On February 4, 1936, Maynard Keynes published The General Theory of Employment, Interest and Money (GT). I'm off by a few days. ROKE did notice it, but I had no time to post. I recently presented on the social policies discussed in the last chapter of the book at the ASSA Meetings in Philly (photo below; paper soon, hopefully).
Ninety years later, the book remains perhaps the single most important book in twentieth-century economics. The work that most decisively changed the direction of the discipline. And yet, much of what people think about the book is wrong.
The first thing to understand is that the GT is not a book about economic policy. Keynes says so explicitly at the outset. It is a theoretical work, written for fellow economists. It is not a blueprint for government spending programs. It is not a political manifesto. It is not a defense of deficit finance in simple terms. It is a theoretical reconstruction of how a monetary economy actually works.
The popular image of Keynes as the prophet of fiscal stimulus obscures this. Ironically, the book itself says very little about fiscal policy. There are some vague remarks about what Keynes calls the “socialization of investment,” but there is no systematic discussion of fiscal policy, for how to pursue expansionary fiscal policy or the construction of the welfare state, which is also often associated with Keynes. The policies we associate with Keynesianism, deficit spending, expansionary fiscal policy, tolerance for deficits and debt, at least in times of crisis, are not the core contribution of the book.
Another important historical irony, the GT arrived relatively late, both politically for the New Deal, but also in Keynes' own trajectory as a policy wonk. By 1936, Franklin Delano Roosevelt and the New Deal had already reshaped American politics. The Wagner Act had strengthened unions. The CIO was organizing industrial labor. Sit-down strikes in Detroit had forced General Motors to negotiate with the United Auto Workers. Figures like Frances Perkins, the first woman to hold a cabinet position, were central to labor reforms. Obviously Marriner Eccles (see my paper on him here), and his advisor Lauchlin (not Laughlin) Currie (and on him here) had not yet won the battle for fiscal activism, but they were entrenched in the New Deal environment. The shift toward a more interventionist state was already underway.
In that sense, Keynes’ theoretical revolution did not initiate policy change. It provided a new framework for understanding an economic world that was already politically transforming. So what was truly new in the GT, you may ask? After all, many still claim that the Treatise on Money, his previous work, with endogenous money, and more institutional discussion was a better book (Schumpeter, for example; Friedman preferred his Tract on Monetary Reform, more aligned with the Quantity Theory of Money). The revolutionary core of the GT is the principle of effective demand.
Neoclassical economics rested on Say’s Law (and so did classical economics, properly defined, but in a different way; without full utilization of labor), the idea that supply creates its own demand. Production generates income, and income automatically generates sufficient demand to purchase output. Persistent unemployment, therefore, could only be temporary. Keynes turned that logic upside down in the GT. Demand generates income. Output and employment are determined by the level of effective demand. There is no automatic mechanism guaranteeing full employment.
This idea was not fully developed until 1932, during intense discussions in Cambridge among the group known as “the Circus,” which included: Joan and Austin Robinson, Richard Kahn, James Meade and Piero Sraffa. Their critiques of Keynes’ earlier Treatise helped push him toward the insight that defines the book. That theoretical shift, not fiscal activism, is the true intellectual rupture.
Another misconception is to assume that Keynes needed the GT to defend fiscal activism. Theory and policy would be tied up together. In fact, he had already been advocating public works and expansionary measures since the mid-1920s, especially after Britain’s return to the gold standard created severe deflationary pressures. The 1926 General Strike and the electoral victories of the Labour Party in 1924 and 1929 occurred in this context of economic stagnation (see my paper on this here). Keynes’ policy activism predated his theoretical breakthrough. In other words, the policy ideas were not new. The theory that justified them, and explained why unemployment could persist, was.
It is also worth dispelling another myth. Keynes was not a socialist bent on expanding the state at all costs. He remained, throughout his life, a liberal in the classical sense, though one deeply critical of laissez-faire orthodoxy. His goal was to save capitalism from its own instability, not to replace it.
The “socialization of investment” he envisioned was pragmatic, not revolutionary. It reflected a recognition that private investment decisions were volatile and insufficient to guarantee full employment, not a desire to abolish markets or even for economic planning.
Ninety years on, The General Theory still matters, but his views have been in retreat since the 1930s, and only succeeded, during the so-called Golden Age of Capitalism, because they could be incorporated within the mainstream of the profession. The irony is that the book most associated with fiscal stimulus is fundamentally about something deeper: a reconstruction of macroeconomic theory. That task is still ahead.
