It is simply a matter of time before the Federal Reserve finds itself having to choose between inflation and federal insolvency.
Robert Skidelsky’s Money and Government: The Past and Future of Economics seems destined to become an important book. A famous author (Baron Skidelsky was created a life peer in 1991) has written it. A prestigious press (Yale University Press) has published it. It is meant to explain monetary and financial problems that today preoccupy not only specialists, but many members of the general public. It contains a profound but easy-to-follow discussion of monetary theory, along with a compelling and entertaining history of the evolution of the financial arrangements that collapsed in 2008. It comprehensively details the financial crisis that began in late 2007 and lasted until 2009, and is a useful guide to understanding that episode. Furthermore, it prescribes what should be done to prevent future financial crises, and to lift the political and economic malaise of current Western democracies. Yet, it is a very problematic book.
In the first of its four parts, “History of Economic Thought,” Skidelsky, emeritus professor of political economy at Warwick University and honorary fellow of Jesus College, Oxford, covers the evolution of ideas about money, with some attention to philosophical discussions about the nature of money and value, the main schools of thought about money, and how the latter, along with historical experience, led to the establishment of the gold standard during the century of liberalism (1815 to 1914). On the cusp of the Great War, according to Skidelsky, there was consensus by and large, despite some fissures among Western governments, on what he calls the “Victorian constitution.” Its main economic components: 1) sound money embodied in the gold standard, 2) free trade, and 3) a small government footprint, kept limited by budgetary discipline and faith in the self-regulating nature of the market as proclaimed by Jean-Baptiste Say’s law that supply creates its own demand.
The second part, “The Rise, Triumph and Fall of Keynes,” covers the period following the end of the Great War, in which the United Kingdom followed misguided economic policies that led to high unemployment, stagnant incomes, and low growth even before the beginning of the Depression. The Depression, writes Skidelsky, came to shatter the confidence among economists and the public that free markets would result in an equilibrium with full employment. They believed that only the establishment of a “Keynesian constitution” would be able to increase aggregate demand, by governmental intervention through active monetary policy (monetary expansion) and active fiscal policy (a program of public investments funded by public debt).
This period, according to our author, is basically divided in four parts: 1) the Keynesian response to the Depression; 2) Full Employment Keynesianism, from 1945 to 1960; 3) Growth Keynesianism, from 1960 to 1970; and 4) Stagflation Keynesianism, from 1970 to 1976. When two afflictions hit simultaneously—inflation and unemployment—Keynesianism was discredited and abandoned. Back came the old “Victorian constitution” as the guide for monetary and fiscal policy. Under this alleged return to fiscal austerity, monetary restraint on the part of the government allowed the banks to take the lead in money-creation, and there was deregulation of the economy and a reduction of the size of the state, all of which supposedly set the stage for a repeat of the crisis of the 1930s.
Part Three, “Macroeconomics in the Crash and After, 2007,” offers a description of the economic policies adopted in the United States and Europe to fight the Great Recession with particular attention to QE (quantitative easing) and the alleged importance of income inequality in explaining the crisis. This section contains an excellent description of the different forms of financial innovation and of global imbalances that, in the minds of many commentators, are the mechanisms through which the financial crisis came about.
The book concludes with “A New Macroeconomics,” in which the author offers his prescriptions to prevent the problems of unemployment, slow growth, and financial weaknesses that Western democracies are still experiencing in the wake of the late 2007-2009 crisis. These prescriptions can be summarized as a recommended return to the “Keynesian constitution.”
A Keynes Biographer’s Lament
As we assess the accuracy of the foregoing, it is useful to zero in on a major premise laid out by Skidelsky: that “the omnipresence of uncertainty makes money and government essential features of any market economy.”
What does he mean by this? It is inconceivable to think of a “market economy” without money or government. Market economies are monetary economies by definition and operate inside a legal framework provided by the state. Even private international law, which regulates foreign trade, in essence, is national public law, since it deals with the enforcement, inside the borders of a given country, of agreements with subjects of other jurisdictions.
However, the need for money and the rule of law for markets to operate does not seem to be what the author means by this statement. His aim in Money and Government is to offer a rationale for greater state intervention in markets, either by regulation or by the state’s use of its monetary prerogatives. It is this toward which his interpretation of economic history is directed. For by his account, except for the blip of the Keynesian episode, “the dominant view” has been that “money and government should play only minor roles in economic life,” and that even after the Great Recession of a decade ago (when, allegedly, a reassessment of that view was in order), the response has been only “punishing austerity and anemic recovery.”
This celebrated economic historian is most celebrated for his three-volume life of John Maynard Keynes, published in 1983, 1992, and 2000. In the preface to Money and Government, the author says: “I have been chiefly influenced by Keynes, whose biography I have written. However, as the book progressed I became increasingly drawn to the insights of Karl Polanyi, with his insistence that, to be viable, a market order has to be ‘embedded’ in a framework of rules, policies and institutions. This insight has been somewhat neglected by the dominant school of Anglo-American economics.”
