Keynesianism as an inadequate substitute for social democracy

by Henry on July 25, 2010

Martin Wolf in the FT today

Whatever the rhetoric, I have long considered the US the advanced world’s most Keynesian nation – the one in which government (including the Federal Reserve) is most expected to generate healthy demand at all times, largely because jobs are, in the US, the only safety net for those of working age.

I’m not sure I agree (or more precisely: your level of agreement with this statement will depend on exactly how you want to define Keynesianism) – but it’s worth pointing out that this is at the least quite consonant with Tyler Cowen’s arguments about Germany. On the one hand, this intellectual convergence could be taken as suggesting that Tyler’s case suggests that German-style social democracy works better than US style Keynesianism (an argument which I think Tyler agrees with, at least with respect to Germans). On the other, it could be taken as suggesting that despite Wolf’s frequent minatory statements about the external consequences of the German model, he believes that it works better in relative terms than US-style Keynesianism in providing internal economic security and political stability. Certainly, he is quite skeptical about the prospects of the US economic system given Republicans’ role as a blocking minority and perhaps majority in the near future (his most provocative suggestion is that Republicans are a perverted species of Keynesians).



hix 07.25.10 at 7:22 pm

Boring partisan fights. Republicans are not perverse Keynsian, they are just Keynsians, very normal Keynsians. They only look not so Keynsian compared to some very extremist Democrats . They did agree on over 12 % defict after all. Bush already started the stimulus program. His go shopping remark after September 11 also looks very Keynsian.

They got some other crazy idears in addition that make them not very concerned about deficits in good times, so far thats right. The prefered crisis response is Keynsian anyway. BushII good time deficits were not that dramatic as such. They only became dramatic in combination with low private sector saveing rates, wastefull spending, bad financial regulation etc. One just as to look as far as Germany to watch a similar irresponsible runup of debt done by both major parties that looks far less scary with limited warfare and stable private sector saveing rates.


Brautigan 07.25.10 at 7:35 pm

Shorter hix: “Bush is Keynsian if you disregard his total disregard of Keynsian economics.”

Shorter me: If a frog had wings, he wouldn’t bump his ass a-hoppin’.


Kevin Donoghue 07.25.10 at 7:41 pm

Is ‘hix’ an attempt to spell ‘Hicks’ perhaps? I look forward to Valyoo and Capatil.


bert 07.25.10 at 8:04 pm

The Bundesbank had an inflation target. So did the Bank of England, post-Ken Clarke.
The Fed, by contrast has a mandate to maintain both stable prices and stable growth. That’s what underpinned the repeated use of Greenspan-style easy money in response to successive speculative crashes. The “Keynesian” character of American economic policy-making has deeper roots than merely one party’s politically-calculated embrace of the voodoo/zombie occult. In Washington they don’t cut spending to balance the books; they cut interest rates to boost the business cycle. It’s actually a built-in feature.


Kevin Donoghue 07.25.10 at 8:30 pm

…German-style social democracy works better than US style Keynesianism….


In what sense does it work better? Both economies have performed pretty well since 1950 or so, which is when the Age of Keynes really began (according to Hicks). But they have faced very different challenges: the Vietnam war, the collapse of the Bretton Woods system, energy and financial crises, German reunification etc. These affected the US and Germany very differently. The US is big enough to implement Keynesian ideas without much regard to the effects on the BOP, but Germany isn’t.

There may be something interesting to discuss here but I think you need to spell out more clearly what you mean. And I don’t want to be rude, but it doesn’t help that the sentence, which I just cut and pasted that statement from, is really horrible. Never mind Tyler Cowen and the alleged convergence of his ideas with those of Martin Wolf. (Wolf doesn’t even mention Germany.) What’s the claim being discussed? Certainly Germans have less reason to fear from the prospect that right-wing lunatics may gain control of the budget, but that’s just because they’ve been there and done that. (Granted that may explain why they like social democracy.)

Sorry if I’m being obtuse but I suspect I’m not the only reader wondering what you’re trying to say.


bob mcmanus 07.25.10 at 9:32 pm

Republicans are Keynesians only if you consider tax cuts stimulative, and deficit spending the preferred Keynesian countercyclical measure. I don’t.

