Summary: an economist explains the current state of the science of economics, and then Bruce Bartlett repeats to us the most-famous modern economist’s advice about a similar situation.
Excerpt from a post by Prof Brad DeLong (Economics, Berekeley) at his blog Grasping Reality with Both Hands. It is so perfect that it needs no elaboration:
The problem is that economic theory is not rocket science. It is not like theoretical physics — conducting a relatively few crucial experiments to decide on basic theories and then working out the consequences of those theories from first principles. Economic theory is, instead, crystalized history. We take a bunch of historical episodes that seem relevant to the problems of interest of today. We boil down what seem to be their salient features. And then from the resulting soup and bones we construct simple stylized models that we think help us understand present and future episodes that fall into the same class.
The problem is that right now we have a financial crisis big enough and strange enough that there is only one past historical episode in the same class: the early stages of the Great Depression. And when there is only one, the value of skill at deriving theoretical lessons from the class is at a steep discount and the value of knowing the history is at a premium: better to take the history raw.
What would Keynes advise us to do?
His post discusses an article I recommend reading: “What Would Keynes Do?“, Bruce Bartlett, Forbes, 5 December 2008 — “The government should spend on stuff, not on bad assets.” Excerpt:
Every day that goes by makes clearer the parallels between the current financial crisis and the one that led to the Great Depression. Then, as now, the core problem was one of deflation, or falling prices. But fixing it will require more than just low interest rates. This was the key insight of British economist John Maynard Keynes, whose theories finally explained how to end the Great Depression. They may be the key to solving today’s crisis as well.
The Great Depression was so deep and prolonged for many reasons. Herbert Hoover stupidly signed the Smoot-Hawley Tariff, which crippled international trade and finance, and imposed one of the largest tax increases in American history in 1932, which was exactly the wrong medicine at the wrong time. Franklin D. Roosevelt at least understood that deflation was at the root of the problem, but he thought artificially raising the price of gold and preventing businesses from cutting prices and wages by law was the solution. In fact, it prevented the economy from adjusting, which made the situation worse.