Keynes and the European economy
Peter Temin and David Vines
Keywords: Keynes; international; The Economic Consequences of the Peace; Macmillan Committee; Bretton Woods
Published in print:Jan 2016
Category:Research Article
Pages:36–49
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We argue in this paper that Keynes was interested primarily in the world economy. We do not seek to diminish the innovative advances Keynes made in The General Theory; we instead want to expand the perceived scope of Keynesian economics. We make this argument by analysing Keynes's contributions at three points during his career: writing The Economic Consequences of the Peace just after the First World War, testifying before the Macmillan Committee at the outset of the Great Depression, and negotiating at Bretton Woods during and after the Second World War. We then show how international Keynesian analysis clarifies the economic problems of Europe today.
Full Text
1 INTRODUCTION
We argue in this paper that Keynes was interested primarily in the world economy. He wrote The General Theory (1936) as a necessary part of this grand design, and then he died prematurely just after the Second World War. The success of The General Theory overshadowed Keynes's research design, and he is best known today as an analyst of a closed economy. To expand Keynesian analysis to the world economy, we survey Keynes's thought process through his active career and use his framework to analyse current European conditions.
Download PDF (100 KB)
We argue in this paper that Keynes was interested primarily in the world economy. We do not seek to diminish the innovative advances Keynes made in The General Theory; we instead want to expand the perceived scope of Keynesian economics. We make this argument by analysing Keynes's contributions at three points during his career: writing The Economic Consequences of the Peace just after the First World War, testifying before the Macmillan Committee at the outset of the Great Depression, and negotiating at Bretton Woods during and after the Second World War. We then show how international Keynesian analysis clarifies the economic problems of Europe today.
Full Text
1 INTRODUCTION
We argue in this paper that Keynes was interested primarily in the world economy. He wrote The General Theory (1936) as a necessary part of this grand design, and then he died prematurely just after the Second World War. The success of The General Theory overshadowed Keynes's research design, and he is best known today as an analyst of a closed economy. To expand Keynesian analysis to the world economy, we survey Keynes's thought process through his active career and use his framework to analyse current European conditions.
How Keynes came to Britain
Robert Skidelsky
Keywords: Keynes; Keynesian economics; the Great Depression; economic thought; history of economic thought; macroeconomics; monetary policy; fiscal policy; economic history; the Keynesian revolution
Published in print:Jan 2016
Category:Research Article
Pages:4–19
Download PDF (133.5 KB)
I explore how Keynesian ideas made their way into British public policy. I argue that the breakdown of pre-First World War macroeconomic conditions led to a ‘blocked’ system, where the adjustment mechanisms presupposed by classical economics were jammed, and that Keynesian economics offered an escape from this system. I explain the Keynesian response to the new problems in monetary and fiscal policy: the gold standard impeding credit control, and the tenacity of the balanced budget rule, respectively. Finally, I outline how Keynes's ideas took hold after the Great Depression via the events at the Macmillan Committee, and their policy implications.
Full Text
‘[I]t would promote confidence and furnish an objective standard of value, if … the authorities would employ all their resources to prevent a movement of [the price level] by more than a certain percentage in either direction away from the normal.’John Maynard Keynes (1923 [1978], p. 148)
‘Very little additional employment and no permanent employment can in fact and as a general rule be created by State borrowing and State expenditure.’Winston Churchill (HC Deb 15 April 1929, vol. 227, col. 54)
‘When every country turned to protect its national private interest, the world public interest went down the drain.’Charles P. Kindleberger (1973, pp. 290–291)
1 THE BLOCKED SOCIETY
After the First World War, the macroeconomic policy rules of the previous half-century broke down. This was because the conditions making it possible to keep them disappeared. The old macro-economy (in the days before macroeconomic policy) was framed by three connected rules: adherence to the gold standard, balanced budgets, free trade. All three were unhinged by the war. Quite simply, the gold standard became the transmitter, rather than the dampener, of external shocks, while domestic adjustment to them became more costly.
Because of increased union control over wages, increased working-class influence on politics, and the shutting-off of emigration outlets, domestic economies had become more rigid. Long before ‘stickiness’ of wages and prices found their way into formal economic models, it was becoming evident that industrial economies had lost their previous ‘elasticity’. The liquid markets praised by economists had morphed into a congealed corporatist mass. Germany was the main example of this (Maier 1975). Fiscal rules based on balanced budgets and free trade became increasingly difficult to maintain.
The nineteenth century gold standard had worked after a fashion owing to special conditions. After the war it became completely dysfunctional. Barry Eichengreen (1985, p. 22) paints a compelling picture of ‘an international monetary system disturbed by misaligned exchange rates, insufficient and unhelpfully distributed reserves … and at the same time incapable of responding to disturbances due to rigidities in wage structure, rising tariffs, and the failure of cooperation’. London was fatally weakened as a ‘conductor of the international orchestra’. The problem of ‘global imbalances’ reared its head for the first time, but by no means the last time, with the USA's permanent export surplus exerting deflationary pressure on much of the rest of the world.
In short, the adjustment mechanisms assumed by classical economics were blocked or jammed. Unemployment became the chief expression of market sclerosis, and the main challenge to economic policy. Unemployment in Germany and Britain averaged about 10 per cent in the 1920s, double what it had been before the First World War. Persisting mass unemployment was also a challenge to theory. There was no theory of output and employment as such, since classical theory assumed – perhaps presupposed would be better – a state of full employment. Experience validated this to some extent. Economies might be knocked over for a short time, but they got up again without government help. Say's law was not mortally challenged. This changed with the Great Depression, which started in 1929 and from which the world did not fully recover until the Second World War.
