For all the supposed faults of Keynesian economics, the so-called cure of neoliberalism is proving far worse than the counter-cyclical spending disease so despised by conservatives.
From the early years of the Industrial Revolution, a cycle of “boom and bust” was identified as a distinctive feature of capitalism after the first global slump in 1860.
It was these crises, expected to be repeated every seven to 11 years, which led Karl Marx and Frederick Engels to predict that they would bring about the destruction of the system that engendered them.
From 1890, these cycles were of longer duration. Then, in the aftermath of World War I, of shorter length. The slump of 1920 was followed by a tepid recovery in 1924 before the Great Crash of 1929.
In the US where the crash originated, recovery was elusive. So much so that in the considered view of the economist who chronicled it, John Kenneth Galbraith, “The Great Depression did not, in fact, end. It was swept away by the Second World War.”
In the quarter of a century after the post-WWII social settlement in 1945, which rested on Keynesianism, cyclical crises all but disappeared. But as neoliberalism came to dominate the global economy, a cycle of crises returned.
There were major recessions in the mid-1970s, early '80s, late '80s and early '90s. The US stock market crash of 1987 was followed by a “savings and loans” crisis that continued until the early 1990s.
Away from the rich world, across Africa, western Asia and Latin America, the '80s were an economic catastrophe properly described as a great depression. Japan’s economy has been stagnant since the '90s. Towards the end of that decade, there was an Asian financial crisis.
The new millennium arrived with the dot.com crash. Recovery from this slump was aided by a cut in US interest rates from 6% in January 2001 to 1% in mid-2003.
This fuelled a housing bubble. Thanks to the proliferation and opaque packaging of exotic financial products, this led directly to the Global Financial Crisis (GFC) after the collapse of investment bank Lehman Brothers in 2008.
Until 2008, the use of the word “depression” as a descriptor of economic crisis was a taboo for governments and mainstream economists alike. Such was the fear of the social unrest that came with the Great Depression in the 1930s.
The GFC has been treated in a similar way, said to be over some years ago despite continuing economic stagnation.
Yet as John Maynard Keynes pointed out in his 1936 General Theory of Employment, Interest and Money, capitalism does not find its equilibrium at full employment. Instead, “it seems capable of remaining in a chronic condition of sub-normal activity for a considerable period without any marked tendency either towards recovery or complete collapse. Moreover, the evidence indicates that full, or even approximately full employment, is of rare and short-lived occurrence.”
So-called economic recovery
The so-called economic recovery in the US has been a jobless one. The panicked stock market sell-off in recent weeks also shows that any rise in US interest rates, said by policy makers to be imminent, will lead to more of the same.
In Britain, the economic recovery touted by the Conservative government is a decidedly odd one. Per capita income is 3.4% lower than it was as the start of the GFC and real wages are down by 10%.
This is on track to meet the forecast of the British Institute for Fiscal Studies made at the end of 2011 that the average British household will have no more disposable income in 2016 than in 2002.
The Chinese economy seems to be in the midst of a property bubble that can only end in a burst, while the “Abenomics” of Japan’s Prime Minister Shinzo Abe has so far failed to shake the economy out its torpor.
With more than 500 million consumers, the world’s most important market is the European Union, so any recovery has to start there. But the signs are less than encouraging thanks to German Chancellor Angela Merkel's obsession with balanced budgets.
This commitment to “sound finance” comes from one of the principal architects of neoliberalism, Friedrich Hayek.
Hayek witnessed first-hand the hyperinflation of '20s Austria and Germany. Then, 300 paper mills and 2000 printing works operated 24 hours a day flooding the country with paper currency whose value declined before the ink used in its manufacture had time to dry.
The simple lesson that Hayek took from it was never again which, translated into fiscal policy, meant no budget deficits ever.
Merkel was the chief architect of the EU Fiscal Pact of 2012, which limits budget deficits to a target of 0.5% of GDP and sets 60% of GDP as the overall limit on debt. Only three of the 17 countries using the euro Estonia, Luxembourg and Finland had budget deficits lower than 0.5% in the financial year before the pact.
These three countries, together with Slovakia and Slovenia, were the only euro countries with debt below 60% of GDP.
At Germany’s insistence, these measures have meant drastic cuts to living standards across Europe.
Yet with the Eurozone either stagnant or slipping in and out of official recession two successive quarters of negative growth since 2008, the German economy was always going to suffer a knock-on effect.
In the second quarter of this year, the German economy contracted by 0.2%. Moreover, the German government’s insistence on balanced budgets will almost certainly hamper its future prospects.
Only in the basket-case economy of Italy is education spending lower than Germany among western European countries. Last year, Germany’s infrastructure spending was the fourth lowest in the EU ahead of only of Austria, Portugal and Spain.
The Hayekian nightmare that Merkel and German conservatives fear is one of their own making and fails to take history into account.
As Keynes pointed out in the Economic Consequences of the Peace, it was the punitive measures of the 1919 Versailles Treaty that condemned Germany to penury as the country, in his words, “engaged herself to hand over to the Allies the whole of her surplus production in perpetuity”.
The European Union was founded on the expectation that the “golden years” of social democracy, underpinned by Keynesian economics that led to unemployment levels falling to 1.5% in western Europe in the 1960s, would continue to be the norm.
As Perry Anderson pointed out in The New Old World, the initial institutional upshot was “a customs union with a quasi-executive of supranational cast, without any machinery to enforce its decisions; a quasi-legislature of inter-governmental ministerial sessions shielded from any national oversight, operating as a kind of upper chamber; a quasi-supreme court that acts as it were the guardian of a constitution which does not exist; and a pseudo-legislative lower chamber in the form of a largely impotent parliament that is nevertheless the only elective body, theoretically accountable to the peoples of Europe”.
Return to liberalism
The monetary union that came from the Treaty of Maastricht in 1993 put an end to national macro-economic policy as the European Central Bank reached back to the past of pre-Keynesian classic liberalism with its single obligation of price stability.
The prophet of this vision was Hayek, who set out its logic in a 1939 essay, “The Economic Conditions of Interstate Federalism”. He later had a change of heart, however, and thought that the control of money would be better delegated to private banks issuing rival currencies in the market place rather than a supranational public authority.
What the anti-EU parties such as the UK Independence Party fail to realise is that the EU does not stand for the super-state that they fear it is built to minimise state intervention and intended to be an institution that sits above national electorates and therefore immune from them.
This contempt for parliamentary liberal democracy has allowed Germany to pursue punitive fiscal prescriptions that will ultimately do as much harm to itself as to the rest of Europe.
The other systemic problem that the EU is yet to resolve is the beleaguered banking sector. In April 2009, the International Monetary Fund estimated that there were more toxic assets held by European banks than by US banks.
The financial stress tests conducted by the European Central Bank and the European Banking Authority, released on October 26, resulted in 24 European banks one in five failing. This leaves a 25 billion euro capital shortfall in an already shaky system.
The herculean challenge that faces the left in euro countries is to build an economic alternative to the failed neoliberal orthodoxy. Here there are two things worth bearing in mind.
The first is that, like advanced capitalist economies the world over, the EU resorted to the Keynesian counter-cyclical measures of injecting public capital into their markets in 2009 at a quicker pace than occurred in the Great Depression of 1929. Why is Keynesianism now reserved for bailing out private capital instead of stimulating aggregate demand?
The second is that, on the rare occasions when electorates in Europe have been given a vote on the direction of EU policies, they have invariably said “no” to the prevailing orthodoxy.
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