John Maynard Keynes

John Maynard Keynes, 1st Baron of Tilton (Cambridge, England, June 5, 1883 - London, England, April 21, 1946; pronounced 'Canes') was, with Milton Friedman, one of the two most influential economists of the 20th century. Keynes, based at Cambridge University, influenced the economics profession in many ways and was surrounded by students and disciples. He was a major advisor to the Treasury during World War II and helped design the postwar "Bretton Woods" international monetary system. His most influential work was in Macroeconomics, where his model of the nation economy emphasized fiscal policy (government spending and taxation) as more useful than regulation or monetary policy. He thus offered a non-socialist solution to the Great Depression. The Keynesian solutions were widely adopted in the 1960s in Britain and the United States, but came under heavy criticism from Milton Friedman and other conservatives for their theoretical weaknesses, and their inability in practice to deal with the economic crises of the 1970s in which high unemployment, high inflation, and slow growth coexisted.

Early career

Keynes was the son of John Neville Keynes, registrar of the University of Cambridge and eminent logician and economist, and Florence Ada Brown, advocate for the poor, first female Councillor of Cambridge Borough Council, and later mayor of Cambridge. He was educated at Eton and King's College, Cambridge, and began a short career in the civil service, where he was assigned to the India Office from 1906 to 1909. There he acquired an intimate knowledge of the government service. A reorganization of the Economics Department at Cambridge opened up an opportunity for Keynes, who had earlier come under the influence of its head, Alfred Marshall . Resigning from the civil service in 1909 Keynes was elected fellow of King's College and returned to Cambridge. In 1911 he was chosen as editor of the Economic Journal, the publication of the Royal Economic Society and one of the leading professional journals.

Keynes was greatly influenced by Alfred Marshall (1842–1924) who, besides being a brilliant and original theorist, also passionately believed that economics should contribute to human well-being and that economics students should know as much about the economic and social facts of the real world as the theoretical approaches through which they could be organised and understood. Interested in literature and philosophy, Keynes was invited to join the "Apostles" (The Cambridge Conversazione Society) , a secret society of dons and undergraduates who met to discuss ethical and political issues. The group included Lytton Strachey, Leonard Woolf, E. M. Forster and Bertrand Russell. Woolf and Russell brought him into contact with leaders of the Fabian Society , including Sidney Webb, Beatrice Webb and George Bernard Shaw.

Keynes became one the most important figures in the entire history of economics. His ideas on the causes of unemployment revolutionized macroeconomic theory and profoundly altered government's involvement in the economy. He revolutionized Economics with his classic book, The General Theory of Employment, Interest and Money (1936). This is probably the most influential social science treatise of the 20th Century. Keynes might have helped to save capitalism from Marx's doom predictions; he changed the way the world looked at the economy and the role of government in society. It was Keynes, not Marx, who cracked the code of crisis economics - who explained how recessions, depressions and unemployment can happen. The prestigious Time Magazine opened its article on Keynes with those words:

He hardly seemed cut out to be a workingman's revolutionary. A Cambridge University don with a flair for making money, a graduate of England's exclusive Eton prep school, a collector of modern art, the darling of Virginia Woolf and her intellectually avant-garde Bloomsbury Group, the chairman of a life-insurance company, later a director of the Bank of England, married to a ballerina, John Maynard Keynes — tall, charming and self-confident — nonetheless transformed the dismal science into a revolutionary engine of social progress.

Major works published:

In 1913, shortly after he was appointed to the Royal Commission on Indian Currency and Finance, Keynes published his first book, Indian Currency and Finance . This book has been referred to as the best in the English language on the gold exchange standard. By 1919 Keynes was the senior Treasury official sent as part of the British delegation to the Versailles Peace Conference. Keynes disagreed with the harsh terms negotiated at Versailles and, after resigning, returned to England and wrote The Economic Consequences of the Peace (1919), a controversial book which argued that the war reparations imposed on Germany could not be paid and turned Keynes a worldwide famous economist The Economic Consequences of the Peace was an eloquent condemnation of the vindictive terms imposed on the defeated Germans; Keynes's concern was vindicated by the rise of Adolf Hitler (and the memory of his warnings helped convince a victorious America to aid, not punish, its prostrate enemies after World War II). The controversy over the Treaty of Versailles, signed in Paris in 1919, soon subsided because Keynes' predictions almost immediately started to materialize. Keynes went to Russia in 1926, interested in the study of the economic measures being taken by the communist regime. Upon his return he wrote The End of Laissez-Faire (1926). After the onset on the Depression in 1929, Keynes began to address the problems of unemployment. In a series of articles, The Means to Prosperity, written in The Times of London, Keynes began to argue that the government should "spend its way out of the depression".

