.

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7 clockwork_prior November 8, 2017 at 9:44 am

‘pointing the finger at the Fed for the Great Depression’

That is likely because the Keynesians tend to see complexity in how the economy works, not simplicity. Admittedly, many people are called Keynesian, thus making the term considerably less than precise – calling Galbraith a Keynesian is probably not wrong, but it is also not really right either.

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8 shrikanthk November 8, 2017 at 9:57 am

So would it be fair to say that both Keynesians and Monetarists believe that prices are sticky and money is not neutral in the short run and monetary policy can have “real” economy consequences?

If that’s right, then what is the bone of contention between the two? I get that Monetarists probably favor activist monetary policy more than activist fiscal policy, but that to me, seems more like an ideological preference than a theoretical difference from Keynesians.

9 Mark Wylie November 8, 2017 at 6:23 pm

Galbraith was really more of an institutionalist than a Keynesian.

10 shrikanthk November 8, 2017 at 7:37 am

Also the assumption of sticky prices – is that exclusively Keynesian?

Don’t the Monetarists also accept the stickiness assumption to some extent? When Friedman talked about how Fed could have prevented the Great Depression by printing more money, his implicit assumption was that printing money could have prevented the collapse of aggregate demand, as opposed to merely increasing prices in a sagging economy. Fair?

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11 Alex Tabarrok November 8, 2017 at 11:08 am

shrikanthk,

You are correct. Keynesians and Monetarists morphed together and are no longer especially distinct. Paul Krugman’s and Brad DeLong’s Keynesian, for example, is essentially monetarist and is similar to that of Greg Mankiw’s. There are some issues, discussed in later videos, between those who think that monetary policy can do it all if the Fed just keeps NGDP growing at a stable rate, the market monetarists like Scott Sumner, and those who think that when interest rates are very low, the zero lower bound, that more old-time Keynesian fiscal policy is needed.

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12 shrikanthk November 8, 2017 at 11:35 am

Alex – Thanks. That helps.

Also could it be that while both Keynesians and monetarists may agree on economic theory largely, where they differ is in their policy prescriptions? So Keynesians I guess favor discretionary monetary policy to manage the business cycle. Whereas monetarists, while acknowledging the non-neutrality of money, favor a non-discretionary policy where the money supply grows at a steady rate (as prescribed by Friedman) or the NGDP grows at a steady rate (as suggested by Sumner).

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13 Alex Tabarrok November 8, 2017 at 11:42 am

shrikanthk,

Exactly right. (Again, this is discussed in later videos.) Keynesians lean towards thinking that monetary policy tends to stabilize an unstable economy and monetarists lean towards monetary policy destablizes a stable economy. In addition, monetarists lean towards monetary policy over fiscal policy while Keynesians lean towards fiscal policy over monetary policy.

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14 rayward November 8, 2017 at 7:57 am

For those without the patience to wait, here are short lectures by Cowen on four theories of the business cycle (Austrian, Keynesian, Monetarist, and Real): http://blog.acton.org/archives/86754-4-theories-about-the-business-cycle.html. This reminds me of the way faithful Christians read/study the four canonical Gospels (Matthew, Mark, Luke, and John), which is (1) one at a time rather than side by side and (2) out of context.

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15 rayward November 8, 2017 at 8:14 am

Sorry, bad manners on my part. Tabarrok and Cowen should present the theories how they wish, when they wish, without some reader linking to past lectures. Delete my comment.

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16 carey November 8, 2017 at 8:25 am

…….. But I am without patience — so please tell us at least which of the 4 theories Cowen (and Tabarrok) personally endorses (?)

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17 Anonymous November 8, 2017 at 8:50 am

Sad how that clip connects to our modern world.

In practice, the very people who hated Keynesian economics in the Great Recession are about to add $1.5 trillion in debt during a recovery.

Per the video, that is a set-up for a crisis.

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18 Nate November 8, 2017 at 9:16 am

The GOP does “Strategic Debt Accumulation.” When they get in borrow they max it out on bombs and tax cuts so when the Dems come in to pick up the pieces they can’t do what they want.

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19 new labour keynesian November 8, 2017 at 9:10 am

so the UK had a centre left government from 1997 to 2010. They were such keen Keynesians that they ran deficits even after 15 years of uninterrupted growth. That’s the thing about Keynesians, in the bad times, they have an economic theory to justify their true love, government spending. In the good times, well who’s counting anyway.

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20 Anonymous November 8, 2017 at 9:15 am

We have a different experience here, where Republicans “hate deficits” but at the same time it is their signature move.

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21 Nate November 8, 2017 at 9:17 am

All thats required is the debt goes up lower than GDP and debt to GDP trends to 0. You can actually borrow every year. We are not at that point in the US.

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22 clockwork_prior November 8, 2017 at 9:46 am

Until the U.S. is at that point, that is. As has been noted, predicting the future is hard.

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23 shrikanthk November 8, 2017 at 9:54 am

Was “New labour” center left?

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24 A Truth Seeker November 8, 2017 at 10:11 am

America is hopelessly divided. While Rome burns, Americans quarrel about Nero’s choice of songs.

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25 Real Talk November 8, 2017 at 12:25 pm

Your parents were first cousins.

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26 A Truth Seeker November 8, 2017 at 3:31 pm

No, they weren’t. I can assure you they were from different states.

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27 Um November 8, 2017 at 4:17 pm

First cousins can’t live in different states?

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28 Anonymous November 8, 2017 at 11:06 am

So why are economists mostly silent on the opportunity to reduce debt in a bull market and growing economy?

Why aren’t they educating on the inevitable bears?

Or should they do a big explainer for me on why another $1 to $2 trillion of debt is no big?

Or is everybody on board with the Trump plan of default and restucturing?

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29 Bob November 8, 2017 at 11:49 am

I don’t know how many economists you read: Most are saying that a large percentage of the tax reform in the plan is better than what we have today, but that has too many gratuitous tax cuts. Whether they think that the reform beats the problem of not being revenue neutral or not depends on the economist.

I, however, squint and expect that in the next decade or two the labor share of GDP goes down, as manufacturing and blue collar jobs are reshaped in the same way as farming was back in the day, and funding a government will be hard to do without raising taxes on capital, one way or the other.

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30 Anonymous November 8, 2017 at 12:22 pm

How do we judge “the bulk of the changes,” by line item or by fiscal impact?

I can’t imagine ~150,000 grad students mean much by fiscal impact, and yet they are “an interesting problem.”

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31 Anonymous November 8, 2017 at 12:30 pm

More directly, this tax plan is overwhelmingly a tax cut.

The corner cases where they ding political outgroups are just that.

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32 rayward November 8, 2017 at 1:13 pm

Uh oh! I fear that Cowen and Tabarrok have chosen at this time to provide these lectures on the theories of the business cycle because we are about to experience the downward phase of the cycle. If we are, then I assume they would prefer that we respond with an enema (a lean Austrian) rather than a feast (a bloated Keynesian). I could be wrong. About the downward phase, not the enema.

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33 Roger Barris November 9, 2017 at 6:13 am

I am a little surprised that Ricardian Equivalence didn’t make it into the video, particularly when you have pointed out the public choice observation about asymmetric pressure for deficits. Clearly, with higher deficits, RE is much more likely to be relevant. I thought that this was a missing factor in a lot of the discussions about “austerity” in the Eurozone — these were countries were the ultimate fiscal consequences of current deficit spending could not readily be ignored.

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