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Is Keynes correct?
Old 02-13-2009, 03:54 PM   #1
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Is Keynes correct?

This is a discussion of the concept of Keynesian economics with reference to money supply and reversing deflation. To stimulate the economy during a deflationary situation, one must somehow increase the money in circulation. True or false?

It is my understanding that the validity of this was debated during the great depression. It looked like the economy was starting to come out of the cycle in 1936. At that time the government thought it would be OK to reduce the money supply stimulus (balanced budget, tax increase). The Keynesians protested greatly. The result was that the economy took a nose dive.

This is commonly accepted as validation of Keynes money supply concept and it is now the prevailing view among mainstream economists.

Is this an accepted fact or am I missing something?
If correct, there has been no mention of this in any of the “news” that I have seen in the past month. Why? It certainly seems like it is something people should hear about or at least discuss it.

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There is more to it. Probably much more theory. The Fisher velocity of money equation comes to mind. I think it is enough to verify and discuss the one basic fact. That is my goal.

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Old 02-13-2009, 04:07 PM   #2
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I definitely don't believe it is a fact since there is much debate as to whether the theory is true or not and whether throwing massive amounts to money into the economy in 1936 would have changed the course of events.

Does not the theory also state that in prosperous times, deficits should be eliminated and debt greatly reduced? Since the government doesn't seem to have the stomach for reducing or eliminating debt during the good times I wonder if the theory is still valid in the long run.
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Old 02-13-2009, 04:31 PM   #3
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This thread should probably be moved to FIRE related political topics.

At the risk of getting a post deleted or moderated, I would say Keynesian economics does not go unchallenged. The Austrian school, particularly Hayek, disagrees greatly with Keynesian economics. As does the Chicago School (including Friedman, Fogel, and Posner, among others).

It really comes down to what level of government interference is optimal in the economy. Keynesian = govt interference a good effect, Others = not so much.

See: Keynesian economics - Wikipedia, the free encyclopedia
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Old 02-13-2009, 04:32 PM   #4
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Does not the theory also state that in prosperous times, deficits should be eliminated and debt greatly reduced? Since the government doesn't seem to have the stomach for reducing or eliminating debt during the good times I wonder if the theory is still valid in the long run.
This is why I'd argue that true Keynesianism has never truly been debunked. Keynesianism as we have pretended to practice it is doomed to failure because increasing spending in bad times needs to be matched with reduced spending in good times or else the debt continues to pile up. We have many economists pretending that Keynesianism has failed when in fact it's never been followed in economic boom times.

I'm not a supporter of Keynesianism in the general case, but in fairness it's important to point out we've only engaged in "One-Way" Keynesianism.

Having said that, another Keynesian belief was in the "Paradox of Thrift," whereby individual saving is good but when everyone does it at once, we get what we have now. But to me that's more of a Tragedy of the Commons issue.
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Old 02-13-2009, 04:33 PM   #5
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At the risk of getting a post deleted or moderated
All right already, we get how you feel about this.
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Old 02-13-2009, 04:37 PM   #6
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All right already, we get it how you feel about this.
See, this is where I have an issue. How can you expect a discussion on the pros and cons and validity of Keynesian economics without involving political philosophy. Someone is going to start talking what they think the government should or should not do.

I'd like to be able to discuss it, but you can't really do that within the confines of the "rules" and particularly not in the "FIRE and Money" forum.
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Old 02-13-2009, 04:42 PM   #7
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How can you expect a discussion on the pros and cons and validity of Keynesian economics without involving political philosophy. Someone is going to start talking what they think the government should or should not do.
Which, once again, is perfectly acceptable within the rules.
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Old 02-13-2009, 04:44 PM   #8
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See, this is where I have an issue. How can you expect a discussion on the pros and cons and validity of Keynesian economics without involving political philosophy. Someone is going to start talking what they think the government should or should not do.
And as economics is clearly related to FIRE, that's not a problem. If it gets too political the thread may get moved, but that's about it.
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Old 02-13-2009, 04:50 PM   #9
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This thread should probably be moved to FIRE related political topics.
Thanks for your reply. I was wondering where the best place for it was?

