Winner of the New Statesman SPERI Prize in Political Economy 2016

Sunday 29 January 2012

The Anti-Keynesian school

                Some comments on this recent post about Schools of Thought macro have raised interesting issues which I had not thought enough about, and which I want to come back to later if I can. Here I want to put forward an idea suggested by this from Jonathan Portes. We wrote these posts simultaneously and independently, and although I think Jonathan’s is consistent and complementary with what I had written, rereading it made me think a bit more about what I was really annoyed about.
Jonathan describes his puzzlement at being labelled a Keynesian when he thought he was just following mainstream macroeconomic theory and evidence. It discusses how misleading it can be to associate views about how the economy works with policy positions which may be rather specific in time, place and circumstance. Now I think these types of criticism, which I made in my original post, apply to at least some other schools of thought in macro. For example the label monetarist has many layers of meaning, from the very specific and policy related (money supply targeting) to the much more general and theoretical (money matters). These layers may be related, but they do not have to be.
Having said that, I think it is worth saying a bit more about the use of the specific term Keynesian, which both our posts focused on. It seems to me slightly unusual when used to denote a school of thought today, because it appears to be invoked more by those who disagree with it than those who agree. Jonathan’s post gave some clear examples of this. To caricature: we do not need to think too much about fiscal stimulus, because it’s a Keynesian policy. It is true that this kind of statement is more often made by politicians, journalists or bloggers than academics, but academics are not blameless here, and others often take their cue from them.
The source for dismissive statements of this kind probably goes back to the 1980s. At the academic level, it reflects the defeat of the Keynesians at the hands of New Classical economists, without noting that things have moved on rather a lot since then. At the level of policy in the UK, it may also reflect a perception on the right of past battles won.   
In contrast, those economists who use (New) Keynesian theory generally think they are just applying standard macroeconomic analysis. They are using the synthesis (e.g. the New Neoclassical Synthesis of Goodfriend and King) that I talked about in that earlier post. They do not think of themselves as members of a school of thought – they thought they were part of the mainstream.
                Is that just arrogance on their part? There are two reasons for thinking it is not. First, it is this synthesis model that is used by pretty well every central bank as the main tool for doing monetary policy. That does not make it right, but it does give it a pretty good claim to being mainstream macro. After all, it is mainly in central banks where macroeconomics is applied to the real world. Second, as the evidence that prices are sticky seems overwhelming (as Paul Krugman points out, the evidence from real exchange movements is clear), and it follows almost automatically that aggregate demand then matters, it is difficult to see how Keynesian analysis can either be controversial or ignored. (Furthermore, even if prices are pretty flexible, demand will still be important in determining output after a severe negative demand shock that takes us to the zero lower bound, as I argued here.)
                So I want to abolish the Keynesian school. Keynesian analysis should be part of the mainstream, and does not need to be embodied in a school of thought. However, for those that like schools of thought, I will replace it with a new one: the anti-Keynesian school of thought. It covers all those who attempt to dismiss Keynesian ideas like fiscal stimulus at the zero bound, or countercyclical fiscal policy in a monetary union, not through reasoned analysis, but by just labelling it Keynesian.


  1. "Furthermore, even if prices are pretty flexible, demand will still be important in determining output after a severe negative demand shock that takes us to the zero lower bound, as I argued here."

    I'm still not quite convinced by this. It's an important result if true.

    I guess you have in mind something like Krugman wrote here:

    where he says

    It is important to notice that this does not mean that the old Keynesian idea that no full-employment equilibrium exists is validated. With fully flexible prices the economy will still manage to achieve full employment - but the mechanism is a bit unusual. Namely, the economy will get this inflationary expectations it needs via deflation - that is, by reducing the current price level compared with its expected future.

    Now, if this is true, the mechanism obviously won't work if the central bank prevents inflation (even after a period of deflation). However, it seems to me there must be something wrong with this story. For example, if prices are flexible, why don't they rise just as quickly as they fell? If the increase in inflation reduces real interest rates, increasing employment, then the initial deflation must raise interest rates (beyond their initial, too high level) reducing employment. So, we still have a period of unemployment, even with flexible prices.

