What a great book about one of the great thinkers of the XX century! and I do not write this leniently.
Must confess that I was not aware of 80% of Keynes' life, achievements and philosophy, thus when I started it, I was far from thinking the above and what a journey it was going through this >550 pages.
What I learned and discovered throughout this book:
Keynes's degree was in mathematics by King's college, Cambridge (back then economics was not a field of study per se).
Bertrand Russel was his friend and mentor at Cambridge, King's College, as part of the Apostles.
He was a product of the "Gilded Age"/"La Belle Epoque" - economic prosperity that occurred in Europe since 1871 up to the 1st World War,
The book "The Great illusion" by Norman Angell claimed, back in 1910, that wars would be economically irrational due to the commercial benefits of trade between the countries, thus would not occur in the future (an early version of the "World is Flat" from Thomas Friedman → history does not repeat but it rhymes),
Keynes played a central role in containing the financial crises that was triggered by the start of WWI, where he got confronted 1st hand that the markets were not perfect (as proposed by Adam Smith), as the fluctuations of the market prices in times of distress were mainly due to judgements of flawed men attempting to navigate an uncertain movement.
Due to the previous experience, he understood that economics was not a hard science, but a social one, and the prices and interest rates in the market could not be a reliable guide to consumer preferences or corporate risk in the world, at best they were a good approximation.
Keynes was an active member of the Bloomsbury, a society of novelists, painters, philosophers, poets, amongst Leornard, Vanessa and Virgina Woolf.
The relevance of the financial American interests throughout the WWI generating huge fortunes and empires like the one of JP Morgan.
Keynes was a key member of the British delegation to negotiate the Versailles treaty (negotiated by Clemenceau, Lloyd George and Wilson) and he was aghast with the end result, where the short-term interests of short-sighted leaders, moved by national interests, led to terrible outcomes.
This conference made him become a lifelong enemy of austerity in order to come-out of an economic crisis. As a result, Keynes published the "The Economic Consequences of the Peace" that became a political theory landmark where he exposed the errors of #9 and also exposed the problems of autocracies, war and weak politicians.
Keynes was also highly impacted by Wittgenstein work, "Tractatus Logico-Philosophicus", where he tries to attempt to draw a limit to thinking -"...No one can speak meaningfully about anything without logic, but there is nothing meaningful that philosophers can say about how logic itself works...", especially as it made him re-think what he thought would be his "magnum-opus" the "Treatise of Probability".
With the book "A Tract on Monetary Reform" he presented the principles of monetarism-> doctrine where he claimed, "…that managing the overall supply of money was the best way for governments to achieve economic growth and stability…", stepping-away from the laissez-faire economic model. This was contrarian to the return to the Gold-Standard that Baldwin and Churchill implemented back in 1925, with catastrophic impacts.
Due to his lifetime experience he went from a laissez-faire economic model (extreme liberal mindset) to one where the state itself should play an important and decisive role in the economy (see "The end of laissez-faire", where he rejected socialism, and embraced a capitalism "wisely managed"), that was materialized in the work - The General Theory of employment and Interest and Money, where amongst other the multiplier concept was defined (firstly presented in his pamphlet "Can George Lloyd do it".
With the great recession he proposed that the objectives of the Central Bank should pursue were: a policy of price stability, adjusting interest rates to keep inflation or deflation from disrupting normal commerce to one of sustained investment and unemployment.
On a "Treatise on money" he stated that there was no such thing as free market devoid of government interference and that the idea of capitalism required the active state economic management. The critique made by Hayek to this book started the long last dichotomy in Economic thinking, the ideological dispute with Hayek on the role of the Government and its implication of the economy.
By October 1930, Keynes published an essay "Economic possibilities for our Grand-Children" where he foreseen a bright and exciting future ahead.
Keynes also started to incorporate the need to ensure the fair distribution (the inequality problem) of income not just on its total growth.
The relevance of Joan Robinson, with the book "The Economics of Imperfect Competition", in exposing the concept of imperfect competition where markets shown flaws associated with monopoly power, where perfect competition was not the norm but the exception.
