An “exclusive” interview with economist Dr Brian Easton.
Listener: 6 September, 2008.
Keywords: Macroeconomics & Money;
Listener Economic Columnist (LEC): I thought Keynesianism didn’t work?
Brian Easton: The theory is unfashionable among certain groups, but among professional economists, it has been the most important way economists have thought about the whole economy during the past 70 years.
LEC: Didn’t monetarism replace it?
BE: Monetarism provided a useful critique, and its best ideas were absorbed into Keynesian analysis. Monetarism is popular among business commentators, because it’s so simple, and with those in the financial sector, because it says they’re terribly important. It’s partly ideological.
LEC: So that’s the real difference – ideology?
BE: Not really, but each approach attracts ideologues. Those on the right go for monetarism; those on the left like Keynesian Theory, especially in its antimarket form.
LEC: Keynesians need not be antimarket?
BE: No. The original Keynesians were not, nor are the modern Keynesians (sometimes called “New Keynesians”). But they recognise that sometimes markets don’t work properly. And that sometimes (but not always) it makes sense to intervene to improve the way they work – “improve”, notice, not “overrule” – especially at the economywide level, where Keynesian analysis is most powerful.
LEC: You are a Keynesian aren’t you?
BE: Yes. John Maynard Keynes applied his theory to the whole world to explain a worldwide depression. I am an “Open Keynesian”, interested as to how an open economy – a small internationally trading one such as New Zealand – works. Keynes’ principles are the same, but their practical applications are different.
LEC: What is the difference?
BE: An open economy differs from a closed one because it can purchase from other economies. Thus, there is the possibility not only of unemployment or inflation but also of excessive overseas borrowing.
LEC: Borrowing? If you are Keynesian you must support budget deficits?
BE: Not necessarily. A government budget deficit will, to some degree, directly or indirectly increase the amount of overseas borrowing. If the currency is floating, a deficit pushes up the exchange rate, reduces exports and increases imports. It is possible for a bigger budget deficit to undermine economic growth and reduce employment in the long run. It certainly increases foreign debt.
LEC: I thought Keynesians supported borrowing for public infrastructure?
BE: Not if interest rates are high, as they are in New Zealand today. If they are higher than the growth of public revenue, then debt servicing rises faster than revenue and, eventually, creates a fiscal crisis. Infrastructure that does not directly generate additional revenue should be funded out of public savings.
LEC: But we have low debt by international standards.
BE: The public sector has. But households are heavily in debt. Their balance sheets have got worse in the past year, because housing prices have fallen. So have the balance sheets of some finance companies, which may have destroyed as much as $2 billion of household assets.
LEC: We are in an economic downturn. Shouldn’t we be spending our way out of it?
BE: It’s a slowdown. The best thing households can do is increase their savings, getting their liabilities down relative to their assets. The exchange rate will fall, expanding the export sector and creating new jobs.
LEC: By “we” I actually meant the Government.
BE: The Government needs to keep debt low to be able to respond to the weaknesses in the household sector if things get really bad. Using that capacity now would be like using your rainyday savings because the sun went behind a cloud.
LEC: Could it be a lot worse?
BE: I am afraid so. The monetarist ideologues have got the world financial system into a real mess, and it is seeping through to production and employment. Keynesian methods are trying to save us but, as one tells a teenager, it’s easier to get into messes than out of them.
LEC: Will you support deficit financing then?
<>BE: Yes, but there will be other things we will have to do, although at this stage we cannot be sure what. The important thing is to keep the wetweather gear in good shape for when the weather gets really wet.