In an interview on Inspiration for a Liberal Economist

Let’s go on to Keynes’s General Theory of Employment, Interest and Money. Unemployment in Keynes’s day was 25%, and this, I believe, is what prompted him to write his famous book. I’ve been trying to read it over the weekend and I was wondering if it isn’t quite hard to understand if you don’t have a Nobel prize in economics? Or at least a PhD?

It is a difficult book, because it’s the first book that tries to figure this stuff out.  You don’t teach Keynesian economics from Keynes anymore.  Keynes was actually working on The General Theory of Employment, Interest and Money before the Great Depression, but obviously the Great Depression gave it urgency. It’s a first stab – it’s one hell of a first stab – but because it is a first stab, it’s got all the awkwardnesses that go with that. He goes off on tangents that seemed important to him at the time, but don’t seem so important now. It’s not an easy read.

It’s a book to be read when you’re a practising economist with a fair bit of research of your own under your belt. Because then, as you read it, you can see the incredible process he’s going through, of freeing himself from the preconceptions of the economic analysis of his time. You can see him saying, “Hey, wait, maybe that’s not right. How can I think this through, how can I make this a story that actually fits the world I see around me?” There is stuff in there where you say, “What the hell is that about?” For example, there’s a whole discussion about the choice of units, which is, in fact, very boring. But having been through minor versions of that kind of process myself… the mechanics, the plumbing of your theory, is often critical. You work really hard to try to put that together, and Keynes is laying it out as he did it. It’s really breathtaking and inspirational.

In terms of our current situation, and what The General Theory can tell us, the book doesn’t actually say very much about fiscal stimulus or does it?

It’s implied. It’s clear from the book that you can have a problem of inadequate spending and that just printing more money, under some circumstances, does nothing. In that case you have to have the government come in and spend. Elsewhere, Keynes was more explicit about it, but you can deduce it from the framework of The General Theory. Once you understand the logic of the kind of slump we’re in, once you understand it’s very much the same kind of slump we were in in the 1930s, then the case for fiscal stimulus flows out of that analysis.

At one point Keynes says that economics is a “difficult and technical” subject that will eventually be left to specialists, like dentistry.

That’s actually from my next book, his Essays in Persuasion, which are real time analyses, many of them written for popular magazines.

So applying that comment to fiscal stimulus, which is a key issue that you, as a liberal economist, support but most right-wing economists oppose, if economics has become more like dentistry, why, on an issue like stimulus, is the economics community divided between left and right? Because while dentists might disagree about whether to pull a tooth or not, it would probably not be along ideological lines.

Keynes was really expressing a hope, rather than making a prediction. He was saying I hope that we will eventually become like dentists, that it will be just a technical discipline. And probably that was one place where his wisdom failed him. Because the fact of the matter is there is too much interest at stake in economic policy. In the world in which we now live, there is no such thing as neutral advice or neutral expertise. The division is partly an intellectual division, which is overlaid with a political division. They mostly match up, but not totally.

The idea of an activist government policy to fight recessions is controversial, and deeply opposed by certain factions, in part because they think it will hurt their interests directly and in part because they fear that it opens the door for an active role for government, for liberalism in general. Then you have the intellectual division, which, in a way, goes back to Hume. On one side there are the people who start with an axiomatic, “This is the way it must be” view of economics – it’s all about perfectly rational individuals interacting through perfect markets. In that view, there is no room for Keynesian economics, but of course there is also no room for the slumps like the one we’re in. Then there are people who say that maximising behaviour may be a useful strategic simplification, but if it doesn’t seem to fit the facts… We don’t use it where it doesn’t seem to work. That would be my position. So you have the division within the economics profession over epistemology, you could say, and then a division along political lines. Those two are matching up almost precisely right now.

But how strong is the proof that fiscal stimulus works? At the beginning of the crisis, I asked my sister and her husband, both former colleagues of yours at Princeton about it. They said it wasn’t certain it worked, but given the lack of alternatives, it was better than doing nothing. Is the evidence stronger than that?

I think it’s stronger. We can’t do controlled experiments with economies. You can’t prove something the way you can prove something in physics. But we have a number of pretty clear cases. We have the Great Depression, which was ended by a very large fiscal stimulus, otherwise known as World War II. The 1930s is, in many ways, the best laboratory. You can see that when Mussolini did a military build-up, it expanded the Italian economy exactly as a Keynesian would have predicted.

Of course it’s not as clear-cut as one would like. It’s not as if you can find someone who is doing a fiscal expansion while holding everything else constant. Life doesn’t work that way. But compared to a lot of other things people believe in economics – about the efficiency of the markets, or what will happen if you raise taxes – it’s a lot better established. There are a lot of propositions in economics that are held with great firmness that actually have no clear historical evidence behind them. Fiscal policy is, if anything, actually a bit better grounded in the evidence.