On 1930 Keynes published his first major work on economics A Treatise on Money which set out his Wicksellian Theory of the credit cycle. In this two-volume work, which Keynes intended to become his "magnum opus" - a dense book, full of brilliant insights, but incomprehensible as a whole and in foal with inconsistencies - Keynes attempted with little success to improve upon of the Cambridge version of the quantity theory of money, laying out the first rudiments of a liquidity preference theory of interest. Keynes's new book came under immediate attack form Friedrich von Hayek , the laissez-faire advocate, who wrote a review of the Treatise so harsh that Keynes decided to request Sraffa to write a review of Hayek's own competing work and condemn it - no less harshly - so both authors could get even as far as inconsistencies were concerned. The Keynes-Hayek conflict initiated an endless battle in the Cambridge-L.S.E. circuit, its reflexes extending to the present day.

The Treatise and its critics led to the formation of a reading group, which became known as "the Circus" formed, among others, by the young Cambridge economists Richard Kahn , Joan Robinson , her husband Austin Robinson , James Meade and Piero Sraffa . Kahn dutifully delivered reports of "the Circus's" discussions to Keynes, who subsequently began revising his ideas. One resulting criticism of the Treatise was that it failed to provide a theory of the determination of output and employment as a whole -- a particular pertinent question given the huge amount of unemployment at the time.

The solution to the enigma -- the theory of the income-expenditure multiplier -- was provided to Keynes by Richard Kahn (1931) in an article which became the basis of the future Keynesian revolution. Keynes began, tentatively, announcing his new idea in articles and pamphlets during 1933, and submitted drafts of his new book to the "Circus" and other fellow economists for review and dissection. His ideas on the marginal efficiency of investment took longer to work out.

Finally in 1936 Keynes published what was actually set to become his "magnum opus" The General Theory of Employment, Interest and Money . This new book gave a strong theoretical support to Keyne's ideas about the causes of the economic Depression of the thirties and, for the first time in economic history, seriously confronted the classical economists who, in Keynes's opinion, were recommending policies which aggravated the recession. Keynes's concepts were already being implemented, simultaneously and intuitively, by Horace Greely Hjalmar Schacht the minister of economics (1934–37) in the National Socialist government of Adolf Hitler as well as by Roosevelt's New Deal in the United States a few years in advance of his book publication. As it has been mentioned by someone, "many people, specially some politicians, already knew that the classical economic policies for handling the recession were bad politics; after the publication of The General Theory of Employment, Interest and Money they also knew it was also bad Economics."

In 1940 Keynes published How to Pay for the War

Keyne's General Theory

After the publication of The General Theory of Employment, Interest and Money , which raised strong controversies among economists, some of them decided to view Keyne's "magnum opus" as "an anthology of policy conclusions to be applied to cases of market failures" or, more simplistically, a "manifesto for government intervention". What might have been the impact of the "Keynesian Revolution" on politics is not in the scope of this article. What we will try to understand is how (and whether) the General Theory contributed to the analytical arsenal of modern pure economic theory.

Keynes work can be viewed as trying to accomplishing two tasks at the same time: a positive one and a negative one. The negative task was to provide an efficient critique of the old orthodox Neoclassical theory; the positive task was the construction of a new theory. These two tasks are not separated in the pages of the General Theory. So often it is not clear where the criticism of the old ends and the construction of the new begins. Furthermore Keynes's actually believed that he was creating a "more general" theory than the Neoclassical theory. But if Keynes's theory was as "general" as he thought, the old theory should just disappear for obsolescence; there would be no need for Keynes to criticize the Neoclassicals; the General Theory should have done it by itself.

