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I was wondering if someone more knowledgable than myself can explain if the Keynesian theory (popularly though of as 'spend your way out of trouble') takes into account the twin modern issues of the ratings agencies and instant flow of information?
This is because (as I see it) if a country that is teetering on the brink of debt default announces it is going to borrow and invest more in its economy, then the ratings agencies will just hammer them. In the process of doing this, all the proposed benefits from the fiscal stimuli will be squandered on servicing debt at a higher interest rate.
How can we 'square the circle' here - is 'austerity' the only way? Should we be acting in collaboration with other countries to write off each others debts, or simply unite and present the agencies with a stark choice of 'if you downgrade them, you'll have to downgrade us all - and then what's the point?'
I do have my own feelings and opinions on this - but I'm not trying to 'draw anyone out' for an argument - is this really all going to end with currencies being valued on what countries can actually sell to other countries, rather than what they say they are going to do in the future?
Good question and i think the answer is that a govt needs to make the decision to reflate the economy early enough and not at the last minute.
It also varies for different countries. So the markets will keep the faith with a much lager, relative, deficit in US that is still world's main reserve currency in a way that the markets would not tolerate such profligacy from a smaller economy such as UK or Portugal.
Spending on investment (such as R&D or infrastructure) is obviously much better than spending on er general spending such as welfare or even the health service that does not create a direct return.
Guess where we have gone wrong?
the Keynesian theory (popularly though of as 'spend your way out of trouble')
I believe that Keynesian economics goes a little beyond 'spend your way out of trouble' and also has something to say concerning economic policies outside a period of recession. Apparently it has opinions concerning the undesirability of economies to overheat and create booms/bubbles, suggesting measures such as tax hikes to dampen demand and create budgetary surpluses. But of course these days no one worries about booms - apparently they are a really good thing which should result in tax cuts (taxation is such a terrible evil dontcha know) and lots more votes for someone.......of course. Besides, everyone knows that the markets always know best.
Also we should definately listen to the credit agencies, as they played no part at all in getting us into this mess, and have been consistently proved correct in their ratings.
is 'austerity' the only way?
To prolong a recession, turning a dip into a flat-line, yes.
As is clear from the chart above, which shows how the major recessions have evolved, we are in the slowest recovery for a century, with no end in sight. There is no recovery, period. In output terms the Great Depression had restored all its lost output in 48 months whereas under the Coalition not even half has been restored over the same time period. In both the 1930s and the current recession, output dropped by approximately 7 per cent but we still have more than 4 per cent to be recovered. The European Commission this week forecast that output would grow only 0.5 per cent in 2012 and 1.7 per cent in 2013, so that would mean after 70 months output would still be below the 2008 starting level.
The Great Recession has now transmogrified into an L-shape and shows no sign of being over any time soon. It hasn't helped that in every Inflation Report forecast since August 2008, the MPC has continued to insist that recovery will be V-shaped.
edit: sorry I can't paste the graph directly, it's viewable in the link.
very interesting point to make about the ratings' but the rationale for a rating takes into account a lot of variables so the overall +ve or -ve trend of spend for a country isn't much of an indicator in the grand scheme of things.
Ultimately the rating agency is asking 'are you good for it' and this depends on the structure (length) of the debt and the growth trend over many decades so the countercyclical spend (including paying it off in the good years, which we do) that Keynes advocates can be accounted for in the ratings without skewing it too much
you are right in pointing out that we shouldn't be so reliant on rating agencies tho 🙂
regarding your point on reserve currencies, Keynes was one of the chief architects of the IMF and the world bank at the bretton-woods conference; his idea to create a global reserve currency not tied to any nation was undermined by the Americans which is why the dollar is so prevalent across global economics - as it was the biggest currency at the time, the IMF effectively locks this permanently and the original aims of keynes at these conferences are being re-examined....
Hi ernie.
I know there is more to Keynesian thought than 'spend your way out of trouble', but that's about all I know!
suggesting measures such as tax hikes to dampen demand and create budgetary surpluses
So, one of the cornerstones of the theory is to not be in the shite in the first place, by being prudent in good times 🙂
This does seem sensible to me - but as you rightly point out, any politician who says, "for the long-term good, you cannot have all your cake and eat it now" will simply not be elected!
I guess it's just the short-term vs long-term thing again, and people wanting what they can't have. You can have stability with prudence, but prudence doesn't buy you a new telly now(!)
So, one of the cornerstones of the theory is to not be in the shite in the first place
Exactly. Properly applied, the Keynesian model should stop recessions occurring in the first place - so there shouldn't be any need for drastic panic measures......you tweak the economy as you go along. Although as we now live in the era in which 'the market always knows best' this is no longer fashionable.
I do get a little miffed with the attitude that supports the neoliberal model during the good/boom times but the Keynesian model during recessions/when the shit hits the fan (New Labour appear to be particularly keen on that attitude) it simply doesn't work like that.
It's a bit like socialism for the bankers but the free-market for everyone else. Or privatise the profits but socialise the losses.
Some people want their cake and eat it. And those people are of course the same people who have a far larger share of cake than everyone else.
Danny - you might want to read this as its written by an expert on Keynes, Robert Skiddelsky and deals with how JMK would have dealt with Greece:
http://www.ft.com/cms/s/0/55d094cc-9e74-11e1-a24e-00144feabdc0.html#axzz1uyH0Nfwd
You might also want to read what Ed Balls said about Keynes to the Fabian Society:
http://labourlist.org/2012/01/ed-balls-speech-to-the-fabian-society/
Compare what Balls says here and what often comes out elsewhere. Also note how "true" Keynesianism is described here rather than the usual BS that is spouted. To do that you will have to get past Ed Ball's reference to the infamous, post neo-classical endogenous growth theory - but it is worth it in the end. Better the truth that rhetoric!
Last year's downgrade of the US did not put their cost of borrowing up. The rating agencies ratings will only be one input into how a creditor will view the ability of a country to repay its debts.