John Maynard Keynes R.I.P....And Keynesian Economic Theory!

John Maynard Keynes (right) in 1946, at the inaugural meeting of the IMF Board of Governors.

Last week, economist Scott Grannis published a remarkable post over at his Calafia Beach Pundit blog in which he says: 
The past six years in effect have been a laboratory experiment to determine whether Keynesian economic theory is valid. The result? Keynesian economic theory is (or should be) officially dead. It doesn't work. Government can't boost the economy by borrowing or spending more money. Politicians will be unhappy to hear this, of course, since they would prefer that we think they can dispense growth and prosperity on demand. Those who insist in perpetrating this myth should be voted out of office.
These are strong words, but Mr. Grannis backs up his statements with data. He concludes that the private sector -- that is to say, men and women in the United States going to work in areas outside of the "public sector" of the government -- generated $8.9 trillion in profits over the course of the past six years (an all-time record), but the reason things feel so terrible is that "the federal government borrowed 83% of those profits to fund a massive increase in transfer payments, income redistribution, bailouts, subsidies, and a modest increase in infrastructure spending." 

As a result, he says, almost all of "the most incredible surge in profits in modern times was squandered by our government, flushed down the Keynesian drain."

When he refers to "the Keynesian drain," Mr. Grannis is referring to John Maynard Keynes (1883 - 1946), who championed the theory that economic weakness and recession is caused by a lack of consumer demand, and that government can "stimulate" demand by giving money to consumers, either directly or indirectly, in order to cause demand to pick back up and thereby jumpstart the economy.

Elsewhere in his post, economist Grannis explains the problem with Keynesianism in a nutshell: "The government can't stimulate the economy by borrowing from Peter and sending a check to Paul, because that doesn't create any new demand -- it's like taking a bucket of water from one end of the pool and pouring it into the other end; the level of the water doesn't change."

There's an even bigger problem with Keynesian economics which Mr. Grannis doesn't mention, but we will: it's immoral. Not only does "robbing Peter to pay Paul" not work -- it wouldn't be right to do so even if it did "work." That being said, it also does not work, in addition to being immoral, and as Mr. Grannis points out, the past six years provide ample proof (on top of abundant proof that already existed prior to 2008) that Keynesian economics absolutely do not work.

In fact, all the way back in January of 2009, when the economy was still in the middle of the financial panic and the turn that took place on March 9 of that year was still nearly three months away, we published this post criticizing the proposed "stimulus plans" and containing a link to an excellent video by Dan Mitchell entitled "Keynesian Economics is Wrong: Bigger Government is Not Stimulus." That video is well worth another watch today, and it contains extensive evidence stretching from Herbert Hoover to Gerald Ford to George W. Bush that government spending financed by government debt does nothing good for an economy.  

That video concludes that, since the theoretical problems with Keynesianism should be well known by now (taking money from one side of the pool and putting it in on the other does not create any new growth), and since the historical track record of Keynesianism is also clearly terrible, the real reason that Keynesian policy is still around is probably that politicians like to spend other people's money, and "Keynesian economics" provides them with a academic cover in order to do so (and, we might add, a host of academic-sounding terms, such as "stimulus" and "multiplier" to use in speeches, as they redistribute the wealth).

Mr. Grannis seems to echo this conclusion, when he notes towards the end of the passage quoted above that politicians don't want to learn that Keynesianism is a bankrupt economic theory, because "they prefer that we think they can dispense growth and prosperity on demand."

In fact, it is likely that both Mr. Grannis and Mr. Mitchell have hit upon the real reason that Keynesian economics is even remembered today anywhere outside of the history books. According to Austrian economist F. A. Hayek, who knew him personally and had many long conversations with Keynes during his life, Keynes wasn't really even that interested in economics! In the interview below, Hayek remembers his friend Keynes and admits that Keynes had one of the most brilliant intellects that he had ever encountered, but that economics was really "just a side-line" to Keynes, and that Keynes never even bothered to read the economic thinkers who published important contributions to the field in English, let alone those who published in German! Keynes was really into many other subjects, but "he knew very little economics," according to Hayek (we have written about the tremendous contributions of F. A. Hayek to the subject of economic freedom in previous posts such as this one and this one).

It is clear that Hayek had a great deal of admiration for his friend Keynes, but that he recognized that economics really wasn't Keynes' area of expertise, and that the theories that Keynes published were actually very shoddy and in fact dangerous. At another point, Hayek once opined that Keynes in later years seemed to be moving away from the economic theories that came to be associated with his name, but that Keynes died in 1946 and his followers carried on with "Keynesian economics" in his name, in a direction that Keynes himself would no longer have agreed with.

In any case, the world now has nearly seventy more years of evidence that Keynes' earlier theories were just plain wrong, and that they should be abandoned. Politicians should not be allowed to use "Keynesian economics" to give the impression that they can "dispense growth and prosperity on demand," in the words of Scott Grannis. 

Keynes himself may have dropped that idea before he passed away in 1946 -- we wish Keynesian economics would find its way into the history books as well, before it does any more damage than it has already done.