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At the risk of getting a post deleted or moderated, I would say Keynesian economics does not go unchallenged. The Austrian school, particularly Hayek, disagrees greatly with Keynesian economics. As does the Chicago School (including Friedman, Fogel, and Posner, among others).
To my untrained eye, these others don't have the 1936 "evidence" behind them. This tends to sway my opinion more than anything else.

Is the Fisher, velocity of money equation / concept in question?
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Old 02-13-2009, 04:50 PM   #10
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And as economics is clearly related to FIRE, that's not a problem. If it gets too political the thread may get moved, but that's about it.
I was simply preemptively asking that this thread be moved to FIRE related political topics. I thought there was more leeway given to political discussions in that forum than there is in the FIRE and Money or other forums. I must admit I am a little unclear on the rules though. Just thought the suggestion to move it would help out with the goals and objectives of the board??
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Old 02-13-2009, 04:56 PM   #11
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Old 02-13-2009, 05:07 PM   #12
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Having said that, another Keynesian belief was in the "Paradox of Thrift," whereby individual saving is good but when everyone does it at once, we get what we have now. But to me that's more of a Tragedy of the Commons issue.
You don't think that part was debunked in the last year?
Take a look at our savings rate :


It looks to me like people save after a recession hits but when the economy looks strong again the savings rate plummets before thr economy declines. And since we've had a negative savings rate since 2005 shouldn't this recession have been over long ago or never even started?
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Old 02-13-2009, 05:17 PM   #13
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It looks to me like people save after a recession hits but when the economy looks strong again the savings rate plummets before thr economy declines. And since we've had a negative savings rate since 2005 shouldn't this recession have been over long ago or never even started?
Yes, but the recession occurred after other factors popped the bubbles in the economy (largely fueled by pseudo-wealth like debt financing and home equity). In part it could be argued that it's consuming beyond our means that pumped up the economy to the breaking point -- and THAT shock got people saving again. I'm not particularly an advocate for "Paradox of Thrift" but in the short term it does lead to economic retrenchment even if it's healthy in the long term.

I don't like the articles urging people to start spending again and driving savings rates down to zero, though, and that's where I part ways with the "paradox of thrift" proponents. In a perfect "Goldilocks" world, the "velocity of money" would have come down steadily, but somewhat gently, until it was at a velocity where there was a decent amount of saving being done. Obviously, this isn't a "Goldilocks world" and "soft landings" can't always be engineered.

I view the velocity of money in the last few years like a runaway 18-wheeler speeding down hill. Instead of gravity, debt is causing the speed of the truck to increase at a scary rate. For a while you can still control the vehicle, but eventually you reach a scary speed that can't easily be controlled and is threatening to crash. If one could apply the brakes in an orderly manner until the truck was at a manageable speed again, everything would end up reasonably well. But when you so violently and abruptly slow down the velocity of money (and yes, 3-4% change in savings rate over a less than six month period is violent in economic terms, especially when added with layoffs and decreased corporate spending), you've stopped the truck by slamming it into the brick wall, leaving the cargo (the economy) severely damaged.
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Old 02-13-2009, 06:27 PM   #14
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I still don't think people started saving again. I believe 4th quarter 2008 we still had a negative savings rate. What happened is people ran out of credit and so they couldn't take on anymore debt. You can only transfer debt from credit card to credit card before the debt comes due.

If there had been less easy money it just means this crash would have likely happened in 2005 or 2006 when people hit their credit limits instead of 2008.

Once this "stimulus" bill passes we'll officially owe 87.6% of our GDP to other countries.

Do you really think we're going to borrow 110% of our GDP like we did when we were fighting an actual war against an enemy that threatened everyone, now that we're in the midst of a police action against a nebulous concept most countries aren't bothered by with a faceless enemy who can never sign terms of surrender?

