------ EH.NET BOOK REVIEW ------
Title: Capitalist Revolutionary: John Maynard Keynes

Published by EH.NET (December 2011)

Roger E. Backhouse and Bradley W. Bateman, Capitalist Revolutionary:
John Maynard Keynes. Cambridge, MA: Harvard University Press, 2011.
208 pp. $26 (hardcover), ISBN: 978-0-674-05775-3.

Reviewed for EH.Net by Steven Kates, School of Economics, Finance, and
Marketing, RMIT University, Melbourne.

Two prominent economists, one English and one American, have written a
book about how Keynes and Keynesian economics have shown their mettle
over these troubled years since the Global Financial Crisis (GFC).
Roger Backhouse and Brad Bateman have titled their work Capitalist
Revolutionary: John Maynard Keynes. It is a work of
counter-revisionist history even before we revisionists have had a
chance to tell our own story first.

The book is about the non-war in economics that ought to be happening
but isn’t. It is a defense of Keynes and Keynesian economics against
post-stimulus attacks that, other than in a few instances, have not
occurred at all. It sets Keynes up as a counter to an extreme
libertarian laissez-faire strawman view of how economies ought to be
left alone in all instances, first in their regulation and then in
allowing recessions to burn themselves off when they come. They
therefore conclude that given this is the choice, Keynes is the
answer. Well, if that were the choice, Keynes would be the answer, but
since it’s not the actual choice we have, they do not really satisfy
the criticisms of anyone who holds neither Keynesian nor such extreme
libertarian views.

I certainly agree with them that modern macroeconomic theory is a
mess. But since I believe that a large reason for that mess is the
economics bequeathed to us by John Maynard Keynes, the book does
nothing in my view to set matters straight. But of this no one should
be in any doubt: the book is about how Keynes saved capitalism – and
for the second time as well. To write (p. 139) about the stimulus in
conjunction with lower interest rates that “they worked” and that
Keynes “was vindicated” by how things have turned out, makes their
views on Keynesian macro very clear. The main issue for them is how to
separate the true message of Keynesian theory from other strands of
economic thought or even from among the various contending schools of
those who today call themselves Keynesians.

Backhouse and Bateman correctly observe that in reaching any
conclusion about Keynesian economics we must first distinguish which
Keynes we mean. This is an old story in the history of ideas. We live
in the present and the writers we discuss all lived and wrote in the
past. How do we find that historical genuine article and distinguish
it from our own prejudices and present day beliefs? One must first
sort through the astounding amount of material first written by Keynes
himself and then afterwards by everyone else over the past
seventy-five years to find just what it was he said and wrote that
worked so well and vindicates his vision. One must also sort through
the various fashions in economic theory that have existed over the
past three quarters of a century that have further distorted the
ability to see Keynes’s original message.

So let me say that I unreservedly agree with them about what they
believe Keynes’s message in The General Theory to have been: “His main
insight was the idea that the level of economic activity was
determined by what he called ‘effective demand’ for goods and
services” (p. 6).

And I again agree with them completely where they remark that “the
central theoretical argument [is] about the possibility of
insufficient aggregate demand, without which neither the book nor the
policy would make sense at all” (p. 123).

Being Keynesian in theoretical terms means accepting the notion of
aggregate demand as a force independent of aggregate supply acting on
the level of economic activity. It is a theory that overwhelmingly
places the emphasis on buying and not on producing. And in policy
terms, being Keynesian reflects a belief that public sector spending
during recessions creates a longer term net improvement in the level
of economic activity – or more importantly perhaps, in the rate of
unemployment – compared with what would have occurred had there been
no increase in outlays by governments. I think they do a very valuable
service in focusing on this since it clears away a good deal of the
rhetoric around not just the nature of the stimulus, but also about
whether the C+I+G version of textbook macro is Keynesian irrespective
of whether or not it is labeled in that way. As is clear from what
they write, it is all Keynesian to the very bones.

They unfortunately then weaken this insight by arguing that Keynes is
just a name for the confluence of all of the ideas that were bubbling
around during the 1930s, and lest there be any doubt about what they
meant, the heading for this section is “The Myth of the Keynesian
Revolution” (p. 21). And as many others have done before them, much
stress is placed on uncertainty being perhaps the most important
factor of all, of which they state “this uncertainty means that
financial markets cannot be trusted to coordinate saving and
investment decisions” (p. 7). A very big call indeed, especially since
for many the existence of uncertainty is the very reason why financial
decisions should be left to the market.

But in recognizing that what makes Keynes Keynes is that he brought
aggregate demand into economic theory, Backhouse and Bateman recognize
the significance of the disappearance of what had been a universally
accepted principle among classical economists, a principle which now
goes by the name Say’s Law which was defined in classical times as
demand is constituted by supply, that is, that demand and supply at
the aggregate level are one and the same. That Say’s Law is now
rejected by all right thinking economists may be Keynes’s most
enduring legacy as he was at pains to claim himself. But since Say’s
Law specifically states you cannot make an economy grow by increasing
demand without first increasing value adding supply, you can see how
relevant it is to this entire debate. It was this principle that was
at the center of the classical theory of the cycle which Keynesian
theory so comprehensively caused to disappear.

Why does all this history matter? Because it is possible to have an
alternative vision of Keynes and Keynesian economics that sees the
Keynesian legacy as one of mass economic destruction without having to
resort to some extreme laissez-faire view. As I look over the wreckage
caused by the stimulus, it occurs to me that Keynesian theory ought
now to be so discredited that there could be no possible recovery from
a debacle as deep and widespread as this, that no one could possibly
look at the events following the stimulus and see anything other than
abject failure. Who would have thought that instead a book would be
published arguing Keynes had been vindicated even as policy makers are
struggling with the consequences of the Keynesian stimulus?

