The Continued Relevance of John Maynard Keynes–Macro-Economics

August 22, 2016

The Continued Relevance of John Maynard Keynes

By Lord  Robert Skidelsky at LSE

The ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back. I am sure that the power of vested interests is vastly exaggerated compared with the gradual encroachment of ideas. Not, indeed, immediately, but after a certain interval; for in the field of economic and political philosophy there are not many who are influenced by new theories after they are twenty-five or thirty years of age, so that the ideas which civil servants and politicians and even agitators apply to current events are not likely to be the newest. But, soon or late, it is ideas, not vested interests, which are dangerous for good or evil.

READ:  by William Keegan

4 thoughts on “The Continued Relevance of John Maynard Keynes–Macro-Economics

  1. In short, economics is not physics. I feel that economists should recognise the limitations of their tools of analysis and acknowledge that they are not oracles. They must be humble and competent, said Lord Keynes and stop their advocacy of half truths.–Din Merican

  2. Yes indeed.

    “… 1. Minsky’s Instability Theory

    In Minsky’s work, he extended Keynes’s investment theory of the cycle to add the financial theory of investment to demonstrate that, in a modern capitalist economy, investment decisions have to be financed and the liability structure created due to those investment decisions will generate endogenous destabilizing forces. His theory of the business cycle, grounded in his financial theory of investment, shows that a capitalist economy is inherently unstable due to the interconnectedness of balance sheets of economics units and cash flows. From this perspective, while the financial system in a capitalist economy plays a key role in providing the financing to business to promote the real capital development of the economy, it also plays a key role in creating destabilizing forces.

    Minsky’s framework not only sheds light on how to detect unsustainable financial practices, the position adopted in this paper is that the current Brazilian crisis does fit with Minsky’s instability theory.

    2. Destabilizing Effects of Stability and Declining Margins of Safety

    Central to Hyman P. Minsky’s financial instability hypothesis was that periods of economic stability and economic progress lead to dynamic internal changes characterized by hedge, speculative, and Ponzi financial positions (see Minsky 1975, 1982, 1986). Minsky (1986) focused on the destabilizing effects of stability and declining margins of safety. The purchase of assets through the issuance of debt is central to his financial instability theory. He pointed out that periods of growth and tranquility validate expectations and existing financial structures, which change the dynamics of human behavior leading to endogenous instability, increasing risk appetite, mispricing of risky positions, and the erosion of margins of safety and liquid positions. That is, over periods of prolonged expansion fragility rises, exposing the economy to the possibility of a crisis. This rise in financial fragility, in turn, has the potential to lead to a slowdown in economic growth, stagnation, or even a recession.

    Minsky argues that continued success encourages and enables more investment, which in turn creates more income through the traditional spending multiplier and profits — as shown by Kalecki-Levy’s profit equation — but it also increases the magnitude of risk underpricing. Minsky argues that during economic expansions, market participants show greater tolerance for risk and forget the lessons of past crises so firms gradually move from safe financial positions to riskier positions.

    For instance, during an expansion led by an investment boom, profits tend to increase. The profit boom affects behavior and allows firms to meet outstanding financial commitments. During this phase of the expansion both firms and lenders are willing to expand their balance sheets by increasing leverage….”

  3. A basic understanding of economics is essential if we are to be well-informed citizens. Most of the specifics problems of the day have important economic aspects, and we in a democracy make the ultimate decisions in meeting those problems. But we must understand that economics is an academic, not a vocational, subject. Unlike accounting, finance, advertising, and salesmanship, economics is not a how-to-make money area of study. A knowledge of economics may be helpful in running a business or in managing one’s personal finances, but this is not its primary objective. In economics, problems are examined from the social, not from the individual, point of view. The production, exchange, and consumption of goods and services are discussed from the viewpoint of society as a whole, not from the standpoint of one’s own bankbook. Economics is a social science, not an exact science.

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