The relevance of the book The General Theory of Employment, Interest and Money (need to re-read it) as one of the most important books released throughout the XX century with long-lasting implications in our daily lives - a must read.
The New Deal from FDR put into practice most of the concepts that Keynes had laid-out in The General Theory of employment and Interest and Money -"...in a slump, governments should borrow money and spend it on useful projects to kick-start a recovery. When the government spends this money, it goes into the pockets of its citizens, who in turn can spend it on other wants and needs, expanding the total size of the economy and ensuring a prosperous recovery rather than a downward spiral in which retrenched spending feeds unemployment and further reductions in spending...". With FDR policies the raise of several young economist highly impacted by Keynes was notorious, of which Kenneth Galbraith was one of the most preeminent.
Got to know the 4 freedoms proposed by FDR that were: a) Freedom of speech and expression, b) religious freedom, c) freedom of want, d) freedom from fear.
Keynes importance throughout WWII, securing the finance effort for England.
The relevance of the most important book from Hayek, "The road to serfdom", that was an opposite stance to Keynes theories, where Hayek claimed that Keynesian theory: "...Freedom in this sense is, of course, merely another name for power or wealth….What the promise really amounted to was that the great existing disparities in the range of choice of different people were to disappear….What was promised to us as the Road to Freedom was in fact the High Road to Servitude....".
Hayek made a clear distinction between "...regulation”—which was merely designed to solve obvious problems—and dangerous “planning”—which could only be achieved by a dictator orchestrating the lives and limiting the choices of free individuals...."
The participation of Keynes in Bretton Woods and how his vision of the future was not accepted by the American delegation as it would mean the loss of the world powerhouse status and he had to live with the final agreement as "the art of the possible".
The impact of "MacCarthyism" in Keynes policies in the American policy.
How Paul Samuelson book Economics: Introductory Analysis become a mathematical distillation of Keynes economic principles, but by making it too mathematical went against Keynes principles and ideas.
GDP was created by Simon Kuznets in 1930, and further developed by Leontief on the aftermath of the great recession.
John Hicks, based on Keynes general theory, presented his relationship of money, interest rates, investment and economic growth -"...the IS-LM model (short for investment-savings and liquidity preference–money supply), could be achieved through one of two methods: lowering interest rates through monetary policy or running a fiscal deficit....". However, Keynes was always critical of any economic model that claimed to offer reliable information about the future, including Hicks,
The relevance of "The affluent society" on the economic thinking -> "...The Affluent Society was a biting critique that showed the clear influence of Robinson, along with Galbraith’s increasing confidence in his own new ideas. The book was Keynesian to its core, but, unlike nearly every other Keynesian text of its generation, the book took “Economic Possibilities for Our Grandchildren,” not The General Theory, as its chief inspiration. The General Theory had succeeded in vanquishing unemployment and inflation, but Galbraith believed it had failed in propagating a good life or a just society....".
The emergence of Milton Friedman a Hayek follower that also saw economics as a pure science and strongly defended that: "...The only legitimate role for government was to establish the institutions necessary for free-market capitalism: a military to defend against foreign aggression, a police force to protect against theft, and a central bank to ensure an adequate monetary system to facilitate exchange. ..."
It is a comprehensive book that explains Keynes theories in depth, but also the opposing ones, and how most of his concepts were not fully implemented and followed by his successors.
Must confess I do not agree with the extension of Keynes proposals in terms of the size of government, but also cannot agree with a Laissez-Faire economic model proposed by the Neo-Liberals.
After reading this book I'm better equipped to think about all these topics!
One of the big byproducts of reading this book was the several books I added to my wish-list or library as I become curious to read them when they were mentioned and briefly explained, most of them by Keynes but also by other authors.
The books I added where the following:
The economic consequences of the Peace - Keynes -> added to the library.
A treatise on probability - Keynes -> added to the library.
The affluent society - Galbraith -> added to the library.
The road to serfdom - Hayek - > added to the wish-list.