So let me point out that there were two aspects to the downturn in
2008-09. There was firstly the financial crisis which was caused by a
series of misadventures whose causes do not concern me here. But the
solution to the problems of financial meltdown has been known at least
as far back as Walter Bagehot writing in the 1870s. Money markets were
therefore stabilized, either at the end of 2008 but certainly by the
start of 2009. This is the regulated form of capitalism that is
near-on universally accepted and the underlying dynamics were entirely
understood in classical terms. But none of this was even in the
slightest a “Keynesian” measure.

But then we came to dealing with the slowdown and the rise in
unemployment that followed the GFC. For some reason the idea caught on
that the world’s economies were about to repeat the Great Depression
so that further emergency measures were needed. It was this belief
that led to the introduction of stimulus packages around the world.
The problems caused by the stimulus itself are the main problems we
are dealing with today, not the original financial meltdown. This is a
distinction that Backhouse and Bateman do not make which clouds rather
than clarifies the issues now before us.

In much of their analysis Backhouse and Bateman continually focus on
the failures of something they refer to as “capitalism.” Their focus
is not on the market economy or economies generally but on this much
larger but entirely undefined entity. What, for example, does it even
mean to be a “capitalist revolutionary” as stated in the title of the
book? What, for example, do they mean by “the instability of
capitalism” (p. 124) or when they state that World War I had
“shattered the illusion that capitalism was inherently stable” (p.
82)? Do they have in mind something more than a restatement of the
obvious, quite clearly known to every classical economist – that
economies often run into rough seas? What are we to make of the
statement that “Keynes had developed the tools he needed to diagnose
the ills of capitalism” (p. 99) rather than perhaps the ills of a
market economy? They seem to have a caricature in mind of what
defenders of the capitalist system believe and argue. They seem to see
such people demanding absolutely no government regulation of any kind
as the only acceptable policy. As they write:

“Advocates of capitalism seem to come only in variants of a similar
argument: either you have laissez-faire or you have socialism. It
seems almost impossible, in the polarized world in which we live at
the beginning of the twenty-first century, for many people to imagine
that one could favour capitalism but also believe that it doesn’t
always function well. In fact, this type of belief is so prevalent
that it is difficult to conjure a contemporary advocate of capitalism
who is willing to admit that it may need to be regulated or that it
could possibly fail to ‘deliver the goods’” (p. 157-58).

Well, if they are looking for a “contemporary advocate of capitalism,”
they will not find anyone more that way inclined than I am. Let me
therefore contrast their view with the opening four paragraphs of my
Free Market Economics (2011), which  is about as contemporary as you
can get.

“This is a book about the market economy.

“A market economy is one in which overwhelmingly the largest part of
economic activity is organised by private individuals, entrepreneurs,
for personal profit. Such entrepreneurs are private citizens not
government employees. They make decisions for themselves on what to
produce, who to hire, what inputs to buy, which machinery to install
and what prices to charge.

“There are, of course, in every nation-state legislative barriers put
in place by governments which limit every one of these decisions. No
market is or ever has been even remotely laissez-faire.
Entrepreneurial decisions are circumscribed by the laws, rules and
regulations that surround each and every such decision.

“And in every economy there are various areas of production undertaken
by governments to a greater or lesser degree. There is no economy
without government production of various kinds” (p. 1).

Who would not agree? There is nothing whatsoever controversial about
any of this. There may be disagreement about what to regulate and how
to do it, but no disagreement exists about the absolute need for
regulation of some kind or another. And a large part of the book deals
with the classical theory of recession. Recessions may or may not be
examples where the capitalist system “doesn’t always function well”
but you cannot conjure an economic system that creates growth,
innovation and rising real incomes that does not also generate
cyclical activity. People make mistakes, on the real side and on the
monetary side, on the business side and on the policy side, with
consequent recessions and unemployment.

In the final analysis, I agree with Backhouse and Bateman that there
are enormous risks at the present time, but they are not risks due to
flaws within the capitalist system itself, but from the means
governments have chosen to regulate its operation. Books such as
theirs, which argue that it is only through ever more detailed
government regulations and high levels of public spending that
capitalist economies are able to perform, are not just in my view
wrong, but are themselves putting our economic system, and much else,
at risk.

Books such as this also take us farther away from a proper
understanding of how an economy works and what can and should be done
to improve the operation of our economic system. In my view, based on
the recent evidence of the stimulus, Keynes and Keynesian economics
really do need to be abandoned. Who would any longer trust a policy
based on an explicitly Keynesian model? We should therefore be looking
at alternatives to this Keynesian vision, and in my view, the most
useful place to look would be at the theories of the cycle developed
by those long ignored classical economists who quite well understood
that recessions were a periodic certainty, had explanations for the
causes of such recessions and knew what to do when they inevitably
occurred.

The book Bateman and Backhouse have written seems to be a call for
complacency, which in my view is the last thing we economists are in
need of today.

Steven Kates is a Senior Lecturer in economics in the School of
Economics, Finance and Marketing at RMIT University in Melbourne,
Australia.  He is the author of Free Market Economics: An Introduction
for the General Reader, Edward Elgar, 2011.

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Geographic Location: General, International, or Comparative
Subject: History of Economic Thought; Methodology, Macroeconomics and
Fluctuations
Time: 20th Century: Pre WWII, 20th Century: WWII and post-WWII