The Keynesian past is past: Nostalgia is not the future

Human beings tend to divide on political questions into various camps; there is no surprise when so many theories contend in the debates over the causes of economic collapse and what should be done. Finance is a poorly understood subject shrouded in mystery, compounding the tendency toward multiple theories.

One common line of thought frequently heard in the United States — and among the most coherent, as it is based on reality unlike many competing theories — is that the two decades or so following World War II represent a “golden era,” and point toward high taxation on the rich, high taxation on corporations and the far higher level of unionization as enabling a relatively more egalitarian distribution of income that fueled consumption and therefore production. That was an era of high government spending on investment, helping start entire industries.

The logical conclusion of this Center-Left viewpoint is that what is necessary is a return to the conditions of the 1950s, the height of the so-called “golden age.” (Of course it was not so golden if you were a woman confined by limited options or an African-American facing officially sanctioned discrimination.) Concomitant to this viewpoint is that government has a role to play in stabilizing the capitalist system; the economists most known for advocating this are “Keynesians,” a school named for the famed British economist John Maynard Keynes.

May Day in Paris (photo by Patrick Prémartin)

The period from the end of World War II to the 1970s is sometimes referred to as the “Keynesian consensus,” so accepted was the Keynesian model. Keynesianism, simply put, is the belief that capitalism is unstable and requires government intervention in the economy when private enterprise is unable or unwilling to spend enough to lift it out of a slump. Keynes developed his theories during the 1930s, when the Great Depression had discredited the “laissez-faire” economics that had plunged the world into crisis. (Laissez-faire is an older name for “neoliberalism”; there is little new under the sun.)

The arguments summarized just above boil down to this: Government spending, not austerity, is the route out of economic slump. To be sure, Keynesian spending would be much better than the neoliberal austerity on offer around the world, but it also true that we’re no longer in the mid-20th century. Government spending — the New Deal, the immense effort to win World War II, the Marshall Plan and a significant state sector in European economies — did indeed lift living standards in the advanced capitalist countries of the North. Putting money in the pockets of working people by employing them does stimulate the economy.

But those more than two decades of economic boom was an anomaly that won’t be repeated, and this time Keynesian spending can’t save the day — the world capitalist system is undergoing a structural crisis in a time much different than the 1930s.

A repeat of history isn’t possible

Mid-20th century Keynesianism depended on an industrial base and market expansion. A repeat of history isn’t possible because the industrial base of the advanced capitalist countries has been hollowed out, transferred to low-wage developing countries, and there is almost no place remaining to which to expand. Moreover, capitalists who are saved by Keynesian spending programs amass enough power to later impose their preferred neoliberal policies. A vicious circle arises: Persistent unemployment and depressed wages in developed countries and inadequate ability to consume on the part of underpaid workers in developing countries leads to continuing under-consumption, creating pressure for still lower wages by capitalists who can’t sell what they produce and seek to cut costs further because there is no incentive for them to invest in new production.

The economic collapse that began in 2008 is not the latest in a series of downturns that are regular features of the “business cycle” of boom and bust endemic to capitalism. This structural crisis is a culmination of a long sequence of events, and has its roots in the 1970s, when mounting contradictions within Keynesianism and sharpened global competition created the openings for capitalists and the governments that capitalists have decisive influence over to begin to reverse the previous decades’ gains by working people and begin to impose neoliberal policies.

Sustained organized unrest during the 1930s had caused governments such as the Roosevelt administration to fear the possibility of revolution and, in response, massively increase social spending to dampen that unrest. Unions were emboldened, strikes disrupted production, and socialist and communist parties were acquiring mass followings — this was, so far, the only time the capitalist system has been threatened with replacement in the United States.

As significant as New Deal spending was, it was the unprecedented government spending required to win World War II that pulled the West out of the Great Depression, and the United States government continued spending to rebuild Europe and Japan through the Marshall Plan, successfully expanding markets for U.S. products, which was the intent of it.

The Keynesian compromise was not necessarily what capitalists would have wanted; it was a pragmatic decision — profits could be maintained through expansion of markets and social peace bought. This equilibrium, however, could only be temporary because the new financial center of capitalism, the U.S., possessed a towering economic dominance following World War II that could not last. When markets can’t be expanded at a rate sufficiently robust to maintain or increase profit margins, capitalists cease tolerating paying increased wages.

