Thursday, February 16, 2012

Amity Shlaes is a Keynesian after all!

Amity Shlaes has argued that the New Deal made things worse in the United States, prolonging the Great Depression in her popular book The Forgotten Men (for a devastating critique go here or here). Now she tells us that it was not so. True to her conservative convictions she argues that nation building abroad is a good thing. The explanation of why nation building is actually a good thing is where she gets confused and argues on the basis of Keynesian logic.

She says that countries that were occupied by American troops grew faster, and even uses the multiplier effect to show the consequences of troop withdrawals. She is aware that this is a bit dangerous, and suggests that "the usual explanation for the growth would be the multiplier effect. ... but multiplier effects don’t last, just as stimuli don’t last at home." Hence, even though the multiplier works, it does not work forever.

So her point is that if the multiplier has only limited effects then it is not a Keynesian argument! The notion that the multiplier effect is based on public choice (Mancur Olson) and not on her bête noire John Maynard Keynes –  whose ideas she describes as "sheer fallacies" (2008, p. 272) –  is farfetched.

The multiplier, developed by Keynes student and disciple Richard Kahn, says exactly that spending generates income, and leads to higher levels of output and employment. And of course it does not imply that the effects are unlimited, but only that they are positive (she used to argue that they were negative reducing growth, as in the New Deal).

Even if you say, like she does, that the multiplier only works in the short run or more precisely for a limited period of time, and then you need confidence or trust to maintain growth, it is still the initial spending that kick started the growth process. And yes she even gets that confidence is the result of the initial spending, and not vice versa. At the end of the day, she basically thinks Military Keynesianism works abroad. Perhaps the United States should invade the United States, and start nation building at home.

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