The global financial crisis, which started in 2007, has incited a large variety of ‘Keynesian reflections’ on macroeconomic theories and policies. Most of these range under the labels of Old and New Keynesianism, the orthodoxies of the 1960s and the early 2000s. New Keynesians try now to include financial frictions of various kinds into the standard DSGE framework, to fill the latter’s much-criticized lacunae in regard to financial crises and ‘unorthodox’ monetary policies. Old Keynesians, on the other hand, demand a return to fiscal stabilization policies in updated versions of IS-LM-style analysis.
The essays collected in the volume on hand are written in a different Keynesian spirit, strongly critical of thinking in the boxes of DSGE and IS-LM. The editors and (most of) the other authors reject the standard explanations of crises and underemployment that take recourse to rigidities of prices, wages, and interest rates. Referring to John Maynard Keynes’s writings, they take the view that price flexibility, particularly in labor and financial markets at times of recession, has the potential to destabilize rather than stabilize the economy. They also stress that optimizing individual behavior under the constraints of ‘the dark forces of time and ignorance’ produces economy-wide crises and suboptimal states with some frequency. Properly microfounded macroeconomics would thus have to deal with network effects and coordination failures of price mechanisms in ways quite different from those of Old and New Keynesianism.
It is obvious that all the essays (but one) have a post-Keynesian background, and the second-most cited author after Keynes throughout the book is Hyman Minsky. If one were to stick a label on the bulk of Keynesian reflections in this set, ‘financial Keynesianism’ would be most appropriate. Even though the book is the product of three conferences, it looks more coherent than many conference volumes do. The common agenda is the search for hitherto insufficiently explored ideas in Keynes’s collected writings that are fruitful with regard to analyzing present financial crises and international economic disorder. The editors suggest this in the introduction and, in chapter 1, Cristina Marcuzzo stakes out the agenda in greater detail. Deviating from the book’s order of chapters, the outcome of that joint search can be roughly regrouped in six themes.
The critical mechanism. In chapter 5, Colin Rogers points out that Keynes’s General Theory is simply a generalization of classical theory. It generalizes Knut Wicksell’s mechanism of two interest rates beyond the restrictive assumptions under which the intertemporal price mechanism returns the economy to an optimal general equilibrium. In a world of incomplete stochastic knowledge, the (implicit) rate of return on the most liquid asset rules the roost, and this gave Keynes the handle to explain the emergence of underemployment equilibria from an upward bias of the money rate of interest and a downward bias of the marginal efficiency of capital. Taking the protracted stagnation of the Japanese economy after 1989 as a case in point, Rogers discusses its differing explanations by Paul Krugman, Ronald McKinnon, and Richard Koo, and embeds them all in Keynes’s framework.
Liquidity preference in the financial sector. Fernando Cardim de Carvalho (chapter 8) links up with a discussion of liquidity preference, not as a theory of money demand, but as a theory of asset pricing. He extends it to the portfolio choices of banks, to explain massive financial crises such as the one that followed the bankruptcy of Lehman Brothers in 2008.
Fiscal policy. Roger Backhouse and Bradley Bateman (chapter 2) set the focus on the strategic importance of investment in Keynes’s view of the economy. Using unpublished correspondence of Keynes’s and other material, they provide textual evidence for an advocacy of fiscal policy far more nuanced and up-to-date than current stereotypes would have it. Keynes stressed the need to stabilize private investors’ expectations (the marginal efficiency of capital) through countercyclical public investment in infrastructure. He pleaded for concentrating public works on projects that generate net revenue for the state in the long run rather than creating deficits. National investment boards should prepare for recessions by continuous planning of ‘shovel-ready’ projects (a suggestion nowadays followed even by the German government, so often accused for its ‘Austerian’ policy stance). In a more Kaleckian spirit, Julio López-Gallardo (chapter 3) runs an econometric model of the six largest OECD economies (excluding Italy) for the period 1980 to 2008. He finds that higher government expenditure stimulates demand and output, even when financed with higher taxes. He also finds that higher shares of wages and expansionary monetary policy increase demand and output in the short and long run.