Saving is what would save our economy, not spending. Jacking the interest rates up to 14% is what broke the stagflation of the 70's. We had high interest throughout the 80's and early 90's and saw some of our greatest economic growth. As interest rates have been coming down we've just seen bubble after bubble form, and it's so low now we we don't have enough credit to debt our way into another bubble.
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Old 02-13-2009, 06:36 PM   #15
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I still don't think people started saving again. I believe 4th quarter 2008 we still had a negative savings rate.
The Commerce Department claims that we had a +3.6% savings rate in December, up from less than 1% in August and negative in much of '05-'07. In terms of economics, that's a very massive shift in such a short period of time just as a million years is a short period of time to geologists.

Part of the problem is that leverage has made every dollar NOT spent that much more damaging to the short-term economy. Every dollar not spent is like a dollar decline in a stock price that is owned on 50% margin. Leveraged players lose two bucks, not one. So even a fairly small change in the savings rate combined with too much leverage leads to implosion.

One way or another, the transition -- like the breaking of inflation in the early 1980s -- is going to result in pain and displacement short term but is probably best in the long run. Doesn't make the present any less crappy, though. And the recovery could be even tougher because there doesn't seem to be much "fuel" for it (and I don't mean debt).
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Old 02-13-2009, 06:57 PM   #16
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Yeah that sounds about right Ziggy. There's got to be a crash and a restructuring.

We're like that truck on an icy road, the time to put on the breaks was miles ago when we saw the corner and we just kept jamming on the gas until even the guy sleeping in the back seat(congress?) woke up and could hear us crashing through the barrier.

I don't think I'm a big fan of the plan to have everyone jump in front of the truck all at the same time to try and stop it.
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Old 02-13-2009, 10:46 PM   #17
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I rather like the 18 wheeler on the icy road analogy. I think we are missing the benefit of our easy credit. As long as nobody slammed on the brakes the truck was doing just fine, and in fact traveling very fast, and very efficiently on that nice icy downhill road.

The problem was all the negative nabobs of negativism screaming this was unsustainable. As long as everybody in the system believe that the truck could safely travel down the road at 100+ MPH (e.g. we all could spend 102% of our income) there really was no problem. Once a few chicken little type screamed that the situation was dangerous, the driver hit the brakes and the truck started getting out of control.

I hope in the future, we eliminate the brakes on the trucks. I think this can be easily done by enacting a mandatory death penalty for short sellers, bearish analysts, investigative reports, and muck raking journalists and most of all bloggers with math skills. I and the economy was doing just fine before all of you screwed everything up. (I am at lost as to which emoticon to use.)
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Old 02-14-2009, 12:38 AM   #18
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Old 02-14-2009, 03:42 AM   #19
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Isn't this a ponsi scheme story?

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I rather like the 18 wheeler on the icy road analogy. I think we are missing the benefit of our easy credit. As long as nobody slammed on the brakes the truck was doing just fine, and in fact traveling very fast, and very efficiently on that nice icy downhill road.

The problem was all the negative nabobs of negativism screaming this was unsustainable. As long as everybody in the system believe that the truck could safely travel down the road at 100+ MPH (e.g. we all could spend 102% of our income) there really was no problem. Once a few chicken little type screamed that the situation was dangerous, the driver hit the brakes and the truck started getting out of control.

I hope in the future, we eliminate the brakes on the trucks. I think this can be easily done by enacting a mandatory death penalty for short sellers, bearish analysts, investigative reports, and muck raking journalists and most of all bloggers with math skills. I and the economy was doing just fine before all of you screwed everything up. (I am at lost as to which emoticon to use.)
That is the problem funds like Madoff runs had. But, seriously, exchanges of value for air seems to always dilute value in the long run, absence of a death penality or not.

How about or with a followup of ?
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Old 02-14-2009, 05:52 AM   #20
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This is why I'd argue that true Keynesianism has never truly been debunked. Keynesianism as we have pretended to practice it is doomed to failure because increasing spending in bad times needs to be matched with reduced spending in good times or else the debt continues to pile up. We have many economists pretending that Keynesianism has failed when in fact it's never been followed in economic boom times. .
Not to go to far off the subject, but this reminds me of someone who said Communism has not been debunked as it has not been practiced as it was intended...
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