“Hence, the volume of employment in equilibrium depends on (i) the aggregate supply function, f, (ii) the propensity to consume, c, and (iii) the volume of investment, D2. this is the essence of the General Theory of Employment.” …JMK

The propensity to consume, which has little to do with actual output in consumer goods but will keep the price level up, I think is strongly related to personal security. Maintaining the volume of investment, which is inversely related to savings & finance, is the other main function of government, i.e. infrastructure and industrial policy.

Germany, with its ordoliberalism, seems closer to my understanding of Keynes than the work most of the post-WWII Anglo-American interpreters have done.


noen 07.25.10 at 10:47 pm

Keynesianism would be a step up for the US. What we have now is the rule of wolves. Sadly, it seems as though the sheep are not yet fed up with being on the menu either.


Frank Ashe 07.25.10 at 11:51 pm

“Republicans are a perverted species of Keynesians” ?

Is this in the sense that, in Tolkein’s world, orcs are a perverted species of elves?


Mr T 07.26.10 at 2:29 am

As I understand Keynes, there are 2 parts:
Pump priming during slow part of the economic cycle;
and government surplus when the economy is running.

the US has been woeful at the second part for at least the last 2 economic cycles.

I would suggest it is structurally incapable of achieving surplus’s at any times.

What amazes me it that there is a movement for fiscal austerity at exactly the wrong time in the economic cycle in the US.


Antonio Conselheiro 07.26.10 at 3:11 am

I read Wolf to be saying that things are likely to get much worse than we had feared, but I guess that it was really a terminological post.

Anyway, I’m shooting it over to my conspiracy-theory buddy because he likes that kind of thing.


Lee A. Arnold 07.26.10 at 6:45 am

The U.S. has just acquired a new piece for the safety net and the Republicans have been put to a disadvantage. In fact the Republicans could win back the Congress and they will still be in dangerous shape. Let’s look at (A) Two current debates, and then look at (B) What’s happening to the Republican Party:

(A) Two current debates: Here come two big differences between the Democrats and the Republicans in the near future: (1) Are you going to extend the Bush Tax Cuts beyond their expiration date into perpetuity? (2) Do you uphold the ideal of universal healthcare?

The parties are quickly moving into diametrically opposed positions, on both. They are being pushed there by their netroots.

Let’s look at (1) the Bush Tax Cuts. As of this moment, the long-term budget is roughly in balance, if the Bush Tax Cuts expire as scheduled.

Democrats might go for a short extension because the recession is bad — but not a permanent extension, because that will make a new long-term deficit. On the other hand, Republicans are sticking to the line that a permanent extension is okay without spending cuts, because tax cuts “pay for themselves”.

Well no, they do not pay for themselves. And the Republicans are now on notice. Greenspan just said last week that there should be no permanent extension of the Bush Tax Cuts, and Bernanke mentioned tax cuts only in the context of a short-term stimulus, a few days ago.

Let’s accept genuine concern about the accumulated debt. Let’s encourage more and more citizens to start exercising their RIGHT to INSIST that any long-term (i.e., permanent) tax cuts be offset in the SAME Congressional bill with long-term (permanent) spending cuts. Then: we all get to discuss it, before they pass it.

The political bottom line is, if the Republicans want permanent Bush Tax Cuts, they are going to have to DO the entitlement cuts. And that won’t go over well. As the old tea-partyer said, “Keep your government hands off my Medicare!”

This is a political disadvantage that the Democrats do NOT have: They merely have to stick to paygo. They just balanced the long-term budget, so maybe the debt can start to be paid down. They can point out that everything will be worse, if the Republicans get their tax cuts. The CBO just said they can save more spending, by getting a non-profit public option. Well then: save it, and give a little permanent Obama Tax Cut. Further, the Administration just signalled that they are going to co-opt even more of the Republican thunder with a temporary extension of some of Bush’s tax cuts.

Let’s look at (2): whether we are going to honor the new law to have universal health coverage. “Universal healthcare” (of whatever shape) was the last remaining liberal goal, and it has just been accomplished, in theory. At this point, anything the Republicans do to harm Obamacare can be referred DIRECTLY to the question of whether they support the idea of universal access to healthcare. This is a another disadvantage for the Republicans.

