Dr Manjira DasguptaM.S. University of Baroda

Presented at the 12th International Conference on Post-Keynesian Economics of the Levy Economics Institute, Kansas City, Missouri

September 2014

TODAY’S DISCUSSION

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THE CRISIS & NEOCLASSICAL

ECONOMICS: A FAILED PARADIGM?

SEEKING ANSWERS: BEYOND THE

MAINSTREAM STRAITJACKET

CRISIS AND POLICY RESPONSES:

LESSONS FROM POST-KEYNESIAN

ECONOMICS

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The Crisis and the shock: Mainstream

reaction

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““This crisis … has turned out to be much

broader than anything I could haveimagined … (We) are in a state of shockeddisbelief … (The) modern riskmanagement paradigm held sway fordecades. The whole intellectual edifice,[has] collapsed.” …..

Contd.

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…“I still do not fully understand why ithappened, and obviously to the extent thatI figure it happened and why, I shallchange my views.”

(Alan Greenspan, Testimony before Congressional Committee Oct 23, 2008, cited in King 2011 p 11).

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And Yet…

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Krugman (1997): “The unemployment rate will be what Alan

Greenspan wants it to be, plus or minus a random error reflecting

the fact that he is not quite God.”

Federal Reserve: capable of successfully managing aggregate

demand to the fullest and ensure price stability

Dominant consensus: fiscal policy could not, and should not, be the

instrument to correct fluctuations.

Natural Questions:

What were the defining features of this “structure”?

How and why did it fail to predict the Crisis?

Why was neoclassical thought unable to provide solutions to it?

What answers do heterodox approaches, Post-Keynesian economics

included, hold to the myriad problems thrown up by the crisis?

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Neoclassical Structure: Defining Elements ..

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… And their direct bearing on the unfolding of the

Crisis 2007 onwards:

Efficient Market Hypothesis

Rational Expectations

Policy Ineffectiveness

Neutrality of Money

Implications:

Markets would clear themselves automatically.

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How do such constructs lead directly to the Crisis?

Increasing “financialization” (Minsky, among principal prophets)

Increasing complexity, bewildering proliferation of financial instruments and derivatives

Passing by the name of “sophistication”

Lack of regulation

lack of transparency

Money Manager Capitalism

Bubbles

Neoclassicals operated on the certainty (ergodicity) presumption

That a crisis was brewing, and could in deed burst some day, was beyond perception.

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“There is no means of avoiding the final collapse of a

boom brought about by credit expansion. The

alternative is only whether the crisis should come

sooner as the result of a voluntary abandonment of

further credit expansion, or later as a final and total

catastrophe of the currency system involved.”

- Ludwig von Mises (1958)

Direct corollary of the Ruling Mainstream:

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Discrediting of fiscal policy.

Envisaged role of fiscal policy in the so-called “New consensus”.

Minimum fiscal policy: “Great Moderation”

Attitude to fiscal policy:

Critical and crucial differences between the so-called “New Economic Consensus” and post-Keynesians.

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Difference with Heterodoxy:

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“For Eichner (1985), a clear difference between neoclassical and Post Keynesian economics is that Post Keynesians desire to “explain the real world as observed empirically”. (Holt & Pressman p 4)

Approaches like Post-Keynesian work in a non-ergodicworld.

At core: the famous Minskian financial instability

Crisis are “embedded” (Dejuán 2013)

Role of government

Non-neutrality of money

(Question: Is there a single, coherent, “Post-Keynesian”body of thought?)

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Post-Keynesian Thought: Strands

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Eichner (1973): At least two overlapping traditions

Marc Lavoie, others have identified at least five (5)

distinct strands

Finally, there are “cross-over” theoreticians who hae

comfortably traversed and straddled across the

traditions

(Prof. Lavoie himself considers himself to be such a

contributor and collaborator in diverse Post-

Keynesian themes). “cross-over”

CRISIS: A TIMELINE

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:

Source: Hewitt (Feb. 2009)

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The Crisis: Critical Turning Points

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Large-Scale and unprecedented Bail-out by

Government of Banks and Financial Institutions

Wray (2012): The unprecedented—and “possibly

illegal” nature of the Fed’s response by extending

the government’s “safety net” to the biggest financial

institutions.

THE RESPONSE: ONE REPRESENTATIVE

STIMULUS PROGRAM

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Source: Hossain et al (2009)

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FROM STIMULUS TO

AUSTERITY

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Policy Regime Change:

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Two Major, vociferous demands For one, what was deemed to be unproducive and unjustified

government spending

Simultaneously, concern with a mounting debt-GDP ratio as

spendings grew

Austerity: The Major Steps: Immediate scale back of spending, prticularlt in areas deemed

as “no productive” enough

Large-scale reversal of tax cuts, a comeback to the

recessionary spectre

Policy Responses: The Post-Keynesian

Perspective

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Post-Keynesians:

Austerity ill-advised on at least two critical rationales:

Its enormous social and human costs

Dramatic examples: Greece, Spain

More significantly, declining GDP growth has implied re-

emerging high debt-GDP ratio, the very reason why

austerity had been demanded in the first place.

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What have we Learnt?

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Policy Lessons to take home:

Re-instating fiscal policy

“Functional Finance”, as distinct from “Sound Finance”

(Lerner)

Automatic stabilizers are no longer infallible

Greater, indeed, “Activist” role of Government

Orthodoxy must yield to Heterodoxy, including Post-

Keynesianism to show the way ahead.

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… theoretical, methodological and pedagogical issues are still being debated and discussed among Post Keynesians, but this is what you would expect from a vibrant and dynamic economic theory. This sort of discussion goes on within every economic paradigm or perspective, including in the dominant neoclassical paradigm. These … internal debates– (revolving) around refining the paradigm and solving its internal puzzles—do not detract from the more important point that most of the key methodological and theoretical work has been done, and that the foundation of Post Keynesian Economics is well established. … it is time for Post Keynesians to take their work beyond methodology and theory, … and enter a new stage (focussing on) public policy and empirical analysis.” (Holt et al 2011)

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