Mon, Aug 22, 2011 - Page 9 News List

Rematch between Keynes and Hayek

By Robert Skidelsky

We have here a clue as to why Hayek lost his great battle with Keynes in the 1930s. It was not just that the policy of liquidating excesses was politically catastrophic: In Germany, it brought Adolf Hitler to power. As Keynes pointed out, if everyone — households, firms and governments — all started trying to increase their saving simultaneously, there would be no way to stop the economy from running down until people became too poor to save.

It was this flaw in Hayek’s reasoning that caused most economists to desert the Hayekian camp and embrace Keynesian “stimulus” policies.

As the economist Lionel Robbins said: “Confronted with the freezing deflation of those days, the idea that the prime essential was the writing down of mistaken investments and … fostering the disposition to save was … as unsuitable as denying blankets and stimulus to a drunk who has fallen into an icy pond, on the ground that his original trouble was overheating.”

Except to Hayekian fanatics, it seems obvious that the coordinated global stimulus of 2009 stopped the slide into another Great Depression. To be sure, the cost to many governments of rescuing their banks and keeping their economies afloat in the face of business collapse damaged or destroyed their creditworthiness. However, it is increasingly recognized that public-sector austerity at a time of weak private-sector spending guarantees years of stagnation, if not further collapse.

So policy will have to change. Little can be hoped for in Europe; the real question is whether US President Barack Obama has it in him to don the mantle of former US president Franklin Roosevelt.

To prevent further crises of equal severity in the future, Keynesians would argue for strengthening the tools of macroeconomic management. Hayekians have nothing sensible to contribute. It is far too late for one of their favorite remedies — abolition of central banks, supposedly the source of excessive credit creation. Even an economy without central banks will be subject to errors of optimism and pessimism. And an attitude of indifference to the fallout of these mistakes is bad politics and bad morals.

So, for all his distinction as a philosopher of freedom, Hayek deserved to lose his battle with Keynes in the 1930s. He deserves to lose today’s rematch as well.

Robert Skidelsky, a member of the British House of Lords, is professor emeritus of political economy at Warwick University.

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