For example: Do they want to end the mandate? Well, that means they have to release the insurers from providing universal coverage, such as by allowing the insurers to rescind coverage and deny coverage as before — or else the insurers go bankrupt, because the mandate is put in there to give them a larger, therefore, better risk pool. So: M. Congressperson, are you against universal coverage?

The problem for Republicans here is that ObamaCare’s main parts are an interlocking set of institutions that (a) provide universal coverage, (b) manage costs, and (c) highlight the next problems we have to take care of. If you start pulling it apart, then you start having to explain yourself, even to little kids. It is clever stuff — the fruit of about 20 or 30 years of Congressional discussions, and 1/2 (one-half) composed of Republican ideas.

Now I’m guessing that the mainstream Republican leadership wishes that THEY were the ones to give us universal healthcare — they rammed through Medicare Part D under Tom DeLay, for heaven’s sake… You could see this sinking wistful feeling in their faces at Obama’s televised healthcare summit.

To conclude, combining (1) and (2), the status of the debates about the Bush Tax Cuts and about universal health coverage, I would say that the Democrats have been pushed by their clever base into balancing the long-term budget while adding an entitlement, and on the other hand, the Republicans have been pushed into the position of explaining their rhetoric, i.e. explaining to the INDEPENDENT VOTERS why they want to recreate a long-term deficit and why they won’t guarantee universal access to healthcare.

Put another way, the Democrats have instigated an epoch wherein they have basically locked the budget and can administer the welfare state, while the Republicans have to find spending cuts to pay for their campaign promise of tax cuts.

Of course these issues may not be coming up in the very next election. But they are inexorably programmed to come up, and they are just on the horizon.

And this gets us to (B): What is really happening to the Republican Party?

It looks to me like the Republicans are breaking up. They were born of a break-up, the Whigs, and they had a good run. Now they are in big trouble — two different kinds of big trouble:

(i.) Their economic ideology has imploded — we’ve been seeing various aspects of it for years. Nobody really believes that tax cuts “pay for themselves” and even Greenspan is frightened. If the Republicans retake the House, they’ll move into full obstruction mode because they don’t have much else to say.

(ii.) At this same moment, the party is splitting up because the hardcore tea party 27%, goaded on by the likes of Limbaugh, has gone completely populist and is replete with crackpots, and loathes the mainstream Republican leadership. This gives you one of the reasons why Boehner doesn’t want to say what the Republicans are going to do until after the election.

An immediate tactical question for Washington Republicans is how successfully and cleverly they can co-opt a teapartyer like Rand Paul without his true-believer supporters noticing. While teaching him all their theatrical dialogue about how the system really “works”. Perhaps they hope that Karl Rove can come up with a cunning plan! After all, he just got $4.5 million from four billionaires for a “grassroots” “shadow RNC.” Good luck, there!

Another prediction: look for a few more mainstream Republicans to jump from the party, like Crist.

Is this the end of the Republican Party? Notice that they formed in the ashes of the Whigs, who basically split over an intractable moral economic rights issue: whether new states in the union should be Free or Slave — it was a labor issue; the white workers didn’t want it. (On the other hand the Democrats were by far the worst racists, at least up through the time of Ulysses Grant, as far as I have read. See the terrific new book on Grant by Joan Waugh.)

Ironic, if what kills the successor to the Whigs is an intractable moral economic rights issue like the passage of universal healthcare, the acceptance of a big legitimate structural safety-net budget, and the necessary realignment of the society to accommodate it.


bad Jim 07.26.10 at 8:08 am

The U.S., to the extent that it is a federation of somewhat sovereign states, is prevented from acting in a sane fashion in the face of economic adversity. State and local governments have been compelled to reduce their spending drastically, which is unhelpful. A more centralized government would have been able to act counter-cyclically, alleviating rather than exacerbating the downturn.

Other countries, in other words, are automatically Keynesian in ways that America is not; here, only Congress and the Fed can buck the trend, and only if they agree to take action.


alex 07.26.10 at 11:12 am

There is an almost theological beauty in the way in which posters are using the word ‘Keynesian’ to mean exactly what they want it to mean throughout this thread.


politicalfootball 07.26.10 at 2:43 pm

We are having trouble with definitions here, as Henry acknowledges in the original post.

