Failure of Keynesian policies

In the depression of the thirties, with unemployment rising to peak levels and governments toppling because of their inability to do anything about it, most economists and many political parties were overjoyed to adopt the theories of J. M. Keynes, which held out to them the guarantee that capitalism’s principal troubles were over. This is not surprising since Keynes promised continued full employment — the end of depressions with their accompanying massive demonstrations of working class discontent, the removal of one of the causes of war, and the arrival of lots of other good things. Keynes, they said, had revolutionised economic thought, blotted out the growing interest in Marx’s theories, and made capitalism safe. In 1944 the three parties – Tory, Labour and Liberal – all part of the war-time National government, formally endorsed the main Keynesian doctrines in the government White Paper, Employment Policy, which set out the principles to be followed by post-war governments.

The attitudes of the three parties have partly changed since then. While the Labour Party, the Liberals and their allies the Social Democratic Party are still unrepentant Keynesians — as also are some Tories—the main body of the Tories, under Thatcher’s leadership, have thrown Keynes over and adopted the theories of Professor Milton Friedman.

Some leaders of the Labour Party went through a phase of doubting their saviour when Callaghan the Labour Prime Minister and Healey the Chancellor of the Exchequer adopted the “monetarist” policies now followed by the Thatcher government. It is for this reason that the present leader of the Labour Party, Michael Foot, gives 1976 as the date of the abandonment of those Keynesian principles which, he says, “for a quarter of a century or more, worked with such beneficial effects” (New Statesman, 26 November 1982).

The Keynesian argument is that if the demand for goods is maintained at a high level, industry is kept busy and unemployment will remain low. The “demand management” cure for rising unemployment is therefore for the government to increase its expenditure and investment, meeting the additional cost by borrowing: this will, the Keynesians say, increase the number of jobs. It is crucial for the Keynesian argument that the increase of government expenditure and investment should not be offset by a simultaneous fall in the investment by private industry. The Keynesians claim indeed that increased expenditure by the government will positively stimulate investment and activity in private industry.

The Keynesians have an early showpiece, supposed to vindicate Keynes, in the Roosevelt New Deal in America. A Keynesian admirer of the New Deal is Dudley Dillard, sometime Professor of Economics at Maryland University who wrote about it in his The Economics of J.M. Keynes (Lochwood & Son, London. 1948). In his book Professor Dillard compared the Keynesian policy of the New Deal with what happened in Great Britain at the same time, under the anti-Keynesian National government. His specific claim for Roosevelt is:

“The economic expansion between 1933 and 1937, despite occasional minor relapses, was one of the most rapid in the history of American business cycles. The speed of this recovery was undoubtedly conditioned by the depths to which activity had plummeted in 1932. It was, nevertheless, a remarkable recovery which was nurtured by fairly large-scale loan expenditure” (p. 127).

So how successful was the New Deal with its Keynesian policies? Unemployment in America was 24.1 per cent in 1932, the year when Roosevelt became President, and 25.2 per cent in 1933. By 1937 it was down to 14.3 per cent, though it rose again in 1938 to 19.1 per cent, which is nearly double what it is in America in 1983. In Britain at the same time, with a government running a non-Keynesian policy, unemployment fell from 22.1 percent in 1932 and 19.9 per cent in 1933 to 10.8 per cent in 1937, and it was 13.5 per cent in 1938. So, as Marxist theory would lead us to expect, the trend of unemployment was much the same whether the policy was Keynesian or not.

And what about the Keynesian argument that increased government expenditure stimulates private industry? In the pre-depression year, 1929, “government expenditure, including capital expenditure” was $22 billion, and “gross private domestic fixed investment” was $39.5 billion. In 1938 the former had risen to $34.2 billion but the latter had dropped to $21.5 billion. As the one went up and the other went down, Dillard admits that private investment “remained abnormally low”. He and Keynes met this with the plea that it might have been different if the Roosevelt government had increased its expenditure still more. It is difficult to counter arguments of the “what might have been” variety, but it is worth remembering that in Germany where the government in 1920 not only increased expenditure but multiplied it enormously (also in the belief that it would create jobs) in 1923 about 25 per cent of the workers were out of work and nearly as many again were on short time.

Michael Foot believes that Keynesian policy was a success for 1945 to 1976 in Britain. But did it work as he thinks it did? Unemployment for years after 1945 was abnormally low. In fact it was considerably lower than Keynes expected from his Full Employment policy. But was it the result of Keynesian policy? One Keynesian, Joan Robinson, in her Problems of Full Employment (1950) said it was not. “Employment after the war would have been high in any case.”

Another Keynesian, Alvin Hansen, in his Guide to Keynes (1953) said the same: “Full employment was however primarily the result of the war and post-war developments, not of consensus policy”. And Aneurin Bevan, Minister in the Attlee government, attributed the low unemployment to Marshall Aid. These hundreds of millions of dollars enabled British industry to obtain materials the lack of which was hampering production. Bevan said, in 1948: “Without Marshall Aid unemployment in this country would at once have risen to 1½ million.”

So it wasn’t Keynes but Marshall and the American government who kept unemployment abnormally low for some years after the war. From the mid-fifties until 1976, in spite of Keynesian policies, unemployment has been on a more or less continuous upward trend. It touched 575,000 in 1958, 747,000 in 1963, a million in 1972, and 1½ million in 1976, and so on to the present 3⅓ million. Keynesian policy had nothing to do with the very low unemployment in the early post-war years, and nothing to do with the subsequent steady increase.

A major factor was first, the war-time destruction in Japan, Germany and some other countries which put them for all practical purposes out of the world market, and later on their return to the world market in strength after their industries had been rebuilt and modernised, largely with American finance. They came back as cheap producers able more and more to undersell British products.

In 1955 British capitalists’ share in world exports of manufactured goods (based on 11 industrial countries including Japan and Germany) was 19.8 per cent. It had dropped to 13.8 per cent in 1965 and to 10.6 per cent in 1970. The fall has continued so that for the first time British imports of manufactures now exceed exports. And with this change of conditions unemployment in Britain went on rising, well before the start of the great depression in 1979. So Keynesian “demand management” is based on fallacious theory and its two showpieces, Roosevelt’s New Deal and Foot’s golden age of 1945-76, demonstrate that it does not work.

Two other aspects of the doctrine deserve mention. The 1944 White Paper looked forward to more or less stable prices, and Keynes himself looked to slowly rising wages “while keeping prices stable” (General Theory, p.271). What we got was continually rising prices, so that the level in 1976 was more than four times what it had been in 1945.

Lastly, Keynes held that many wars are caused by “the competitive struggle for markets” and they would be ruled out by the adoption of his full employment policy (General Theory, p.381). It is therefore interesting to notice that the Labour Party, Liberal Party and Social Democratic Party, while all professing to accept Keynesian policies, are all busy with schemes for increasing the competitiveness of British exports against foreign rivals, by such devices as lowering the exchange rate of the pound. In the House of Commons on 10 November 1982 Roy Jenkins, Leader of the SDP, said that “Britain’s lack of competitiveness was the central problem requiring solution”, and he agreed with the Labour Party spokesman, Peter Shore, that “a reduction in the exchange rate could make an important contribution”.

According to Keynes, his full employment policy makes it unnecessary to go in for the war-promoting, competitive struggle for markets. Is the explanation that the three Keynesian parties do not now believe that full employment works, and are hanging on to it only because they have to oppose Thatcher’s policies and believe that the empty promise of full employment may still be a vote-catcher at the next election?

Edgar Hardcastle

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