Winner of the New Statesman SPERI Prize in Political Economy 2016

Wednesday, 17 September 2014

Keynes and the Macmillan committee



This book, by Peter Temin and David Vines, has just been published. As you can see from the endorsements, I liked the book. In this post I just want to focus on a particular chapter, which was Keynes’s role as part of the Macmillan committee, an episode I did not know about before. Just as the book does so well, I want to draw parallels between the past and current events.

It is the end of 1929: UK unemployment was already high as a result of going back on to the gold standard five years earlier, and Wall Street had just crashed. The new Labour government was overwhelmed, so in the British tradition it set up a committee to recommend what to do, and Keynes was a member. As Temin and Vines note, although Keynes was at the centre of economic discussion at the time, he was also outside the establishment, as a result of publishing his attack on the Versailles treaty in the Economic Consequences of the Peace.

Keynes diagnosis of why British unemployment was so high linked returning to the gold standard at an uncompetitive level and the problems of downward nominal wage adjustment. The book’s description of how the then governor of the Bank of England, Montagu Norman, failed to see the problem is amusing - from a distance of nearly a century - but of course as the book points out this is exactly the ‘conversation’ that Germany is currently having with the rest of the Eurozone.

The obvious solution was therefore devaluation, and the book seems a little ambivalent about whether that was not much discussed because it was ‘off the table’ for political reasons, or whether Keynes and others thought that, having joined (which Keynes had opposed), Britain should stay the course. (Eurozone parallels again. Ironically Britain did devalue three months after the report was published, although as I note here, this was forced rather than a choice.) What Keynes argued for was instead increased government spending, but he failed to convince the committee that its impact on unemployment would not be crowded out. Here Temin and Vines attribute this failure not to the ability of the others to see the obvious, but to the fact that Keynes arguments did not fit with the model he was using, which was the model of the Treatise. They write: “the Macmillan Committee is of interest to us because Keynes’ presentations to it didn’t add up to a coherent view. Rather, they show Keynes thinking on his feet at a time when his ideas were in flux.” Those ideas ended up, of course, with the General Theory.

Finally, one thought of my own. When I was younger, I drew the wrong inference about the Great Depression. If only the General Theory had been written 10 years earlier, I reasoned, much of the agony of the Great Depression could have been avoided. Instead I should have focused on the gold standard. Not because this was more important as a cause of the world wide Great Depression - it well might have been - but because of what it tells you about the influences on macroeconomic policy.

Montagu Norman said to the committee “I have never been able to see myself why for the last few years it should have been impossible for industry, starting from within, to have readjusted its own position”. This was a few years after the General Strike of 1926! This was not someone lacking a coherent theory, but someone blind to the evidence and human nature, and enthralled to the ideology of the gold standard. No doubt being a central banker rather than a worker, or even an industrialist, helped this blindness. The lesson I should have drawn from the Great Depression is that a powerful ideology, in the hands of people remote from those adversely affected by it, can overcome common sense and evidence. 


27 comments:

  1. "...this is exactly the ‘conversation’ that Germany is currently having with the rest of the Eurozone."

    For a man with a hammer, everything looks like a nail.

    For a macroeconomist like Simon Wren-Lewis, everything looks like Germany.

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    1. you mean he sees patterns and connections you dont because hes a macroeconomist

      what a revelation

      -xerxes

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    2. It is precisely the same pattern and it will end up in the same way. The euro standard, the contemporary equivalent of the the gold standard, will disappear.

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    3. "For a macroeconomist like Simon Wren-Lewis, everything looks like Germany."

      Instead of making cheap shots, why don"t you explain the differences between the Eurozone and the Gold Standard.

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    4. Anonymous17 September 2014 23:34

      "why don"t you explain the differences between the Eurozone and the Gold Standard."

      Here's your answer:

      Central banks can't produce gold. The ECB can produce more Euros. So there is a decisive difference.

      Delete
    5. "The ECB can produce more Euros. So there is a decisive difference." In theory, yes. In practice, it doesn't. Plus, in today envronment producing euros is useless, unless you expand government deficits (ie use them to increase government expenditure and / or to reduce taxes).

      Delete
    6. "Central banks can't produce gold. The ECB can produce more Euros. So there is a decisive difference."

      No it isn't.