Economic Possibilities for our grandchildren -Keynes -> added to the wish-list.
The economics of imperfect competition - Robinson -> added to the wish-list.
A treatise on money - Keynes -> added to the wish-list.
Tractatus Logico-Philosophicus - Wittgenstein -> added to the library.
A Tract on Monetary Reform - Keynes-> added to the library.
The end of laissez-faire - Keynes -> added to the library.
Prices and Production - Hayek -> added to the library.
Happy readings.
Highlighted quotes:
“Keynes’s intellect was the sharpest and clearest that I have ever known,” Russell wrote.
And it had ended with London’s financial power fully intact. As nation after nation announced that it would suspend international gold payments, Great Britain was the only major country to maintain its foreign gold commitments in full.40
The experience left a deep impression on Keynes. Financial markets, he had discovered, were very different from the clean, ordered entities economists presented in textbooks. The fluctuations of market prices did not express the accumulated wisdom of rational actors pursuing their own self-interest but the judgments of flawed men attempting to navigate an uncertain future. Market stability depended not so much on supply and demand finding an equilibrium as it did on political power maintaining order, legitimacy, and confidence.
But after reading Principia Ethica, Keynes rejected the idea that efficiency could be the central organizing principle of a good society. No simple equation could approximate the best way to live.
“Free trade and free thought! Down with pontiffs and tariffs. Down with those who declare we are dumped and damned. Away with all schemes of redemption or retaliation!”
Keynes argued, inflation functioned as “a concealed tax.”
This was an important theoretical point in Keynes’ intellectual development. Money wasn’t just a passive force that people used to keep track of the value of goods and services; it was an active power in its own right. A problem in the monetary system could create unexpected trouble in the realm of what Keynes called “real resources”—the equipment, commercial products, and savings of a community
Roughly half of all goods the British Empire obtained from the United States during the war were obtained by J.P. Morgan and transferred to the British for a finder’s fee of 1 percent.
The arrangement won Morgan political influence on both sides of the Atlantic, transforming his bank into an unofficial organ of U.S. diplomacy with bipartisan clout.
“The subject of reparations caused more trouble, contention, hard feeling, and delay at the Peace Conference than any other point of the Treaty of Versailles,”
The food crisis was a microcosm of the peace conference writ large. The Germans didn’t have food. The Americans had food they didn’t want. While dressing up their diplomacy in the language of freedom, progress, and selflessness, the Americans were engaging in subtle financial ruthlessness.
Neither the British nor the French were treating the reparations question as a legal or economic matter bound by the constraints of logic or reason. The negotiations had become a purely political charade.
But the chief argument Keynes advanced in the proposal wasn’t about profits and losses; it was a political point about human psychology. The war debts of Allies and enemies alike were so massive that they would be stirring up social turmoil for years to come. Governments would have to curb services to their citizens in order to meet foreign interest payments. Taxes would need to be raised in order to ship money overseas. The notion that this was a fair return for America’s help in the war might resonate with financiers and government officials, but it would make little sense to citizens. A
state, operating according to their own principles. The rhythms of trade, their logic and mechanisms, had to be defined and supported by political authority. His battle over reparations and inter-ally debt had made him a lifelong enemy of austerity—the doctrine that governments can best heal troubled economies by slashing government spending and paying down debt. When a government was burdened with too much debt, Keynes had come to believe, it was generally better to swear off the debt than to pay it off by burdening the public with a lower standard of living.
Economic Consequences, still stands today as both a landmark of political theory and one of the most emotionally compelling works of economic literature ever written. Like all of Keynes’ best work, it is not fundamentally a work of economics at all, but a treatment of the great political problem of the twentieth century—a furious tirade against autocracy, war, and weak politicians.
It was foolish to pretend that communities could be rebuilt while shouldering the massive war debts and reparation payments demanded under the treaty, and still more foolish to believe that citizens of the world would accept such a fate without a fight.
Prosperity could not be secured by wise investments and hard work alone; only political leadership could provide the certainty and predictability that progress required.