What Skidelsky advances here is his narrative that the “dominant” view in economics nowadays is not concerned with “rules, policies and institutions.” It is difficult to understand what he means by that. The neoclassical synthesis which corresponds to the “dominant” view in economics has an integral part composed by Keynesian economics, giving a key role to the manipulation of monetary and fiscal policy by political institutions specially created for that purpose—that is, central banks—in order to achieve the political objectives of the respective governments. To say that that has been neglected is an odd interpretation of the recent history of economic thought.
Some Curious Contradictions
Skidelsky starts by stating that: “Macroeconomics is about money and government, and their relationship.” After arguing that the dominant view in economics for the last 250 years has been one in which “money is of no importance,” and “government interference with the market usually makes things worse,” he specifies that such view implies that “a competitive market economy . . . has an automatic tendency to full employment,” and that government’s meddling with the money supply induces people “to trade at the wrong prices.”
Next, he argues that Keynesianism was the “dominant macroeconomic policy until the 1970s,” and that the Keynesians deny that a monetary economy would have an automatic tendency to full employment, since people may reveal their preference for holding money given the “omnipresence of uncertainty.” As we can see, at the very beginning of his text, Skidelsky downplays the role of the price system in conveying the information that economic agents need to coordinate their actions, and also assumes that “uncertainty” would necessarily lead to the famous Keynesian “liquidity trap.”
Those conclusions would not seem so obvious had Skidelsky applied Friedrich Hayek’s insights from his 1945 article on “The Use of Knowledge in Society,” or David Laidler’s insights into the factors driving “the demand for money,” the subject of his 1997 book of that title. However, those two texts are not in the bibliography and I can only wonder why he does not even mention them.
First, if he had considered the coordinating role of prices in a free society, as explained by Hayek in that article, he would understand why most economists would acknowledge that governmental manipulation of the money supply and other forms of interventionism would induce people “to trade at the wrong prices.”
Second, if he had given the proper consideration to Laidler’s reasoning about the elements informing the demand for money and the implications of that, he would not have jumped from the statement about the existence of uncertainty in a market economy to the supposed inevitability of an “inherent instability” in the economy, leading to a position of “underemployment equilibrium.” Instead, he concludes that “therefore” it is necessary for the government to manage money as part of the management of the economy as a whole, in order to regulate supply and demand and insure full employment.
Such “necessity” has the same justification that Keynes himself found to develop his theories; and Skidelsky describes how Keynes became convinced that a paradigm shift was necessary, once his suggestion of simply asking the Bank of England to lend the treasury the money needed to fund the road-construction projects proposed by David Lloyd George in 1934 was resisted by economists in general and the treasury in particular. That is why Keynes wrote “The General Theory.” Skidelsky does not consider that perhaps asking the central bank to lend money to the treasury would be really inflationary, regardless of the “opinion” of businesspeople about the policy, or even if they were not aware that that was going on.
The chapter on how Keynes developed his monetary theories is at the center of Money and Government, as it is at the center of Skidelsky’s intellectual project. This book really aims to restore respect for the Keynesian approach to monetary and fiscal problems. Hence the author’s constant evocation of the supposed similarities between today’s accepted wisdom in economics and that of economists in the 1920s and 1930s, which prompted Keynes to propose his “new” approach” to macroeconomics. At the conclusion of this chapter, the author attributes the accomplishment of having undercut the cases for both “state socialism” and fascism to Keynes’s theory, although he concedes that it opened the road for governmental intervention to “ensure at least a quasi-optimal equilibrium.”
Oswald Mosley and Jeremy Corbyn, Keynesians
Skidelsky’s earlier work and his political views are relevant here. In 1975, the economic historian, then a militant in the Labor Party, wrote a biography of the British fascist leader Oswald Mosley (1896-1980). In that hagiographic biography, Skidelsky cast himself not as Mosley’s “prosecutor” but as a “counsel for the defense,” one “able to view his life and the causes he espoused with both detachment and sympathy.” Mosley partook of the British political class’s pathetic response to the Great Depression in his sympathy for lax monetary and fiscal policies. These later became known as Keynesian, but were advanced by Mosley as early as 1925. All of which might explain why Skidelsky decided to write sympathetically about an authoritarian, interventionist anti-Semite who had Adolf Hitler attend his wedding, hosted by Joseph Goebbels’ wife, in Berlin, and who was a German agent (he spent most of World War II in prison).
More recently, Skidelsky made waves by having praised Labor’s Jeremy Corbyn for proposing the creation of a national investment bank in the United Kingdom, to be financed with increased taxation, and a program of investments in infrastructure to be financed by money-creation. (His 2015 article on “Corbynomics” is here.) It is not that Skidelsky thinks that any of those is a particularly a good idea, but his belief that “austerity” policies and private “speculation” must be replaced by government investment would trump any other concerns that arise with that political figure. According to Skidelsky: “Some of his positions are untenable, but his remarks on economic policy are not foolish and they deserve proper scrutiny.”
Apparently, the fact that a political leader is an apologist for totalitarianism, a supporter of anti-democratic regimes whether of the Right or the Left, and an unashamed anti-Semite is something that Baron Skidelsky is willing to gloss over, so long as the person adheres to the Keynesian formula to “save” the open society. One might wonder how much there would be left to save, if political power were given to a fascist like Mosley or a socialist like Corbyn, the latter of whom Skidelsky supported in his bid to head the Labor Party.