The tide turns in the 1970s

Ironically, just at the time when the conservative Richard Nixon declared “We are all Keynesians now” is when the tide turned against that school of economic thought. The rebound of Western Europe and Japan eroded U.S. manufacturing dominance, squeezing corporate profits and intensifying competition, and U.S. manufacturers responded by moving production overseas. A steady loss of well-paying jobs became a hammer held above the heads of working people — industrialists found it easier to squeeze their employees. Neoliberal ideology, particularly in the forms of the Austrian and Chicago schools of economics, supplied the intellectual justification.

By the early 1970s, the Nixon administration believed that the Bretton Woods monetary system put in place during World War II no longer sufficiently advantaged the United States despite its currency’s centrality within the system cementing U.S. economic suzerainty. Under Bretton Woods, the value of a U.S. dollar was fixed to the price of gold, and the value of all other currencies were pegged to the dollar. Any government could exchange the dollars it held in reserve for U.S. Treasury Department gold on demand.

Rising world supplies of dollars and domestic inflation depressed the value of the dollar, causing the Treasury price of gold to be artificially low and thereby making the exchange of dollars for gold at the fixed price an excellent deal for other governments. The Nixon administration refused to adjust the value of the dollar, instead in 1971 pulling the dollar from the gold standard by refusing to continue to exchange foreign-held dollars for gold on demand. Currencies would now float on markets against each other, their values set by speculators rather than by governments, making all but the strongest countries highly vulnerable to economic pressure.

The world’s oil-producing states dramatically raised oil prices in 1973. The Nixon administration eliminated U.S. capital controls a year later, encouraged oil producers to park their new glut of dollars in U.S. banks and adopted policies to encourage the banks to lend those deposited dollars to the South. Restrictions limiting cross-border movements of capital were opposed by multi-national corporations that had moved production overseas, by speculators in the new currency-exchange markets that blossomed with the breakdown of Bretton Woods and by neoliberal ideologues, creating decisive momentum within the U.S. for the elimination of capital controls. Private banks quickly became the center of international finance in place of central banks, leading to international dominance of the U.S. and British financial systems and U.S. financial institutions.*

Margaret Thatcher in Britain and Ronald Reagan in the U.S. ascended to office determined to tighten this domination, a project that would require both deregulation and lower standards of living for working people. It is no accident that the first move of the Thatcher administration, upon taking office in 1979, was to eliminate British capital controls (further stimulating financial speculation) and later maneuvering to break the miners’ union (striking a decisive blow against working peoples’ ability to defend themselves). Similarly, when Reagan took office at the start of 1981, he deregulated U.S. banking and broke the air traffic controllers’ national strike. (The ability of Thatcher and Reagan to break such strikes was strongly augmented by the lack of solidarity from workers in other industries — their reward for their silence would be to come under attack themselves, further eroding living standards.)

The rise of finance capital

Although Thatcherites provided ideological ballast for Reaganites, it would be the far larger U.S., and Reagan administration policy, that would be decisive. In the U.S., it should be noted that austerity began to be imposed near the end of the Carter administration when the then chairman of the Federal Reserve, Paul Volcker, unilaterally began to raise interest rates sky high, inducing the deep recession of the early 1980s. The Reagan administration severely tightened monetary policy to squeeze out inflation; gave huge tax cuts to the rich, thereby providing a correspondingly large boost to the financial industry (because the windfalls of the rich would inevitably be put to use in speculation); and pursued a policy of a highly valued dollar.

The extraordinarily high interest rates offered by U.S. banks attracted foreign capital, financing the Reagan administration’s deficit spending and military buildup; in turn the U.S. applied pressure on other countries to loosen their capital controls to enable this flow of funds into the U.S. At the same time, oil was paid for in dollars internationally; a combination of high oil prices and a highly valued dollar triggered the debt crisis of the 1980s. Latin American payments to service debt increased from less than a third of the value of the region’s exports in 1977 to almost two-thirds in 1982, a graphic illustration of the grip of finance capital.**

That grip strengthened to the point that the Clinton administration seemingly further deregulated financial markets on the demand of a large U.S. bank, Citigroup, that acquired an insurance company in defiance of then existing law, while a few small countries (such as Iceland) based their entire economies on financial speculation.