The warnings Keynes issued in the pages of The Economic Consequences of the Peace would reverberate through European history as militant demagogues rose across Europe, exploiting inequality, austerity budgeting, inflation, and uncertainty to take power by preaching vengeance and hate. Benito Mussolini would march on Rome in three years’ time.
“No single individual,” remarked Adam Tooze, a leading economic historian of twentieth-century Europe, “did more to undermine the political legitimacy of the Versailles peace than Keynes with his devastating book.”
The United States never ratified the Treaty of Versailles, and its refusal to do so doomed the League of Nations. But the Senate’s rejection of the treaty had much more to do with American sentiment and partisan intransigence than it did with Keynes’ polemic or even Wilson’s stubborn refusal to make legislative concessions. Against that opposition, the ailing Wilson and his League stood no chance.
Even logic is part of the internal architecture of language itself. No one can speak meaningfully about anything without logic, but there is nothing meaningful that philosophers can say about how logic itself works; that is ultimately mystical.
Keynes positioned himself firmly in G. E. Moore’s rationalist tradition. True probabilities, he argued, are not mere hunches or matters of opinion—they are objective realities, which can be assessed before events take their course. In Keynes’ thinking, an event could be objectively probable in 1920, even if, looking back from 1922, it never actually came to pass. And it is the objective probability—not the subsequent course of events—that matters for human reason. There is a difference between being rational and being right.
Its preoccupation with uncertainty, its distrust of mathematics as a reliable guide to human reasoning, and its skepticism about the wisdom of difficult, long-term endeavors would all become hallmarks of Keynesian economics.
The whole point of fixing a specific gold value to a currency, after all, was to prevent governments from manipulating patterns of trade by meddling with currency values.
That doctrine—that managing the overall supply of money was the best way for governments to achieve economic growth and stability—became known as monetarism.
Ethics—by which Keynes meant the elements that made up a good life—were a more important consideration for public policy than economics, the field that had made Keynes famous.
In The End of Laissez-Faire—as Keynes titled the final version of his “Prolegomena”—he attempted to sketch a critique of the conventional philosophical wisdom and chart a path forward.
But his critique differed markedly from the standard Marxist analysis. Marx saw capitalism as an inevitable historical phase building toward an equally inevitable final crisis. Keynes understood laissez-faire capitalism as a historical accident, which had wrongly left the most important elements of social management without a manager. It was time for capitalism not to be overthrown but to be “wisely managed.”
Contrary to the conventional wisdom, then, it was not the departure from gold that was causing Great Britain’s economic malaise, it was the country’s enthusiasm to return to gold at the exchange rates that had prevailed before the war.
Baldwin and Churchill had jeopardized “the future peace and prosperity of this country” to defend “old-fashioned orthodoxies,” Keynes wrote.
every pound the government spent on roads would generate much more than one pound of economic activity. This was the first Keynesian expression of a concept known as “the multiplier”—the idea that government spending can reverberate through the economy, creating indirect growth well in excess of an initial investment. Based on Keynes’ estimates, the total direct and indirect employment from the roadbuilding program alone would result in 850,000 new jobs over the first year.69
It was a wholesale rejection of laissez-faire individualism as an engine of social progress.
Over the course of a decade, the project Keynes began in The Economic Consequences of the Peace to wipe out war debts had flowered into an ambitious reimagining of the state itself, replete with a vast array of new administrative machinery and government responsibilities.
Together with The End of Laissez-Faire and A Short View of Russia, it forms the core of a unique, practical political theory that the United States would put to work on a vast scale in just a few years. Even Bloomsbury loved it.
The Treatise, then, was an all-out assault on the intellectual foundations of laissez-faire. There was no such thing as a free market devoid of government interference. The very idea of capitalism required active state economic management—the regulation of money and debt.
This was a more radical step than Keynes had taken in A Tract on Monetary Reform. In that book, he had called for a central bank to deliberately pursue a policy of price stability, adjusting interest rates to keep inflation or deflation from disrupting the normal course of commerce. Now he was arguing that a central bank should deliberately cause inflation or deflation to treat other, more important economic troubles. The goal was no longer price stability but sustained investment and unemployment.