I have called this book The General Theory of Employment, Interest, and Money, placing the emphasis on the prefix general. The object of such a title is to contrast the character of my arguments and conclusions with those of the classical theory of the subject, upon which I was brought up and which dominates the economic thought, both practical and theoretical, of the governing and academic classes of this generation, as it has for a hundred years past. I shall argue that the postulates of the classical* theory are applicable to a special case only and not to the general case, the situation which it assumes being a limiting point of the possible positions of equilibrium. Moreover, the characteristics of the special case assumed by the classical theory happen not to be those of the economic society in which we actually live, with the result that its teaching is misleading and disastrous if we attempt to apply it to the facts of experience.

* What Keynes meant, in this quote, by "Classical economists" are those which we call nowadays "Neoclassical or "Marshallian" economists".

Keynes's proposals

I believe myself to be writing a book on economic theory which will largely revolutionize—not, I suppose, at once, but in the course of the next ten years—the way the world thinks about economic problems.

—John Maynard Keynes (1935)

The Neoclassical economic theory synthesised earlier by Alfred Marshall began to no longer bear any relation at all to the real-world problems of the developed industrial economies in the 1930s. Neo-classical theory was unable to account for the persistence of surplus labour (popularly know as "unemployment") in the labour markets and the ineffectiveness of price reductions in product markets to restore consumer spending to levels which would justify expanding production again. All the available theory could say about such phenomena was to "deny" that they could persist for any length of time. But to persist long was what they did. Neoclassical economists, to remain welded to their beliefs, had actually to deny what their own eyes were seeing right before them. This is because a very old proposition known as Say’s Law (in short: "supply creates its own demand"), named after the French economist Jean-Baptiste Say (1767–1832) said it was "impossible" for the economy as a whole to produce a surplus of commodities; yet the surplus was there.

Keynes's position was that economists had been wrong to assume that they could understand the functioning of the economy as a whole by explaining the workings of its component parts. If the economy was to be viewed as a closed system, Keynes argued, it would become apparent that the root cause of the depression was an "insufficiency in total demand". The level of aggregate "income/output" and hence the level of employment in a capitalist, free enterprise economy, according to Keynes, was determined mainly by the willingness of people to spend. If the total amount people wanted to spend was less than the amount which would induce producers to employ all available resources, the level of "income/output" would fall. And there was no automatic mechanism built into the free enterprise system, Keynes believed, that would cause such a fall to be self-correcting. Instead, the economy could become stuck at a less than full employment level of production until something happened to cause people to increase their spending.

The idea of using government spending to stimulate a depressed economy was not something most people could easily accept, and there were many reasons for dismissing such a strategy as just another crackpot scheme. Total government budgets in the 1930s were relatively small, accounting for a small percentage of total GDP. Therefore, many argued, even a large increase in government spending would have little impact on the economy as a whole. Another problem many critics of the Keynesian solution pointed out to was that most governments were already either broke or in debt. To increase spending seemed imprudent, unless there was also an increase in taxation, which would, of course, have negated the whole point of the increase in expenditures.

If our central controls succeed in establishing an aggregate volume of output corresponding to full employment as nearly as is practicable, the classical theory comes into its own again from this point onwards.

—John Maynard Keynes (1936)

With the General Theory Keynes sought to develop an theory that could explain the determination of aggregate output - and as a consequence, employment. He posited that the determining factor to be aggregate demand. Among the concepts initiated by Keynes was the concept of a demand-determined equilibrium wherein unemployment is possible, the ineffectiveness of price flexibility to cure unemployment, a unique theory of money based on 'liquidity preference', the introduction of radical uncertainty and expectations, the marginal efficiency of investment schedule breaking Say's Law (and thus reversing the savings-investment causation), the possibility of using government fiscal and monetary policy to help eliminate recessions and control economic booms. Indeed, with this book, he almost single-handedly constructed the fundamental relationships and ideas behind what became known as macroeconomics.

The Keynesian Revolution split the economics world in two generations. John Maynard Keynes responded to his most able critics - Jacob Viner, Dennis Robertson and Bertil Ohlin - in a series of 1937 articles, which helped him to expand upon some key aspects of his theory. A difficult book, The General Theory was followed up immediately by elucidatory publications by the members of Keynes's Circus, such as Joan Robinson, Roy Harrod and Abba Lerner.

See also

• Alfred Marshall
• Keynesianism
• Macroeconomics
• Milton Friedman