      You can still devalue your currency against gold, just as you can devalue the Euro.

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    7. This comment has been removed by the author.

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    8. For a man with a slogan, everything looks like an opportunity to use it.

      Delete
    9. Marco Cattaneo18 September 2014 04:11

      °in today envronment producing euros is useless, unless you expand government deficits (ie use them to increase government expenditure and / or to reduce taxes).°

      What about sensible gevernments in Italy (signor Berlurenzi is not very convincing) or in France?

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    10. After Berlusconi - Monti, Letta, Renzi, all of them powerfully endorsed by the EU, came. The Italian economy collapsed THEN. It was doing as well as the UK before.
      EU supported governments did HUGE damages to Italy.

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    11. Marco Cattaneo18 September 2014 12:06

      Well, good for Berlusconi!

      May I refer you to http://www.voxeu.org/article/what-holding-italy-back

      written 2011!

      Delete
  2. There are a couple of differences though, for example interest rates. Under the gold standard the central banks usually increased interest rates in uneasy times to attract money. This also happened in the USA as a reaction to the 1929 crash. However, interest rates in the Eurozone right now are at a record low. Fiscal policy in the depressed countries would still be preferable though.
    Also, to match history completely, the depressed countries would have to leave the Eurozone I guess. The alternative is inflation. I think even the 2% target of the ECB would not be enough. It's not enough already. I still don't know how Germany's wage restraint fits into your argument though. To restore the balance, wages would have to rise overproportionally, but that's not something monetary policy has control over. And if wages don't keep up, you inflate asset prices beyond what the real economy would be able to follow, i.e. you create a bubble. Of course, the whole Eurosystem has to be reformed.

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    1. i would guess that enough inflation in the eurozone could cause germans to demand wage increases.

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    2. "Of course, the whole Eurosystem has to be reformed."

      I agree. And I think that reform eventually has to be fiscal union. I do not think that substantial devaluation or even the abandonment of the currency is the long term solution to the problems in the Eurozone.

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  3. The Uk was better off without the Gold Standard see keynes : https://www.youtube.com/watch?v=U1S9F3agsUA

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  4. "Finally, one thought of my own. When I was younger, I drew the wrong inference about the Great Depression. If only the General Theory had been written 10 years earlier, I reasoned, much of the agony of the Great Depression could have been avoided."

    Then, as now, I think the biggest problem is politics. Even the "New Deal" Democrats balked at the level of spending required to get the economy rolling again. It took world-war-time spending to get things back up and running. (Of course, whether government spends money blowing things up or building things of use it still works.)

    So what does that say about our present slump? It means we are in it for the long haul, unless we are lucky enough to run into another world war...

    We don't need to look far for evidence of this. Japan suffered from a similar (but lesser) economic crisis 20 years ago (housing bubble) and they are still stuck in the slump. Interest rates have been at or below 1% for 18 years.

    What will happen in America? Political pressure will force up interest rates prematurely. This will cause recession and bigger debt problems. The goal will be to bankrupt social programs (what little they have.)

    What will happen in Europe? Neoliberal oligarchs will continue to use the slump to grind away the high levels of public benefits. (Which is really what's going on.)

    So just because there is a cure doesn't mean governments will have the brains to use it. They may, in fact, do the opposite: manufacture — or take advantage of — a crisis to implement "Washington Consensus" disaster capitalism.

    That market fundamentalism may have gained in strength after the 2008 meltdown — when it should've been thoroughly discredited — does not bode well for the human race (as we know it.)

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  5. when will economist stop looking in the past for solutions of the present or the future?
    I know: Stupid question - but for starters the recognition that this isn't exactly the ‘conversation’ that Germany is currently having with the rest of the Eurozone" would be helpful?

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    1. When will economists stop looking to the past? When there is nothing more we can learn from it, a time that is some way away. And no, this is pretty much exactly the conversation Germany is still having.

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    2. "When will economists stop looking to the past? When there is nothing more we can learn from it, a time that is some way away.

      Hilarious. A reflection of the ahistorical nature of macro-economics teaching. No doubt all past information has been factored into your Dynamic Stochastic General Equilibrium Optimisation Model and everything we know about the universe is contained it. Rational agents never repeat old mistakes.

      You are kidding of course, but unfortunately what you say is also depressingly true.