Central bankers should be responsible for much more than maintaining a steady balance of international trade; they must regulate not only the price level but total employment.
Keynes, in short, overlooked the need to regulate economic distribution—either through the structures of markets themselves or through activist tax policy. Living up to “Economic Possibilities for Our Grandchildren” would have required hefty taxes on the wealthy, a mechanism to guarantee that workers shared proportionally in corporate gains, and a political process that prevented powerful entities from hijacking the spoils.
And the most politically shocking turn in his thought after the Wall Street crash wasn’t his theory of money or his case for public works or even his vision of unlimited prosperity a few decades around the corner; it was his call for a tariff.
Under the Dawes Plan, U.S. banks loaned money to Germany, which paid it to France and England in reparations, which in turn paid the United States and U.S. banks interest on war debts.
“The Germans, broken in body and spirit, seek escape in a return backwards to the modes and manners of the Middle Ages, if not of Odin,” he told readers of the Daily Mail.
This remains the popular understanding of Keynesian economics to this day: in a slump, governments should borrow money and spend it on useful projects to kick-start a recovery. When the government spends this money, it goes into the pockets of its citizens, who in turn can spend it on other wants and needs, expanding the total size of the economy and ensuring a prosperous recovery rather than a downward spiral in which retrenched spending feeds unemployment and further reductions in spending.
Robinson demolished that paradigm. She developed a new concept of “imperfect competition” in which markets could regularly exhibit the flaws associated with monopoly power even when large firms controlled much less of the market than a formal monopoly position, where a single firm quite literally dictated the terms for an entire market. The competitive landscape wasn’t an on/off switch between competition and monopoly; it was a spectrum in which perfect competition—the condition assumed by economists—was a “special case” that almost never existed in real-world commercial activity.
book The Economics of Imperfect Competition was immediately recognized in academia as a major work.
Prosperity is not hard-wired into human beings; it must be orchestrated and sustained by political leadership
Prior to The General Theory, economics was almost exclusively concerned with scarcity and efficiency. The very word for the productive output of society—economy—was a metaphor for making do with less. The root cause of human suffering was understood to be a shortage of resources to meet human needs. Social reformers might protest the extravagances of the rich, but poverty and squalor were driven not by inequality but by the hard fact that there weren’t enough resources to go around. Only by creating more goods more efficiently could the material ills of society be cured—or, more likely, tempered—over the long haul.
Almost nothing in the book is empirical. There are no case studies or statistical regressions. It is instead an attempt to explain why the classical system could not account for the facts facing the world in 1936. It is a conceptual reordering accompanied by an alternative account of human motivation in post-scarcity society that only occasionally gestures at its own practical implications for policy makers.
For Keynes, the soft underbelly of the classical theory was Say’s Law, which he summarized as the maxim that “supply creates its own demand.” Postulated by Jean-Baptiste Say, a French contemporary of Adam Smith, it linked together three problems Keynes saw in the classical story: the outdated focus on scarcity, the notion that markets self-correct, and the idea that involuntary unemployment is impossible.
But Keynes recognized that money was not only a mechanism for transmitting information about the relative values of different goods; it was also a store of value, which enabled people to make and express judgments about their own material security through time.
People didn’t actually bet on the value of different enterprises; they bet on the judgments of other speculators.
“Professional investment may be likened to those newspaper competitions in which the competitors have to pick out the six prettiest faces from a hundred photographs, the prize being awarded to the competitor whose choice most nearly corresponds to the average preferences of the competitors as a whole; so that each competitor has to pick, not those faces which he himself finds prettiest, but those which he thinks likeliest to catch the fancy of the other competitors, all of whom are looking at the problem from the same point of view. It is not a case of choosing those which, to the best of one’s judgment, are really the prettiest, nor even those which average opinion genuinely thinks the prettiest.”
The success of the New Deal, moreover, reinforced Keynes’ prestige around the world, proving to the world that Keynesian ideas could actually work—without resorting to the totalitarian methods spreading through Europe.