Henry’s own description of the conflict – “US-style Keynesianism” vs. “German-style social democracy” – tends to obscure the fact that we’re talking about two Keynesian approaches here.


bert 07.26.10 at 4:00 pm

I may not have helped matters. There’s more ways to do stimulus than just fiscal policy, and Martin Wolf does mention the Fed, but really only in passing. To keep the argument clear, and to fit in with the current debate, it might make sense to stick to a discussion of deficit-financed public spending of the traditional kind.


chris 07.26.10 at 4:35 pm

A more centralized government would have been able to act counter-cyclically, alleviating rather than exacerbating the downturn.

I don’t see how the centralization of government is related to its ability to deficit spend. Rather, the problem with most U.S. states is that they have Mellonism written into their laws and, in some cases, constitutions. That’s a choice, and one unrelated to the federal system. The yield on state bonds might be higher than T-bills — certainly if they ran the kind of persistent structural deficits the feds do — but they wouldn’t be unable to sell them at all, if they tried.

Of course, the federal government could also borrow and give the borrowed funds to the states, knowing that when the economy recovers, the citizens of the states will be the ones paying it off. (Many people have proposed this, sometimes describing it as a bailout of the states.) Again, it chooses not to.

Inadequate Keynesianism is going to be an inadequate substitute for *anything*.


novakant 07.26.10 at 10:08 pm

Bob has it right: Germany is not “Keynesian”, it’s ordoliberalist.


bob mcmanus 07.26.10 at 10:44 pm

17:I was actually trying to make the opposite case, that German “ordoliberalism” is closer to the “True Keynes” than what the New Keynesians and “Keynesians” in America preach. Read the Hyman Minsky book on Keynes, particularly the last prescriptive chapter.

But, 13 above


novakant 07.27.10 at 1:02 am

Yeah, got it, thanks. But I why get involved in debates about the true meaning of Keynsianism while discussing Germany, when ordoliberalism which provided the basis for the German “social market economy” is pretty well defined in its own right by its proponents and has been German policy for decades.


hartal 07.27.10 at 5:58 am

Am I to believe that Tyler Cowen wants something like codetermination in the US so that labor has the power to minimize the downsizings the suffering from which overly aggressive Keynesian policy is the only tool available in the US to minimize? Is Tyler Cowen a German social democrat or does he pretend to be one only to argue against the actual policy solutions on the table in the US, which may alas cost the wealthy a few dollars down the line.


piglet 07.27.10 at 7:52 pm

Not just Keynesianism but also Social Democracy (e. g. 5) are used pretty much arbitrarily here. Unless we figure out the terminology, we are unlikely to get anywhere with this.


piglet 07.27.10 at 8:10 pm

After reading Wolf’s piece, I’d say that it is worth reading but has little to do with Henry’s post. What Wolf is saying is that Republicans have been successful as a tax-cutting party, that this could be regarded as a form of Keynesianism (stimulate demand by running deficits), and that they have adopted a fiscally irresponsible indifference towards the deficit. One could conclude from this argument that Keynesianism is neither left nor right, which I agree with. Germany is not mentioned at all by Wolf and it is somewhat mysterious why Henry is trying to put that into Wolf’s mouth.


chris 07.27.10 at 8:36 pm

What Wolf is saying is that Republicans have been successful as a tax-cutting party, that this could be regarded as a form of Keynesianism (stimulate demand by running deficits)

But that’s not Keynesianism. Keynesianism is a program of *situationally* stimulating demand by running deficits *during recessions* (and correspondingly, cooling inflation by running surpluses during booms). If you don’t understand that Keynesianism prescribes different actions for different sets of economic conditions then you don’t know it from a hole in the ground.

Republicans cut taxes to run deficits during booms, which is not Keynesian at all; it’s not even cargo cult Keynesian.


hix 07.27.10 at 11:21 pm

Dont look so hard on the zero. -2% in good and -12% in bad times is also very Keynian.


piglet 07.28.10 at 12:11 am

chris, you should attack Wolf, not me.

Keynesianism is a program of situationally stimulating demand by running deficits during recessions (and correspondingly, cooling inflation by running surpluses during booms).

This brings up the question whether true Keynesianism has ever been practiced. Anybody wanting to chime in on that?


bob mcmanus 07.28.10 at 12:31 am

“Keynesianism is a program of situationally stimulating demand by running deficits during recessions”

I don’t think so, or if this is Keynesiansism, I don’t want any.

