This chapter focuses primarily on the dominant (or traditional) paradigm of Keynesian economics, which is also called “liberal” neoclassical economics, and which is widely taught in economics departments in the United States and beyond. There are also Left and/or Post-Keynesian economists, whose discussion is beyond the purview of this study.
Contrary to neoliberal economists who view major financial instabilities as abnormal or exceptional occurrences, Keynesians view them as integral parts of relatively advanced market economies. Whereas neoliberals perceive financial instability as a manifestation of the “irrational” behavior of the market players, Keynesians see such financial volatilities as indicators of rational agents’ inventiveness to take advantage of moneymaking opportunities to maximize their profits, or optimize their bets. There is nothing unusual, irrational, or abnormal to the dynamics of this market-driven behavior—and its logical outcome: financial instability.
Accordingly, Keynesian economists argue that instead of blaming market players’ “irrational” behavior for financial instability, as neoliberals do, such behavior must be monitored, disciplined or guided through “appropriate” public policy. Financial instability is, therefore, to be blamed more on insufficient or inappropriate public policy than on the market or economic agents’ behavior. Properly managed or regulated, wild financial gyrations can be tempered into no more than small or controllable fluctuations (Shaikh 1978).
Predictably, Keynesian economists and policy makers view the unbridled market deregulation of the past several decades as the main culprit behind both the financial inflation that started in 20002 and its ultimate implosion in 2007-08. Reinstitution of the regulatory safeguards that were put in place in response to the (1929-33) Great Depression is, therefore, seen as a major step in the direction of tempering the “financialization” trend of the economy and the ongoing financial turbulence. While re-regulation, especially reinstatement of the 1933 Glass-Steagall Act of limiting the destabilizing tendencies of commercial banks, may curtail the speculative behavior of major Wall Street players, it would not automatically lead to economic revival. To bring this about, Keynesian economists advocate the use of the public sector as the lender of the last resort to rekindle the dormant economy. So, utilization of government authority to carry out the twin strategies of regulation and demand management/stimulation is a policy package that is promoted or supported by almost all Keynesian economists and policy makers.
While blaming deregulation and the resulting crafty financial “innovations” as factors that contributed to the market crash is not false, it masks the fact that such factors are inherent to the essential dynamics or strategies of the accumulation of finance capital. In a real sense, blaming deregulation and/or financialization as primary factors behind the market collapse begs the question. The more fundamental questions are: Why deregulation in the first place? What changed or undermined the regulatory safeguards that were established in response to the Great Depression?
Keynesian and other liberal economists’ responses to these questions are woefully deficient. They tend to blame the abandonment of the Keynesian, New Deal, or Social-Democratic economics largely on neoliberal ideology, on Ronald Reagan’s supply-side economics, or on economists at the University of Chicago. Indeed, they tend to characterize the 2008 financial collapse and the ensuing Great Recession as a crisis of “bad” policies of “neoliberal capitalism,” not of capitalism per se (Kotz 2009).
I would argue in this chapter that the transition from Keynesian to neoliberal economics stemmed from much deeper roots or dynamics than pure ideology; that the transition started long before Reagan arrived in the White House; that neoliberal austerity policies are class, not “bad,” policies; and that the Keynesian reliance on the willingness and ability of the government to re-regulate and revive the economy through demand management is based on their wishful thinking or illusion that perceives state as a disinterested entity that can manage and/or control capitalism. I would further argue that the Keynesian stimulus prescription that relies largely on strong demand, or high employment and high wages, is one-sided; because growth under capitalism is not just a function of strong demand but also of low costs, which often means low employment and low wages. In other words, economic growth under capitalism can be just as wage/demand driven (as was the case in the immediate post-WW II period), as cost/supply driven, as was the case in the 1980s and 1990s.