Freedom in this sense is, of course, merely another name for power or wealth….What the promise really amounted to was that the great existing disparities in the range of choice of different people were to disappear….What was promised to us as the Road to Freedom was in fact the High Road to Servitude.
He drew a distinction between “regulation”—which was merely designed to solve obvious problems—and dangerous “planning”—which could only be achieved by a dictator orchestrating the lives and limiting the choices of free individuals.
In The End of Laissez-Faire, Keynes had argued that liberalism could not stand on abstract principles alone; it had to actually deliver the goods for the people who lived under it. Laissez-faire had led to vast inequality and grinding depression, failing a basic test for democratic legitimacy. By shrugging off the practical shortcomings of laissez-faire, Keynes argued, Hayek had deluded himself about the causes of dictatorship in Germany.
For Keynes, economics was the critical realm that had to unite the drive for stability with the drive for social justice. And so he believed that most of his disagreement with Hayek was about practical questions surrounding scarcity—whether there were enough resources to go around and whether states could effectively manage their distribution.
But for Hayek scarcity was as much a moral question as it was a question of results. Scarcity created “the sphere where material circumstances force a choice upon us” and was essential to his vision of a good life.
As with The End of Laissez-Faire, Keynes was attempting to harmonize the left-wing and right-wing philosophical traditions that had defined the opposite poles of Western thought since the French Revolution: making Burke’s traditionalism fit with Rousseau’s radical democracy. As Keynes had told readers of The New Statesman and Nation in 1939, “The question is whether we are prepared to move out of the nineteenth-century laissez-faire state into an era of liberal socialism, by which I mean a system where we can act as an organised community for common purposes and to promote social and economic justice, whilst respecting and protecting the individual—his freedom of choice, his faith, his mind and its expression, his enterprise and his property.”
The trick to making any trade regime sustainable, he believed, was to make countries running surpluses—the major international creditors—participate in the adjustment back to trade balance. The world needed an international authority that could punish countries for running a persistent trade deficit or a persistent trade surplus. That would mean, in essence, forcing rich countries to pay to correct their imbalances with poor countries. Keynes would achieve this through his International Clearing Union. As in the Treatise, the central bank of every participating nation would open an account with the ICU. International trade payments would be made through those accounts, using a new international currency called Bancor that the ICU would be empowered to create at will. When a country ran a persistent deficit or a persistent surplus, the ICU would require it to revalue its currency to bring the system back toward balance. Countries running deficits would have to depreciate their currency by up to 5 percent, while countries running surpluses would have to raise the value of their currencies by up to 5 percent. The ICU would even seize particularly large surplus balances at the end of each year.
White, the head of the U.S. delegation and the chairman of the conference, had rejected the Keynes plan before anyone had even arrived. Instead, all the nations that joined the Bretton Woods project would agree to make their currencies convertible into dollars at a fixed exchange rate. The dollar, alone among these currencies, would be convertible into gold. Instead of a central international bank to regulate trade deficits and surpluses, an International Monetary Fund would be established to provide emergency loans in a crisis. In addition, a World Bank would be established to assist with postwar reconstruction. Keynes had imagined an international regulatory apparatus to prevent predatory trade arrangements and financial crises. What he got was the gold standard with a bailout fund.
He developed both a deep reverence for the ideas of his predecessors and an arrogant, fearless zeal to critique their greatest contributions. This relentless philosophical inquiry led Keynes to venerate scientists not for their quantitative mathematical prowess but for their creativity.
True to his Bloomsbury creed, he elevated great science to the highest plane of human achievement: art.
This enthusiasm for ideas over numbers was not a devaluation of empiricism. For an economist, in particular, intuition had to be grounded in lived experience. Keynes faulted mathematics for enabling economists to become so entangled in their own abstractions that they lost track of the real world.
During the Depression, FDR’s Department of Commerce had commissioned Simon Kuznets to create a new measurement of “national income,” which Wassily Leontief developed further during the war. Today, it’s called “gross domestic product” and is the standard measure of the overall output of an economy.
