Saturday, November 28, 2009

The General Theory

Recently I reread the "The General Theory of Employment, Interest and Money" by John Maynard Keynes. This 1936 book is historically important and perhaps newly relevant given our recent economic problems. Unfortunately it is not very accessible to the lay reader. Keynes states in the first sentence of the preface that "This book is chiefly addressed to my fellow economists." and indeed much of it consists of detailed technical analysis and criticism of the writings of other economists such as Marshall and Pigou. Additionally it was written about a different time and place which while not totally different from modern America often seems a bit foreign.

So this book isn't really a good introduction to Keynesian economics. I would hope and expect that there are more recent books which provide a clearer explication of his economic ideas. However I can't give a specific recommendation. Perhaps I should try reading some recent college textbooks.

"The General Theory" is written in a somewhat rambling style and mixed in among 384 pages of technical economic arguments are some general observations by Keynes about how capitalism functions in practice. These reveal Keynes to be an intelligent and perceptive observer and make him hard to discount entirely even by those unsympathetic to his leftist political views. Some of these observations have been widely quoted and are well known. However they are not the bulk of the book.

As for our recent economic problems it does not appear that Keynes would have been much help. On page 322 he suggests regarding boom/bust cycles:

Thus the remedy for the boom is not a higher rate of interest but a lower rate of interest!<1> For that may enable the so-called boom to last. The right remedy for the trade cycle is not to be found in abolishing booms and thus keeping us permanently in a semi-slump: but in abolishing slumps and thus keeping us permanently in a quasi-boom.

This was basically Greenspan's policy and it eventually blew up as low interest rates and easy credit enabled the housing bubble, the inevitable collapse of which triggered the crisis. Keynes doesn't discuss asset price bubbles (although he recognizes speculative excitement as a distorting factor in investment decisions) and thus seems unduly complacent about the risks of low interest rates he advocates. He does acknowledge in the footnote in the above paragraph that there are arguments against his remedy:

See below (p. 327) for some arguments which can be urged on the other side. For, if we are precluded from making large changes in our present methods, I should agree that to raise the rate of interest during a boom may be, in conceivable circumstances, the lesser evil.

It appears to me the other side has the better case.

While I am unconvinced by Keynes's policy recommendations I do think he had a point that the classical economic theory of the time was inadequate and I suspect it remains unsatisfactory when it comes to macroeconomics. While it seems clear as Keynes points out that capitalist systems are not highly unstable as else they could not function at all it also seems clear that they are not highly stable either as they seem prone to certain instabilities that sometimes grow to damaging levels. So economic models that don't allow for the possibility of such destructive instabilities aren't going to be a satisfactory guide to the actual economy.

In summary my take on this book is that while the big picture issues it considers are still relevant and Keynes often makes acute observations for the most part the book is too dated and technical to be worth close study by the lay reader. It might be worth skimming particularly if the reader already knows some economics.


  1. I hadn't heard of Pigou before yesterday or the day before, when I read an article in the WSJ on him. The article said basically that Pigou's views seem particularly relevant to today's economic situation, and that Obama, with his health policy, cap-and-trade-scheme, etc. is a "Pigovian" whether he knows it or not. It also mentioned Keynes's dismissive attitude towards Pigou, whom he appears to have eclipsed in British economics circles.

    A couple of trivia concerning Keynes: 1) I think he was a Senior Wrangler (1st place) in the Mathematical Tripos, 2) He authored a perceptive eulogy to "Newton, the Man" delivered at Newton's tricentennial celebration.

  2. Actually according to a biography of Keynes which I just read, Keynes was "Twelfth Wrangler" in 1905 which meant he placed 12th, a good result but not great. And I don't think Keynes's economic work was known for dazzling mathematics.