The economic turnaround of the 1990s rested on a stock-market bubble, particularly in technology stocks. When that bubble burst in 2000, a bubble in real estate began to inflate, expanding the numbers of people engaged in speculation as the middle class was encouraged to buy houses for short-term investment and banks pocketed windfall profits by knowingly making housing loans on unfavorable terms to lower- and middle-income people who could not afford their mortgages. When a bubble bursts — in this case, when real estate prices had gone far beyond reasonable or sustainable — corporate profits will have already been pocketed, leaving others to pay the bills.

No more bubbles to inflate, decades of Reaganite neoliberalism in the U.S. reached its logical conclusion with 2008’s freefall, taking down the global economy with it.

Propping up destructive financialization

Having ridden a tiger they can’t control, ideologically dependent on financiers, ensnared in the global web of financial markets and lacking any fresh ideas on how to combat ongoing stagnation, the governments of the world’s advanced capitalist countries have had no answer other than to prop up the financialization that led to the collapse. Or additionally, in the case of the Obama administration, to semi-desperately give subsidies to solar energy companies in an effort to kickstart a new “green energy” industry.

The problem here is that China is already a low-cost manufacturer of such equipment because the preceding four decades has seen a steady exodus of manufacturing from high-wage countries to low-wage countries — a process that is the logical outcome of capitalist competition. The only way to bring manufacturing back to a country such as the U.S. on a large scale would be through massive reductions in wages. Indeed, the “revival” of the U.S. automobile industry is based on new autoworkers earning wages half that of workers who had been there before the industry bankruptcies.

Here’s another example. Caterpillar Inc. locked out its unionized workers at its locomotive assembly plant in Ontario when they refused to accept a 50 percent wage cut, then closed the plant in February. Caterpillar then expanded production in Indiana, at a plant it had bought shortly before the lockout. The company last year placed an online job advertisement seeking human-resources managers having “experience with providing union-free culture and union avoidance,” according to a Feb. 3 report in The Wall Street Journal.

The race to the bottom is accelerating. Government spending can no longer provide anything other a tap to the brakes, and so much debt has been accumulated because governments borrow from the rich and corporations instead of taxing them that deficit spending in the amounts of the past aren’t possible. Corporations are sitting on unprecedented piles of cash, the rich have so much they can’t even speculate with all of it, working people are being immiserated — and the only solution on offer is to give more to those at the top.

Such a state of affairs can’t last forever — nobody has yet invented a perpetual-motion machine.

(This article is adapted from It’s Not Over: Learning From the Socialist Experiment, published by Zero Books. Copies are available from online sellers at well below the list price.)

* This and the preceding paragraph based in part on Michael Loriaux, Capital Ungoverned: Liberalizing Finance in Interventionist States, pages 219-222 [Cornell University Press, 1997]; Peter Gowan, The Global Gamble: Washington’s Faustian Bid for World Dominance, pages 19-26 [Verso, 1999]; and Eric Helleiner, States and the Reemergence of Global Finance: From Bretton Woods to the 1990s, pages 112-121 [Cornell University Press,1994]

** This and the preceding paragraph based in part on The Global Gamble, page 40; Capital Ungoverned, page 222; and Giovanni Arrighi, The Long Twentieth Century: Money, Power, and the Origins of Our Times, page 323 [Verso, 2002]


9 comments on “The Keynesian past is past: Nostalgia is not the future

  1. katazcrack says:

    I enjoyed reading this article very much, and you might hate me for asking this but I have a question. All this said, and very WELL said… maybe at some points I didn’t read correctly, but I am not convinced that government spending should be supressed, but that maybe a change of thinking in government spending should take place. What would be YOUR solution for the world to pull itself out of this crisis be?

    • Thanks for the question – it is a good question. To clarify, I do not think government spending should be supressed. That would be neoliberalism or austerity, what we have too much of already. As I said, government spending, to create jobs, on infrastructure and for necessary social good, would be a good thing, and I support that. But that spending will only ameliorate the economic malaise, not solve it as Keynesian spending did in the decades following World War II.