Samuelson led a generation of titans to intellectual battle not only with the faltering classical gods but with other interpreters of Keynes and his vision. John Hicks developed the first and most influential distillation of The General Theory into a mathematical model. Alvin Hansen transmitted Hicks’ work from Harvard to Washington, training future bureaucrats and cabinet officials in graduate courses, as Samuelson built an entire department around it at MIT, incubating future Nobel laureates Robert Solow, Lawrence Klein, and Franco Modigliani, who developed their own innovations, transforming the moniker “Keynesian” into a word meaning, for a time, “American economics.” Without those luminaries, The General Theory would today be an intellectual curiosity, the brilliant and confusing work of an influential Englishman that had briefly animated the Roosevelt administration.
That, according to what became known as the IS-LM model (short for investment-savings and liquidity preference–money supply), could be achieved through one of two methods: lowering interest rates through monetary policy or running a fiscal deficit.
The Affluent Society was a biting critique that showed the clear influence of Robinson, along with Galbraith’s increasing confidence in his own new ideas. The book was Keynesian to its core, but, unlike nearly every other Keynesian text of its generation, the book took “Economic Possibilities for Our Grandchildren,” not The General Theory, as its chief inspiration. The General Theory had succeeded in vanquishing unemployment and inflation, but Galbraith believed it had failed in propagating a good life or a just society.
Galbraith was in effect resurrecting Keynes’ 1924 pamphlet The End of Laissez-Faire, which had declared, “The important thing for government is not to do things which individuals are doing already, and to do them a little better or a little worse; but to do those things which at present are not done at all.”
A. W. Phillips. Scouring nearly a century’s worth of British data, Phillips uncovered a startling correlation between inflation and unemployment. A trade-off seemed to exist between the two: Where unemployment was lower, inflation was higher; where inflation was lower, unemployment was higher. Though Phillips refrained from making strong claims about the trend, Samuelson and Solow weren’t so bashful when, inspired by Phillips, they discovered a similar relationship in a quarter century of U.S. data.
But like Samuelson, Friedman saw economics as something very close to a pure science that could drive social progress through empirical observation and statistical analysis. Where people appeared to have ideological disputes, economics could adjudicate by revealing the real-world consequences of different policies.
The only legitimate role for government was to establish the institutions necessary for free-market capitalism: a military to defend against foreign aggression, a police force to protect against theft, and a central bank to ensure an adequate monetary system to facilitate exchange.
Capitalism and Freedom, the historian Daniel Stedman Jones has noted, was a late entry in a “Cold War of ideas.” It “consistently identifies New Deal liberalism with socialism and even communism,” a “guilt-by-association” tactic emblematic of the very “McCarthyism” that Friedman “tepidly” rebuked within the book’s pages.23 For Friedman, the differences between New Deal liberalism and Soviet totalitarianism were superficial. Like Mises, he believed that no philosophical middle ground could exist between them, and he readily identified the income tax, Social Security, and public education as “socialist” policies.
America. Friedman presented a grand theory to replace it. The prime mover of economic activity, he argued, was the money supply. When it expanded, people spent more, received bigger paychecks, and paid higher prices. But crucially, rising prices created the expectation of higher prices—and that could lead to a vicious inflationary cycle.
underperformance, instability, and unemployment. He had designed a theory and a policy agenda in which financial markets were subjugated to the authority of the state, believing the coordinated action of a government was capable of meeting the investment needs of society which financial markets could only secure through fleeting accidents.
Financial markets, Keynes had emphasized, seemed rational only during periods of stability. The risk metrics that LTCM deployed were extrapolations from past experience. As soon as a new or unexpected factor emerged—a war, a natural disaster, an unexpected election outcome, an unusually bad harvest—all of the firm’s advanced calculations lost their meaning.
Like Winston Churchill in the 1920s, Clinton had been led into disaster by an expert consensus that had attempted to substitute the clamor of the real world for a set of harmonious abstractions.
In the long run, we are all dead. But in the long run, almost anything is possible.
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