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2.17 Keynes’s Legacy and the Classical Revival

Although the word ‘macroeconomics’ does not make its appearance in the

economics literature until De Wolff’s 1941 article in the Economic Journal, it

was John Maynard Keynes who first pulled together in a single formal framework

all the real and monetary variables necessary to investigate macroeconomic

phenomena (Blanchard, 2000; Woodford, 2000). The dominance of Keynes in

the emerging field of macroeconomics before his death in 1946 is clearly

illustrated in the data on citations for the period 1920–44 contained in Tables


Table 2.3 Most-cited macroeconomists: 1920–30

Rank Name Number of citations

1 Irving Fisher 30

2 W.C. Mitchell 24

3 A.C. Pigou 21

4 Alfred Marshall 15

5 W.S. Jevons 13

6 R.G. Hawtrey 11

D.H. Robertson 11

8 H.L. Moore 10

Carl Snyder 10

10 J.M. Keynes 9

Source: Deutscher (1990).

Table 2.4 Most-cited macroeconomists: 1931–5

Rank Name Number of citations

1 J.M. Keynes 66

2 D.H. Robertson 44

3 F. von Hayek 33

4 R.G. Hawtrey 30

I. Fisher 30

6 G. Cassel 22

7 A.C. Pigou 20

8 K. Wicksell 17

9 A. Hansen 14

10 A. Marshall 13

Source: Deutscher (1990).

The outstanding feature of this information is the extent to which Keynes

came to dominate ‘macroeconomics’ by the mid-1930s. However, as we will

see in the remaining chapters, the development of macroeconomics since 1936

has been a process of evolution overlain with periodic counter-revolutions and,

as a result, in the 30 years after his death in 1946, ‘Keynes’s reputation soared

and then crashed’. To a large extent, this change of fortune is related to the

over-enthusiastic application of ‘Keynesian’ expansionary policies. Skidelsky

(2000) concludes his third and final volume of his biography of Keynes by

highlighting four important elements in ‘the Keynesian mindset’ that prevailed

during the ‘Golden Age’ from about 1950 until the early 1970s:

1. economies are viewed as ‘sticky, not fluid’, so they adjust to shocks

relatively slowly;

2. there is a powerful political-economy argument that liberal democracies

will not tolerate for long high and persistent levels of unemployment

Table 2.6 Most-cited macroeconomists: 1940–44

Rank Name Number of citations

1 J.M. Keynes 59

2 J. Hicks 30

3 G. Haberler 24

4 D.H. Robertson 22

5 R.G. Hawtrey 20

6 M. Kalecki 18

J. Schumpeter 18

8 A. Hansen 17

N. Kaldor 17

10 S. Kuznets 16

A. Lerner 16

Source: Deutscher (1990).

Table 2.5 Most-cited macroeconomists: 1936–9

Rank Name Number of citations

1 J. M. Keynes 125

2 D. H. Robertson 48

3 J. Hicks 33

4 A.C. Pigou 31

5 Roy Harrod 27

6 R.G. Hawtrey 25

7 F.von Hayek 24

G. Haberler 24

9 Joan Robinson 20

10 J.M. Clark 18

Source: Deutscher (1990).

such as those experienced during the interwar period of the twentieth

century; so while ‘in the long run we are all dead’, in the short run, high

unemployment may lead to revolution;

3. investment opportunities may flag in rich societies leading to secular


4. many Keynesians professed a serious faith in statistical forecasting.

While Keynes certainly adhered to the first three of these elements, he was

always ‘deeply sceptical’ of ‘Joy through Statistics’. His followers exhibited

less restraint. The long shadow cast by the experience of the Great Depression

combined with a fear of secular stagnation was sufficient to fuel the case

for frequent stimulation of aggregate demand and also led to the neglect of

important supply-side considerations (see DeLong, 1998). While Keynes

(1936, p. 16) was well aware that there were other sources of unemployment

than demand deficiency, he understandably paid little attention to these in the

General Theory. While Keynes understood that much of interwar British

unemployment had a large structural component, to try to explain the simultaneous

international outbreak of increasing rates of unemployment across

the major capitalist economies after 1929 in terms of changing structural or

frictional factors seemed completely implausible to him. The expected secular

stagnation via a lack of investment opportunities also failed to materialize.

As Abramovitz (1986, 1990) notes, a large backlog of unexploited technological

opportunities arising from the interwar stagnation and failure of Western

European industrialized countries to adopt the American system of mass

production manufacturing, provided enormous scope for ‘catch-up’. As a

result capital investment had a high marginal productivity and the West

experienced a long boom during the Golden Age.