Monetary policy. Jan Kregel, on the other hand, draws attention to Keynes’s doubts about the efficacy of expansionary monetary policy in times of crisis (chapter 7). He evaluates recent ‘unorthodox’ policies of zero interest rates and quantitative easing by taking recourse to similar proposals made by Keynes in his Treatise on Money (1930), and by describing how Keynes became increasingly skeptical about such policies in the following years.
International economic order. Several chapters discuss current problems of international policy coordination in the light of proposals for stabilizing and reconstructing the world economy that Keynes made between 1919 and 1946. Toshiaki Hirai (chapter 6) argues that basic traits of the evolution of the European Union and the present eurozone debt crisis were anticipated in Keynes’s plan for relief and reconstruction in Europe after 1945 and by his critiques of war reparations and the gold standard after the First World War. Luca Fantacci (chapter 9) relates the ongoing global financial crisis to global imbalances in the current accounts. Describing Keynes’s plans (of 1942 to 1944) for an International Clearing Union as the proposal of a market-based overdraft system (similar to the Target II mechanism in the European Monetary Union), Fantacci interprets Keynes’s Bancor plan as a blueprint for solving the stability problems connected with current macro imbalances in Europe (without, however, discussing Target II). Looking back on different fixed exchange-rate regimes from the gold standard to the euro, Peter Spahn (chapter 10) disagrees with Fantacci. He considers current ideas of establishing a world monetary order in line with Keynes’s Bancor plan as unrealistic, and argues that the global financial crisis was not caused by macro imbalances, but mainly by a malfunctioning of the US financial markets. Yet, Spahn also points out that fixed exchange-rate regimes have time and again collapsed because of divergent cost and price dynamics that trigger destabilizing expectations and capital flows. Such divergences have often been at the roots of current account imbalances. Anna Carabelli and Mario Cedrini (chapter 14) interpret the international economic order that has prevailed since the collapse of the Bretton Woods regime as a ‘non-system.’ They criticize the ‘Washington consensus’ and its augmented versions for curbing the national policy space of debtor countries, and refer to Keynes’s memoranda after world wars I and II for more symmetric strategies of reducing macroeconomic imbalances.
Structural change in financial markets. Several chapters set their focus on the causes and effects of securitization, transnationalization, and other trends that have contributed to the current instability of financial markets. Taking an exemplary look at the development of food prices in India, Sunanda Sen (chapter 11) demonstrates the relevance of Keynes’s work on uncertainty and speculation for understanding the financialization of commodity markets. Randall Wray (chapter 12) sticks closely to Minsky in describing the rise of ‘money manager capitalism,’ based on the rapid growth of pension funds, insurance funds, hedge funds, and on the increasing financialization of household debt. Probably the greatest novelty content of the book is found in chapter 13, written by Perry Mehrling. It is the only one in which Keynes is not cited, but it accords well with Minsky-style ‘financial Keynesianism.’ Mehrling argues that financial globalization is driven by a fundamental shift from a bank-loan-based credit system to a transnational market-based credit system, in which a complex structure of ‘shadow banking’ taps global funds for local finance. He uses instructive examples of balance-sheet linkages (between securitization trusts, investment banks, insurance companies, pension funds, hedge funds, and other intermediaries) to illustrate that shadow banking must be understood as a system of funding and risk transfer, and not (primarily) as the regulation-dodging activities of any particular entity. The increased cross-border connectivity and lower transparency of the funding processes have produced systemic risks that became manifest in the global financial crisis. Mehrling concludes that the US Federal Reserve now has to face the task of an international lender of last resort as well as that of a ‘dealer-of-last resort.’
Finally, there is an ‘odd’ paper, hardly compatible with the rest of the book. In chapter 4, Asahi Noguchi criticizes the critics of New Keynesianism, notably Paul Krugman and Willem Buiter (but implicitly many authors of the present volume, too), for “shooting fellow soldiers from behind” (p. 89). He describes the development from old-school IS-LM Keynesianism to DSGE-based New Keynesianism as straightforward scientific progress, praising the introduction of nominal rigidities, rational expectations, and dynamic optimization as making the Keynesian core of macroeconomics “more reliable.” Noguchi’s essay is quite beside the point that Keynes was trying to make about adverse effects of price flexibility and individually rational behavior under the ‘dark forces of time and ignorance.’ It demonstrates, probably without intention, the great need for Keynesian reflections of the type contained in the rest of the book.
