Monday, December 19, 2011

Is Keynesian Economics Dead?

Robert Samuelson asks that question -- and gives his answer -- in this morning's Washington Post:

Governments have ceded power to bond markets by decades of shortsighted behavior. The political bias is to favor short-term stimulus (by lowering taxes and raising spending), which is popular, and to ignore long-term deficits (by cutting spending and raising taxes), which is unpopular. Debt has risen to hazardous levels, undermining Keynesian economics as taught in standard texts.

Were Keynes alive now, he would almost certainly acknowledge the limits of Keynesian policies. High debt complicates the analysis and subverts the solutions. What might have worked in the 1930s offers no panacea today.

The problem with the austerity solution is that when governments slash spending, they also decrease government revenues -- and deficits continue to balloon. Austerity has not improved Greece's financial situation; just as it did nothing to cure Japan's decades long slump. It's an old story. By focusing on the forest, policy makers don't see the trees. Austerity does not create growth.

It's true that bond markets possess more power than they warrant. One needs only to recall that Moody's, Standard and Poor's and Fitch's rated those sliced and diced mortgages -- which so enriched Wall Street  --  as gold plated investment opportunities. The real question policy makers should ask is, "Why do  the bond raters still have any credibility?" Instead, we kneel before them, humbly seeking their approval.

Debt is a problem. But austerity now makes the problem worse.

This entry is cross posted at The Moderate Voice.

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