SECOND-GENERATION KEYNESIANISM

The Czech President Václav Klaus, a well-known economist, had published a fascinating article about today's economic crisis in April 2009. He referred, specifically, to the implementation of policies based an aggressive second-generation Keynesianism that seem hell-bent on making things worse and ultimately turning our democracy into full-fledged socialism (see also Klaus's trenchant commentary on Europe's democratic deficit that is spreading to the United States).

The article, titled The Dangers of an Aggressive Second-Generation Keynesianism, was published in Lidové noviny on April 25, 2009. Translated extracts are below.

• I contend that, at this moment, we live in an era whose major characteristics are a consequence, or even a product, of the Great Depression of the 1920s and 1930s. More specifically, our situation is a result of the way in which the Great Depression had been interpreted.
• The Great Depression was taken as proof-positive of the unsuitability of the existing form of capitalism. This conclusion resulted in far-reaching interventions in the functioning and institutions of this unique, fundamentally fragile and easily damaged social system.
• In the Thirties...[a] scientific-sounding doctrine had come into being...from John Maynard Keynes, one of the best-known personages in the contemporary economic science establishment (Cambridge University), cultural world (the London Bloomsbury group) and economic policy (major roles in key economic conferences following both world wars). Keynes’ doctrine, attractively formulated, easy to understand and easy to integrate into political thinking, was taken as gospel truth. It remained so at least through the early 1970s, when the accumulation of economic problems of the time led to the rise of stagflation, a phenomenon incomprehensible to Keynesians.
• Keynes...grasped what society hungered for. He tore down capitalism sufficiently to discredit it [as well as]...all of contemporary economic science. He also managed to convince economists, politicians and the media that the only possible future for capitalism entailed massive state involvement in the economy by means of extensive government expenditures that were to supplement the inherently insufficient “effective demand” of the non-state sector of the economy – i.e. all of us as consumers and investors.
• Keynes...was convinced that the state (represented by enlightened people like himself) would spend taxpayers’ money better than they themselves could. He dramatically replayed the issue of market failure over and over again, but he never asked himself about the failure of the state. He was a prototypical philosopher-king type,... a type that keenly feels the calling to direct the rest of us
• Keynes’ starting premise was that the market had failed and the state must therefore step in. Hence the need for massive state expenditures of any kind...[but] Keynes was primarily interested in the so-called multiplier effect that would create various types of income: in other words, gross national product. What Keynes did not mean was the creation of new production capacity. This explains his emphasis on revenue-generating, not capacity-generating, effects of additional expenditures...The multiplier works whether or not an activity is unproductive, hence deficit financing of the national budget, regulation of the economy, nationalization and intervention now, regardless of future consequences.
• Keynesianism, or more accurately, policies based on Keynesianism, triumphed in developed Western nations. If we compare the share of government expenditures in the 1930 GNP to that of 2000, we find enormous growth. A comparison of the tax burden once more reveals a large increase (here, 1930 should really be compared to 1980, i.e. to the world before Reagan and Thatcher). National debt, likewise. Social revenue as a percentage of overall revenue, the same. The number of government officials, ditto. The number of pages of legislation, again ditto.
• Moreover, there is a ratchet effect, allowing movement in only one direction. This movement is referred to as forward movement or progress, but this kind of “progress” is fiction. It is best called no progress at all. It turns out that movement in the other direction is only possible in a kind of revolutionary moment like, for instance, the fall of Communism....[But] our policy of deregulation, privatization, denationalization and desubsidization of the economy ended in the second half of the 1990s. The first decade of the 21st century already saw a complete triumph of social democracy in its various guises...To put it simply, Keynesianism triumphed. This is the very thing to which the Great Depression had given birth.
• Today’s crisis is greater than the crises of past decades. (This is so despite the fact that the fall of Communism, which had nothing to do with Keynesianism, resulted in much greater economic losses than today’s crisis.)
• Some months ago,...I [expressed]...my skepticism that the crisis can be “cured” by cash infusions from the government... I...submit that the crisis must run its course. It is a curative process, an indispensable and irreplaceable liquidation of mistaken and therefore untenable economic endeavors. It makes no sense to try to bypass it by maintaining these endeavors artificially, with taxpayers’ money.
• [T]oday’s crisis...was...certainly not caused by a Keynesian “insufficient effective demand,“ or insufficient consumption or investment on the part of private entities. That is why it cannot be resolved by a government augmentation of this allegedly insufficient effective demand in accordance with Keynes’ prescriptions.
• The crisis arose due to ambitious but irrational government interventions in interest rates and the change in the U.S. Treasury’s monetary policy that increased monetary growth, all accompanied by ill-advised government regulation of the financial sector. Unrealistically low interest rates in the housing sector led to an imbalance that must be corrected, not artificially maintained by means of a flood of new money. The bubble must be allowed to shrink: it must not be pumped up even more....
• The economic crisis will pass, sooner or later. There will be long-term damage, but it will accrue elsewhere. The opponents of the market have once again managed to create a widespread distrust of the system. Now, however, it is not merely distrust of free-market capitalism; of the laissez-faire system; of the capitalism of Adam Smith, Friedrich von Hayek and Milton Friedman, as was the case during the Great Depression. Today, the distrust is aimed at the contemporary, highly regulated state capitalism....Our contemporary socialist visionaries make it clear – despite their rhetoric that often says something very different – that even this state capitalism is too much for them. A Keynesian revolution is not enough for them. They want yet another revolution – one that limits the market still further.
• We are approaching real socialism. The market is no longer seen as an autonomous system but a mere tool in the hands of the self-appointed elect to create economic latifundias. This is ultimately the meaning of expressions like “economics must serve the people,” “financial system in the service of humanity,” etc....I am not sure that capitalism will survive this qualitative shift.
• The market either exists, or it does not. In the past, central planners thought that the market is a tool, but they understood that it was not possible to get rid of it altogether. They therefore wanted to exploit it in their own way, for their own purposes. Unfortunately, the market cannot be so used. The market is an outcome of voluntary human activity that people...offer to others...Such offering is the consequence of the market’s functioning; without it, there is – nor can there be – any production of goods or services. Such production is not something outside the market – it is the market. Thus, today’s crisis is not caused by the market but by government intervention in it.
• Avoiding future crises by additional interventions is impossible. It is, however, possible to destroy the market. Here, in Europe, we are not very far from that.
• The most urgent task of our times is to ensure that this second-generation Keynesianism is not implemented. We must not replay the events of the 1930s and of the years that followed. We must limit state intervention in the functioning of the market, not expand it.
• ...[T]oday’s European post-democracy cannot proceed in that direction. In it, the voice of the citizen is very weak indeed, and it becomes weaker by the day. On the other hand, the number of unelected bureaucrats who bear no love for the free market is growing without restraint.
• In the 1930s, democrats and liberals (in the European sense) had failed intellectually and politically, and were unable to fight off the wave of distrust of the market. Today, the one and only important thing is that we do not end up the way they did, or even worse.

Lots of food of thought there, with direct and ominous relevance to the Obama economic policies.