Jeffrey Sachs (1999) has also argued that the impression given by the more

extreme enthusiasts of demand management, that the Great Depression might

somehow represent the normal functioning of market economies, turned out

to be wrong. As discussed in section 2.14, we now know that the Great

Depression was exceptional and largely the result of a perverse policy response.

Sachs writes:

The importance of the Great Depression in economic history is probably on a par

with the First World War in political history. The Great Depression taught many

lessons, most of them wrong. Keynes, the greatest political economist of the

century, made a grave mistake when he titled his text The General Theory of

Employment, Interest and Money. He left the impression that the Great Depression

was a ‘general’ situation of market economies, not a one-time fluke of grotesque

proportions. He failed to make clear that it occurred because of the international

gold standard, a monetary arrangement that Keynes had heatedly attacked and

abhorred, but strangely under-emphasised in the General Theory. In any event, the

Great Depression left the world deeply sceptical about the self-organising market

system. It took decades to revive robust confidence in market economies.

So, from this perspective, Keynes’s General Theory was ‘not quite as general

as he believed’ (Skidelsky, 2000, p. 499).

Throughout the period after 1936 there have been numerous developments

and contributions which reflect a hostile response to Keynes’s General Theory

and have ultimately contributed to a classical revival. The influence of Friedman

and the monetarist counter-revolution represented a major challenge to

the more simplistic versions and policy conclusions associated with hydraulic

Keynesianism. In Friedman’s (1983) opinion, ‘While the General Theory is a

great book, I do not regard it as his best … I have been led to reject it …

because I believe that it has been contradicted by the evidence.’

In Chapter 4 we examine the important challenge to the Keynesian orthodoxy

posed by monetarist analysis. Following this we examine the emergence

of the new classical school, which launched a much more fundamental attack

against Keynesianism during the 1970s. To many, this critique represents the

most important challenge to date for the Keynesian conventional wisdom. For

Lucas and Sargent, it is a simple matter of ‘fact’ that the predictions of

Keynesian models were ‘wildly incorrect’ and based on a doctrine which is

‘fundamentally flawed’. The ‘spectacular failure’ of Keynesian models in the

1970s has led to more attention and respect being accorded to ‘the theoretical

casualties of the Keynesian revolution, to the ideas of Keynes’s contemporaries

and of earlier economists whose thinking has been regarded for years as

outmoded’ (Lucas and Sargent, 1978, emphasis added).

Charles Plosser, a leading advocate of the new classical real business cycle

approach to macroeconomic fluctuations, is also of the view that the Keynesian

model is fundamentally flawed. In his opinion, ‘the underpinnings of our

understanding of economic fluctuations are likely to be found somewhere

other than a suitably modified version of the Keynesian model’ (Plosser,

1989). Minford and Peel (1983), in commenting on the impact of rational

expectations on macroeconomics, feel that ‘It has turned a body of knowledge

– macroeconomics based on the neo-Keynesian or neo-classical systems

of the late 1960s – upside down; virtually every topic … has been found to be

in need of rethinking’. In Chapters 5 and 6 we examine the development of

the new classical ideas particularly associated with Lucas, Sargent, Barro,

Prescott, Kydland and Plosser.

From the Austrian viewpoint, Friedrich von Hayek throughout his life

remained a stern critic of Keynes and Keynesians. In Hayek’s own words,

Keynes was ‘wholly wrong in the scientific work for which he is chiefly

known’ (Hayek, 1983). The powerful Austrian critique associated with the

work of Hayek and his followers is reviewed in Chapter 9.

Although we do not deal with the ‘public choice’ perspective as a specific

school, the perspective offered by Buchanan and Wagner (1978) is worth

noting, given the influence such ideas have had on popular opinion. Buchanan

and Wagner accuse Keynes of ‘Intellectual error of monumental proportions’

and assert that Keynesian economics ‘has turned politicians loose; it has

destroyed the effective constraint on politicians’ ordinary appetites to spend

and spend without the apparent necessity to tax’ (see Chapter 10).

Only a great economist could stir up such reactions. In writing to Roy

Harrod in 1935, Keynes made it clear that his attack on the classical economists

in his forthcoming book was quite deliberate because he wanted ‘to

force the classicals to make a rejoiner’. His objective was, ‘so to speak, to

raise a dust’ (see Skidelsky, 1992, p. 534). We can only conclude that in this

objective Keynes was spectacularly successful!

In subsequent chapters as well as the interviews we will explore the reasons

why economists have reached such a wide variety of conclusions.