1) How about deficit spending that goes 100% to the top .0001 percent of the income distribution? No? Then it is not about deficit spending, but about boosting aggregate demand.

But I don’t think so

2) How about sending the lower three quintiles $1000 checks? Well, consumer confidence fell again today, and will those checks boost confidence enough to jumpstart the economy, ensure consumer spending over anything more than a short period and reassure business that capital investments and hiring will be profitable?

I don’t think so.

Keynes said as quoted at 6 above, he was about “the propensity to consume” or medium to longterm consumer confidence, and about capital investment, by either boosting animal spirits or having the gov’t do it. I suppose I could go on at length about “crowding out” or Keynes discussion of nominal and real wages (he was not about consumption) or Kalecki’s analysis of deficit spending (who gets the interest?).

But the last decade should have taught enough lessons about tax cuts and deficits as stimulus. They fail.

Safety net, commanding towers, heavy regulation, print, spend, tax.


bh 07.28.10 at 5:19 am

I guess it’s the obvious line, but my honest counter is that social democracy is an inadequate substitute for Keynesianism. And I don’t think Keynesianism is that difficult to define in this context — it’s the use monetary and fiscal policy to stimulate the economy in the absence of private demand. This is distinguished from core social welfare programs or (duh) any old large public expenditure in that it’s explicitly, first-purposefully countercyclical. It’s true that many social welfare programs (unemployment insurance etc.) are countercyclical as well, but that’s basically a secondary benefit, and certainly one that’s not large enough to counter a recession of this size.

I do think it’s telling how this ‘debate’ (too kind a word) has worked, where US critics like Krugman don’t see a ‘vs.’ at all — just a recognition that structural social policies, while hugely important in their own right, don’t obviate the need for more targeted gov’t action in the face of a collapse of private demand.


John Quiggin 07.28.10 at 5:42 am

In my view, Keynesianism and social democracy are not substitutes but complements. I’ll try to back this up when I get some time.


Michael S. Olsen 07.28.10 at 9:59 am

I like all this lively academic discussion about economics. It’s fun for all participants.
But here’s a thought: how about talking to people with first-hand knowledge?
Sure, you’d have to actually get up and do stuff like talking to the great unwashed in their dirty habitats. As for myself I’m a chronic depressive Dane, and whatever faults I can find in my country’s policies, I am eternally grateful that I’m not american, british, or any other nationality… except maybe swedish, because as much as I’m loath to admit it, I think they might actually have an even better system.
Politics-wise, denmark has a long history of social democracy. My proof:
Our right-wing are known as… tadahh: Liberals.
Yeah, we have heavy taxes, on tobacco, on cars, on booze, on and on and so on.
But guess what we don’t have: an overall gap between haves and have-nots as disgusting as the U.S.
A murder rate that is unfathomable.
A media that is totally broken, (though we’re getting there).

But we have plenty of problems, every county does.
But as for the U.S, where even hinting in print or on the air
that taxing the super-rich and helping the destitute is suicide… yeah, well.


lemuel pitkin 07.28.10 at 3:33 pm

What is Keynesianism?

1. As a policy of countercyclical demand management, Keynesianism is based on the idea that there are no automatic forces in industrial capitalism that reliably equilibrate aggregate supply and aggregate demand. So in the absence of government stabilization policies, the economy will waver between inflationary periods of excess demand and deflationary/depressed periods of inadequate demand.

1a. The main explanation for this instability is that private investment depends on long-term profitability expectations, but since aspects of the future relevant to profitability are fundamentally uncertain (not predictable in even a statistical sense; folks like Paul Davidson would say nonergodic), these expectations are unanchored and conventional, inevitably subject to large collective shifts independent of current “fundamentals”.

1b. Government spending can stabilize demand if G+I varies less over the business cycle than I alone does. For which it’s sufficient that government spending be large. It’s even better if G and I move in opposite directions, but the reason Hyman Minsky, for instance, answered No to the question Can “It” Happen Again? was because of big government as such, not countercyclical fiscal policy.

1c. The flipside of excess/inadequate demand for goods and services is inadequate/excess demand for liquidity. From this point of view, the key task of macroeconomic policy is to stabilize the price of liquidity by adjusting its supply in line with shifts in demand. Traditionally this is framed in terms of monetary policy, but in countries (like the US) where government debt is highly and reliably liquid, it can just as well be achieved by variations in net issuance of government debt.

