Saturday, June 18, 2011


Ok folks - Keynes bashing has become a popular sport amongst commentators and the bloggers who have no clue what they are talking about.

They hear others say that the Fed and the Western economies are practicing Keynesian economics by dropping rates and incurring large government deficits and just parrot it.

Here is a mini-Keynes primer:

Keynes was in favour of active involvement by the government in the economy. He did not believe in an economy left to the vagaries of chance, speculators and big money.

He wanted Governments to actively intervene to BURST bubbles.

He believed that Government spending should go DOWN when things were good and then RISE when things were weak to smooth out the hills and valleys.

Government policy should be directed at high employment levels where ever possible.

OK lets see what happened:

1) We had total failures Bernanke and Greenspan and successive US Treasury Secretaries like Robert Rubin, Lawrence Summers and Henry Paulson who believed in the free market. They removed regulations (anti-Keynsian) and denied bubbles in the stock market and RE (both of which burst with catastrophic effects).

The laissez-faire market-knows-best philosophy is based on the theories of Milton_Friedman- the anti-Keynes. He did not believe in regulating or Government intervention at all.

He also espoused small Government, less spending and lower taxes. Margaret Thatcher, the PM of UK, was a strong believer in his theories. Well taxes were cut but spending was not.

2) When it hit the RE bubble in the US exploded and it hit the fan then everyone suddenly turned from free marketers to Keynesian interventionists!!

The Friedman philosophy would have you leave the speculators to go down and let the market fall. But this could not happen- why??

Because most of the assets that were collapsing -stocks and bonds as well as the big deposits in banks, the bank bonds, the banks stocks and the senior executives of the banks - were the very rich and well connected. And they brought out their big guns and convinced everyone to move all the banks liabilities to the tax-payers for the sake of economy!

This is NOT Keynesian.

The first thing that happens in many countries is the big bank deposits are guaranteed by government (not Keynesian) then Interest rates fall everywhere (Keynesian) .

Now if they were playing by the Keynes play-book they would incur deficits to spend out of the recession. Yup they did that in spades, except they hadn't dropped spending in the good times, so started off from a deficit position.

Now here is a major difference... Keynes said the Government should NOT support assets but spend on infrastructure instead, which will help productivity in the future and has a direct impact in the economy and employment.

The Governments did not do that.

The US bought non-performing paper from banks and hedge funds, then bought it's own debt - all in an attempt to bolster assets. It worked - the stock market doubled, commodities soared and Wall Street insiders made their biggest bonuses ever. The UK did the same as did most European countries.

However unemployment has remained high and housing is moribund, since it is still deflating from the bubble the idiot twins said didn't exist and it is linked to the US consumer which has not benefitted from this experiment of Bernanke's.

Canada did put some money into rather quickly thrown-together and often ill-thought out infrastructure projects -like earthquake-proofing a tiny foot- bridge over the Capliano river that no-one uses and which took months and many $$$$. China embarked on a major infrastructure program and fared the best.

However the Tories could not resist buying loans from banks and doubling the CMHC-monster.

All this would have Keynes rolling in his grave. Almost none of is Keynesian.

So now when someone starts to say that Keynesian economics have failed, you can slap them hard and direct them to the facts.


  1. Jesse- I read the bill. Nothing too dramatic jumped out at me. I think they are minor compared to the changes made earlier this year

    and that hardly made a blip in our housing bubble.

    It will take more than that to burst this bubble.

    More than tweaking the CMHC-monster, more than a few whining words from Carney and more than record prices.

    It will take higher rates, a bust in China, or a new recession. None of these are under the control of the Government. It can help inflate bubbles but bursting them takes more fore-sight and will-power, neither of which they have,.

  2. "Nothing too dramatic jumped out at me"

    So you think requiring banks to provision for 10% default risk, giving the Minister of Finance ability to remove the ability of banks from borrowing, requiring larger capital reserves by insurers at the whim of the government, and requiring insurers' books being made public are not dramatic?

    We'll see what happens I suppose, but there are some significant policy changes in that bill. I'm surprised nobody has at least highlighted them in the MSM. I expect banks will approach reporters at some point once they get their stories straight.

    As for Keynes, one of his basic tenets was that government should step in to bolster investment when private investment falters. When that doesn't happen and unemployment is high, interest rates will be low. Keynes surmised that this could be ameliorated by pushing the economy towards full capacity.

    There are lots of things the government didn't do that Keynes recommended and things it did do that Keynes didn't recommend, and withdrawing government spending when unemployment is still high is certainly one of them, as is reducing taxes when the economy is at full capacity. In my view removing government spending too early is a mistake but I guess they know better. That Bill C3 would require larger capital reserves when, one assumes, the economy is overheating, sounds Keynsian to me. We shall see!

    Infrastructure spending was performed, any look around at signs of the government's "economic action plan" at major projects is indication of how much money was put directly into infrastructure. That program is being wound down now. Energy upgrades was also infrastructure spending, as was, in a way, turning on the CMHC "lend to anything that fogs a mirror" taps, assuming that it caused people to spend on renovations and maintenance. That happened, but probably not as much as governments hoped. Hoocoodanode! Nonetheless, infrastructure spending trickles down into other spending and that is sort of the point. We should remember that even with all this spending unemployment is still high so government spending is nowhere near the point where it is crowding out private investment. I think, though, Canada is not in a liquidity trap, so from that POV mission accomplished.

  3. Jesse, Flaherty just came out and said 'now new mortgage rules' so how does tally with this new bill?

  4. Funny because Bill C-3 is new rules, but all the rules imposed are behind-the-scenes, not "voter-facing". My only point on Bill C-3 is that, the way I read it, it allows the government to impose significant curbs on lending by controlling both insurers and the lenders. The way they do this is by allowing the Minister of Finance to withdraw lenders' ability to access mortgage insurance, and by imposing stricter capital controls on the insurers themselves. Most important, though is that the government is only backing 90% of loans outstanding where before they were backing 100%. Not a big deal? Well actually it is because now banks must provision for default under Basel 3, meaning there is a partial withdrawal of moral hazard in the form of requiring loss reserves. These are all shifts in policy, and none that will make much sense to the average homeowner. He will, however, notice changes in how much loan he will be qualified for should the government be serious about quenching Vancouver's house price bubble, which to be honest would be a fun experiment for the Ministry to test out how effective the new legislation is. Yes, they are that evil. :)

  5. One thing to mention, though, is that it's unclear to me whether CMHC is covered under Bill C-3. I assume it is, but it may not be.

  6. Oh fish10, I thought this lecture by Krugman is apropos to your points:

  7. 38 new listings in the last week in Whistler and 4 sales.