      My solution to pull the world out of its crisis is to transcend the system that has put the world into crisis. That is, a socialism in which banking is a public utility, there are no more stock and bond markets, critical industries of universal social importance such as energy or the water system are state-owned and subject to public accountability, and enterprises are collective owned by their workers. In the cooperative enterprises, workers would vote on all major business decisions, elect their management from their own ranks and be accountable to the communities in which they operate.

      The concentration of capital allows a small number of people to acquire vast power, so that they can control society to their own benefit and at the expense of all of us. Competition within capitalism inevitably leads to bigger corporations and attacks on wages and benefits because if you don’t grow, your competitor will and put you out of business. So to sum up, what the world needs is cooperation, not competition.

      • katazcrack says:

        I wish I could find something impressive to say, but I am barely 17 and I can’t hope to impress you. :p
        I got the impression after reading your article that you would answer just that. I wish to share it with many people. I believe the same thing, but the way you have written it here is simply beautiful. Thank you for taking the time to answer me, I enjoyed going through your blog very much. I hope to keep crossing paths of people with this train of thought on this site, together we can maybe make a general change of thought happen, from individual thought to colective thought, seeking well fare of society instead of personal success (which is I believe exactly what you mean by cooperation instead of competition).

        • Each of us being willing to learn from one other is way we become educated. And don’t worry about your age — you already know more than many people much older than you. Knowing the question that should be asked means you are already on the right path.

  2. Ray Korona says:

    To me, this is a remarkably clear and comprehensive summary of economics, politics and history covering nearly a century’s worth of experience. I encourage those who agree to join me in passing around the link to this blog as widely as possible. Until people have a grasp as to what has happened in the past and a basic understanding of the principles involved, there is not much hope for getting it right in the future. In this regard, note Systemic Disorder’s aside that: “Laissez-faire is an older name for ‘neoliberalism.’” Shouldn’t everyone have known better!

  3. nur says:

    hi,,i just want to know that it is possible that Keynesian can be applied in economic system now days? and what your opinion about the monetarism by Friederich hayek and it is possible that hayek approaches can be applied in solving the economic crisis,,,thanks,,,

    • Thanks for the questions. Keynesianism won’t solve the economic crisis. Such a program would be much better than the current austerity, but the particular set of circumstances that arose in the mid-20th century no longer exist. The two most important economic factors were (1) that the world capitalist system had plenty of room into which it could expand (both regions of the world not yet open or only beginning to be opened to capitalism, and the massive rebuilding necessary in Europe and East Asia in the wake of World War II) and (2) a significant industrial base. A third, and indispensable, factor was that there was a massive social movement in the 1930s led by militant unions, socialists and communists that threatened the continued existence of the capitalist system.

      Today, capitalism covers almost the entire globe with limited expansion potential, and most advanced capitalist countries have allowed their industrial base to be badly eroded. In the 1960s and 1970s, capitalists tolerated higher wages because they could nonetheless enjoy greater profits through exports into expanding markets. Once competition became fierce with the recovery of Europe and Japan, production began to be moved to low-wage developing countries where wages are far cheaper. Additionally, today there is not sufficient social pressure to induce governments to Keynesian spending programs because there are no movements (excepting Greece) to make capitalist and their governments afraid enough to spend and make concessions in order to hold off another threat.

      As to monetarism and Hayek, those approaches not only can not be applied to solving the economic crisis, they are responsible for the crisis. Monetarism is an intellectual justification for runaway, unregulated capitalism in which a minuscule minority of people amass mind-boggling amounts of money and capital, immiserating vast numbers of people. I have written on this topic in an earlier post on this blog. Unfortunately, monetarism continues to be dominant in economic thinking because it benefits the richest and most powerful people. Its continued application can be summed in the word “austerity,” which describes the relentless pressing down of working people through layoffs and cuts to wages, benefits and social services to pay for the continued massive movement of money into the hands of industrial and financial elites.

      Although Keynesianism would be a welcome improvement over monetarism, the former simply seeks to ameliorate the harshness of capitalism. Neither is a solution to a structural crisis of a system that both seek to maintain. Only a new system of economic democracy, in the long term, can pull the world out of a downward spiral.

  4. […] days weren’t necessarily golden anyway.) The Keynesian consensus of the mid-20th century was a product of a particular set of circumstances that no longer exist. Keynesianism then depended on an industrial base and market expansion. A […]

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