2. The focus on cyclical stabilization assumes that there is no systematic long-term divergence between aggregate supply and aggregate demand. This was not Keynes’ view. He believed that there was a secular tendency toward stagnation in advanced capitalist economies, so that maintaining full employment meant not just using public expenditure to stabilize private investment demand, but to incrementally replace it.

3. Another way of looking at this is that the steady shift from small-scale to industrial production implies a growing weight of illiquid assets in the form of fixed capital. There is not, however, any corresponding long-term increase in the demand of illiquid liabilities. If anything, the sociological patterns of capitalism point the other way, as industrial dynasties whose socials existence was linked to particular enterprises have been steadily replaced by rentiers. The whole line of financial innovations from the first joint-stock companies to the recent securitization boom have been attempts to bridge this gap. But this requires ever-deepening financialization, with all the social waste and instability that implies.

3a. It’s the government’s ability to issue liabilities backed by the whole economic output that makes it uniquely able to satisfy the demands of wealth-holders for liquid assets. According to the functional finance tradition going back to Keynes’ protégé Abba Lerner, modern governments do not possess a budget constraint in the same way households or firms do. Public spending is set to optimize aggregate demand; public borrowing has nothing to do with “funding” that spending and is solely determined by how much government debt the authorities want the banking system to hold. Since the demand for liquid financial assets rises secularly over time, so should government borrowing.

3b. From this point of view, one important source of the recent financial crisis was the surpluses of the 1990s, and insufficient borrowing by the US government in general. By restricting the supply of Treasuries, this excessive fiscal restraint spurred the creation of private sector substitutes purporting to offer similar liquidity properties, in the form of various asset-backed securities. (Here is a respectable mainstream guy making essentially this argument.) But these new financial assets remained at bottom claims on specific illiquid real assets and their liquidity remained vulnerable to shifts in (expectations of) the value of those assets.

3c. The response to the crisis in 2008 then consists of the Fed retroactively correcting the undersupply of government liabilities by engaging in a wholesale swap of public for private liabilities, leaving banks (and liquidity-demanding wealth owners) holding government liabilities instead of private financial assets. The increase in public debt wasn’t an unfortunate side-effect of the solution to the financial crisis, it *was* the solution.

3d. Along the same lines, it can be argued that an important factor in the financial stability of the immediate postwar era was the huge proportion of federal debt in the assets of the banking system. Over 75 percent of bank assets consisted of federal debt in 1945, compared with barely 1.5 percent in 2005. (The Fed’s crisis interventions have since brought it back up to 8 percent.) Under those circumstances, it took neither financial engineering nor speculative bubbles to convince banks to hold claims on fixed capital and housing; but as the supply of government debt has dwindled the inducements to hold other assets have had to grow increasingly garish.

From which I conclude that ever-increasing government deficits may in fact be better Keynesianism – theoretically, historically and pragmatically – than countercyclical demand management.


Walt 07.28.10 at 4:26 pm

Impressively thorough for a blog comment, Lemuel.


lemuel pitkin 07.28.10 at 5:00 pm

Anything to avoid working on my dissertation.



Kosimba 08.05.10 at 10:03 am

Commenting on a dead topic here but here is my sixpenthworth as I also read the Wolf Blog and was very interested in the idea. What makes the US ‘Keynsian’ ish is that despite the rhetoric they are commited to managing demand, whereas post 70’s Europe has adhered to the monetarist shiboeths about interest rates and inflation.
The key points for me are these
a) It is the loyalty to monetarist fetishes of interest rates and inflation – not unions and welfare states – which have caused the massive rise in unemployment in post 70’s Europe.
b) Right-wing hegemony in the US however has meant that it is a very inefficient and impoverished form of demand management – giving tax breaks to the rich is much less efficient than tax breaks to the poor (even setting aside Bush cuts US tax system is among the least progressive anywhere), and stimulating the economy without a strategic or redistributive role for the state leads to import consumer booms for crap that doesn’t make us happy, and is environmentally disasterous.
The take home message is that redistributive states which manage demand to create jobs are what we need. I can see it as a banner headline in the FT

Comments on this entry are closed.