Keynesian Economics = Slow Death

I caught this on Zero Hedge’s Blog, with many kudos to Bloomberg for putting it together.



Even with all the bumps and bruises in this recession, America’s economy has had a smooth ride for a long time. Kudos for that goes to the country’s use of counter-cyclical policies. For decades, the U.S. used deficit spending and low interest rates to soften recessions. (During boom times, it did the reverse.) This long-standing approach is now at risk due to the unprecedented amount of leverage built up over the last decade – especially in the public sector.

But it is a different picture in the public sector.

The net result is that the economy as a whole is more leveraged than ever as public sector borrowing more than offsets private sector deleveraging.

Far from being an accident of policy, the increase in government debt is consistent with its decades-long counter-cyclical approach of dampening the extremes of the business cycle, actively bolstering the economy when it’s weak and reducing support when it’s strong. (The government’s policy closely follows the advice of economist John Maynard Keynes.)

Keynesianists will argue that boosting public lending is critical in avoiding sharp moves in the broader economy. Sure enough, Bloomberg’s empirical analysis seems to corroborate this point:

Yet, as noted above, this interventionist approach comes at a price. And currently the price is that 90% of GDP (or almost 150% if one adds GSE liabilities) is encumbered by interest paying debt. As long as the interest is manageable, this works. When interest spirals out of control, as it eventually will, the whole house of card tumbles.

Bloomberg’s politically correct conclusion:

If the reality is that we simply can’t afford more debt and have to pull back from counter-cyclical policies, history suggests that we should expect a rise in economic volatility. The stability of the last few decades may not come again for some time.

The less palatable conclusion is that Keynesianism is on its death bed. And with an entire generation (not to mention an upcoming one) schooled in the precepts of a failed ideology, just who will be able to right the wrongs accumulated over more than 50 years of blind deficit spending? If saying the “stability will not return for some time” is a euphemism for the great unknown that will follow a tide of developed world defaults, so be it.

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