    Furthermore, inflation doesn't solve the problem, because it only lasts one period. In the next period, we could be back to the initial situation, as inflation exceptions fall and the interest rate is too high again. The only way this story can work is if prices fall instantaneously in the first period, then rise gradually over the first period, and the period is long enough to incorporate the entire liquidity-trap (so that by the second period the economy no longer requires inflation). This doesn't sound like a flexible-price economy to me.

    My intuition tells me that Krugman is right in claiming that flexible prices should ensure full employment, but I feel this has to work via the Pigou effect. As prices fall, wealth increases due to the increasing value of real money balances. This is what motivates people to spend more, and it will also increase the full-employment interest rate. Eventually, the price-level is so low that the economy is at full employment even with a positive real interest rate.

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  2. diffrent theory and every one of them have something good ..WITH PKrugman many times i was agree..this doesn't mean i like KEYN.THEORY and for NEW KEYN theory have the same base with old theory (what metters)..what i said is one resolution for emergening time (higher inflation). but is not in my theory ok I AM with MARXIST thoery ..i dont move.. .if the EU print money and this money use for help investiment specialy Smaller business to take a brief. have and less unemployment because small businesses does not need and very higher tech.after 2--3 years when the business grow bank can make the inters higher ..and this is very good and for the bank too...if we thinking very realist and really we wanted to help the economy in totally..i think this methode can help ..thank you

  3. The insight that sticky prices exist and that aggregate demand can be manipulated to deal with this contingency is an insight that predates Keynes ..

    Use words and labels however you like, but don't falsely pretend that Keynes invented the wheel.

  4. Suppose a Keynesian economist from 1970 fell into a coma, and woke up in 2007, and was shown a New Keynesian model and an inflation-targeting central bank. He sees:

    1. Expectations-augmented Phillips Curve with (almost) long-run superneutrality.

    2. Permanent Income Hypothesis (aka consumption-smoothing).

    3. Monetary policy is in charge of AD, with fiscal policy doing micro stuff on the composition of demand.

    4. "Inflation is always and everywhere the responsibility of monetary policy".

    His response; "Damn! Friedman and the monetarists won!"

    Only when he looks more closely does he ask: "Hang on, where's M in this model? Is this a model of monetary exchange? Is the stock of money demand-determined or supply-determined in this model? What's the central bank doing talking about setting a rate of interest? Is this a monetarist or Keynesian transmission mechanism? Or is it Wicksellian? And whatever happened to the stuff that Clower and Leijonhufvud were working on?"

    A lot of old questions got swept under the carpet in the New Neoclassical synthesis. It took a crisis to lift the carpet. I think we are right to want to re-examine some of those old questions. And when we do re-examine those old questions, some of the old labels are going to re-appear.

    1. Nick,

      I agree with your point about old questions being "swept under the carpet" in the New Neoclassical synthesis.

      Here's my version of what Clower and Leijonhufvud might have to say. The problem now facing us isn’t sticky wages, but the lack of a truly comprehensive futures market in which firms with excess capacity and workers with excess leisure could make conditional commitments of the following kind, “if you’ll hire me at the going wage, I’ll promise to purchase goods from firms A, B, and C, whose new hires, in turn, will promise to buy goods from you.” Keynes' General Theory describes the predicament we face in the absence of such a market and a centralized auctioneer to run it.

  5. Jonathan describes his puzzlement at being labelled a Keynesian when he thought he was just following mainstream macroeconomic theory and evidence.

    Reality has a well-known Keynesian bias? Less snarkily, this was something that always struck me about macro classes at the turn of the millenium - for all the triumphalism, the foundational elements of analysis always tended to work their way back to IS-LM and friends.

    A coherent model of the macroeconomy is, in itself, the Keynesian achievement.


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