Theory and policy alike were slow to recognize that conditions had changed. Under the slogan ‘Back to normalcy’, determined attempts were made in the 1920s to restore the prewar system. At their heart was the restoration of the international gold standard. Orthodoxy saw this as the indispensable framework for domestic monetary discipline. A gold anchor was politician-proof. To restore the gold standard, suspended in the war, it was, according to the Financial Resolution of the Genoa Conference of 1922, essential for governments ‘to balance national budgets by contraction of expenses rather than by increase in taxation, to stop inflation by ceasing to cover budget deficits by recourse to paper money, and to cease borrowing for unproductive purposes’ (Brown 1940, p. 343) – in short, to liquidate war finance. The old post-Napoleonic Ricardian programme became the consensual position of all governments.
The Great Depression of 1929–1932 started a period of experiments in macroeconomic policy and theory from which the Keynesian Revolution eventually emerged triumphant.
This essay will consider the way in which macro policy adapted, or failed to adapt, to the new conditions, with the Great Depression as the traumatic break in trend.
Download PDF (133.5 KB)
I explore how Keynesian ideas made their way into British public policy. I argue that the breakdown of pre-First World War macroeconomic conditions led to a ‘blocked’ system, where the adjustment mechanisms presupposed by classical economics were jammed, and that Keynesian economics offered an escape from this system. I explain the Keynesian response to the new problems in monetary and fiscal policy: the gold standard impeding credit control, and the tenacity of the balanced budget rule, respectively. Finally, I outline how Keynes's ideas took hold after the Great Depression via the events at the Macmillan Committee, and their policy implications.
Full Text
‘[I]t would promote confidence and furnish an objective standard of value, if … the authorities would employ all their resources to prevent a movement of [the price level] by more than a certain percentage in either direction away from the normal.’John Maynard Keynes (1923 [1978], p. 148)
‘Very little additional employment and no permanent employment can in fact and as a general rule be created by State borrowing and State expenditure.’Winston Churchill (HC Deb 15 April 1929, vol. 227, col. 54)
‘When every country turned to protect its national private interest, the world public interest went down the drain.’Charles P. Kindleberger (1973, pp. 290–291)
1 THE BLOCKED SOCIETY
After the First World War, the macroeconomic policy rules of the previous half-century broke down. This was because the conditions making it possible to keep them disappeared. The old macro-economy (in the days before macroeconomic policy) was framed by three connected rules: adherence to the gold standard, balanced budgets, free trade. All three were unhinged by the war. Quite simply, the gold standard became the transmitter, rather than the dampener, of external shocks, while domestic adjustment to them became more costly.
Because of increased union control over wages, increased working-class influence on politics, and the shutting-off of emigration outlets, domestic economies had become more rigid. Long before ‘stickiness’ of wages and prices found their way into formal economic models, it was becoming evident that industrial economies had lost their previous ‘elasticity’. The liquid markets praised by economists had morphed into a congealed corporatist mass. Germany was the main example of this (Maier 1975). Fiscal rules based on balanced budgets and free trade became increasingly difficult to maintain.
The nineteenth century gold standard had worked after a fashion owing to special conditions. After the war it became completely dysfunctional. Barry Eichengreen (1985, p. 22) paints a compelling picture of ‘an international monetary system disturbed by misaligned exchange rates, insufficient and unhelpfully distributed reserves … and at the same time incapable of responding to disturbances due to rigidities in wage structure, rising tariffs, and the failure of cooperation’. London was fatally weakened as a ‘conductor of the international orchestra’. The problem of ‘global imbalances’ reared its head for the first time, but by no means the last time, with the USA's permanent export surplus exerting deflationary pressure on much of the rest of the world.
In short, the adjustment mechanisms assumed by classical economics were blocked or jammed. Unemployment became the chief expression of market sclerosis, and the main challenge to economic policy. Unemployment in Germany and Britain averaged about 10 per cent in the 1920s, double what it had been before the First World War. Persisting mass unemployment was also a challenge to theory. There was no theory of output and employment as such, since classical theory assumed – perhaps presupposed would be better – a state of full employment. Experience validated this to some extent. Economies might be knocked over for a short time, but they got up again without government help. Say's law was not mortally challenged. This changed with the Great Depression, which started in 1929 and from which the world did not fully recover until the Second World War.
Theory and policy alike were slow to recognize that conditions had changed. Under the slogan ‘Back to normalcy’, determined attempts were made in the 1920s to restore the prewar system. At their heart was the restoration of the international gold standard. Orthodoxy saw this as the indispensable framework for domestic monetary discipline. A gold anchor was politician-proof. To restore the gold standard, suspended in the war, it was, according to the Financial Resolution of the Genoa Conference of 1922, essential for governments ‘to balance national budgets by contraction of expenses rather than by increase in taxation, to stop inflation by ceasing to cover budget deficits by recourse to paper money, and to cease borrowing for unproductive purposes’ (Brown 1940, p. 343) – in short, to liquidate war finance. The old post-Napoleonic Ricardian programme became the consensual position of all governments.
The Great Depression of 1929–1932 started a period of experiments in macroeconomic policy and theory from which the Keynesian Revolution eventually emerged triumphant.
This essay will consider the way in which macro policy adapted, or failed to adapt, to the new conditions, with the Great Depression as the traumatic break in trend.
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