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  6. Like this is the current 'conversation':
    'European Union finance ministers endorsed plans over the weekend to leverage hundreds of billions of euros to finance new infrastructure projects and spur demand as part of efforts to avoid a period of Japanese-style economic stagnation across the region.

    Pier Carlo Padoan, the Italian minister of the economy and finance, said officials meeting here had agreed to direct the European Commission and the European Investment Bank to present initial plans for such a program within weeks.

    The focus should be on “practical measures” for “profitable investment projects, which are justifiable,” Mr. Padoan said at a news conference on Saturday.

    Last week, in a letter to Mr. Padoan, Wolfgang Schäuble, the German finance minister, and his French counterpart, Michel Sapin, endorsed plans to step up investment to give eurozone economies a better chance at growth in the years to come.

    ...“It would be mostly infrastructure projects, big and small, things to do with energy, things to do with roads, social infrastructure like schools and health centers and so on,” Mr. Noonan said, adding that the projects were “pretty well investable right away.”

    But Luis de Guindos, the Spanish economy minister, injected a note of caution.

    Mr. de Guindos said that projects that receive financing must help to break down remaining barriers among the European Union’s national economies and promote reforms so member states can become more competitive.

    “We have to identify investments that foster also productivity and competitiveness,” Mr. de Guindos told reporters on Saturday.

    “It’s not a merely Keynesian investment program,” he said, referring to John Maynard Keynes, the British economist frequently cited to justify public spending to combat economic downturns.

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    1. It's a start, but there are plenty of obvious red lights, the numbers I've seen on this story amount to about marshaling up to €300 billion, over 3 years. It's a statement so full of ratholes and caveats it could end up amounting to absolutely nothing. It is certainly not a clear statement declaring an amount of fiscal stimulus.

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  7. The 1925 Churchill budget took the pound back to gold standard at pre-war level, and it was 1931 when the UK left the gold standard.

    To restore pound to gold standard after WW1, UK prices and wages needed to fall through deflation, hence the 1926 general strike and Keynes' attack on Churchill just before his restoring pre-war parity.

    There was also the problem of the ‘floating debt’ caused by WW1, which diminished June 1932 with the war loan conversion.

    Krugman got a copy of Lionel Robbins’s 1934 book The Great Depression while rummaging in a Norwich bookshop, in which Robbins advised getting back on the gold standard (Krugman blogs, June 28, 2011 'The Old Superstition', June 30, 2011 'Wrong To Be Right', February 21, 2012 'Partying Like It’s 1934').

    Of course Robbins went on to support WW2 weaponised Keynesianism (see 'The Economic Section, 1939-61: A Study in Economic Advising' by Sir Alec Cairncross and Nita Watts).

    But then Robbins reappears 1957 advising Thorneycroft that government spending not wage-push was the motor for inflation. On the 6th January 1958 Peter Thorneycroft, Chancellor of the Exchequer, Enoch Powell, the Financial Secretary and Nigel Birch, the Economic Secretary to the Treasury, all resigned from the government. They wanted £153 million of cuts to be made to central government spending 1958-9, which they felt would adequately deflate the economy. The Cabinet agreed to £105 million of cuts, and they resigned. ('Ideologies of Conservatism: Conservative Political Ideas in the Twentieth Century', E.H.H. Green).


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  8. I remember reading some of the political discussion of the period going on when doing my PHD. One thing that struck out were people worried about leaving the Gold Standard because it would compromise "London's status as an international financial centre".

    When I find that quote and put it on here, but when I remember it now I think, Scotland, go for it!

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  9. The lesson from the Great Depression is that a powerful ideology (bad ideas, not only wrong models), in the hands of people remote from those adversely affected by it, can overcome common sense and evidence"

    after all it is the eternal fight between Capital & Labour
    and the first never sleeps

    contrarily to what labour seems to be doing since a long time,
    and I am sure the ideology played an important role there
    MZ

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  10. "The lesson from the (Great Moderation and Financial Crisis) is that a powerful ideology (bad ideas, not only wrong models), in the hands of people remote from those adversely affected by it, can overcome common sense and evidence"

    Read: DSGE - Samuelson, Lucas, Sargent, Woodford, Mankiw.....

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  11. .
    Medical afflictions should not be used a synonyms of personality deficiencies.
    .

    ReplyDelete

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