Leaders all over the world are now in an Undeniable Shift to Keynes even though every such attempt in history has failed. Please consider the madness:



The sudden resurgence of Keynesian policy is a stunning reversal of the orthodoxy of the past several decades, which held that efforts to use fiscal policy to manage the economy and mitigate downturns were doomed to failure. Now only Germany remains publicly sceptical that fiscal stimulus will work.



Gordon Brown, UK prime minister, told reporters in late December that if monetary policy was impaired - in large part because of problems within the financial system - "then governments have to use fiscal policy, and that has been seen in every country of the world".



Launching France's fiscal stimulus, President Nicolas Sarkozy said: "Our answer to this crisis is investment because it is the best way to support growth and save the jobs of today - and the only way to prepare for the jobs of tomorrow."



Germany has voiced the strongest principled objections to large-scale fiscal stimulus packages. Peer Steinbrück, the finance minister, has complained about the "crass Keynesianism" pursued by Mr Brown, accusing him of "tossing around billions" and saddling a generation with having to pay off British debt.



Jürgen Stark, an executive board member of the European Central Bank, who was previously vice-president of the Bundesbank, warned of a "substantial risk" of a repeat of the 1970s. "I really cannot see why discretionary fiscal policies, which have proven to be ineffective in the past, should work this time," he said.



Jean Claude Trichet, ECB president, has taken a cautious stance, arguing in a Financial Times interview for countries to allow their deficits to rise in line with the so-called automatic stabilisers - such as higher unemployment benefits and reduced tax revenues during a recession - but warning that the prospect of future tax rises could reduce consumer confidence. "One might lose more by loss of confidence than one might gain by additional spending," he said.



In the US, Lawrence Summers, the former Treasury Secretary now lined up to head Mr Obama's National Economic Council, said the fiscal stimulus will address the need to increase investment in energy, education, health and infrastructure as well as the need to stimulate the economy.



The essential idea of John Maynard Keynes's The General Theory of Employment, Interest and Money is that modern economies can suffer from a persistent lack of demand, consigning millions to what he argued is unnecessary unemployment and misery.

Keynes Discredited

The crisis policy devised by John Maynard (Lord) Keynes, which seemed to work well during World War II and in postwar reconstruction, met its nadir in 1975. Contrary to Keynesian theory, formalized in the Phillips Curve argument that inflation and mass unemployment are mutual trade offs, double digit inflation and record unemployment made further deficit spending an impossible policy.

The Japanese Experiment

Exhibit 5. Balance Sheet Problems Forced Japanese Businesses to Pay Down Debt even with Zero Interest Rates







Balance Sheets and Paying Down Debt



There is every reason to believe US banks will face the same experience of paying down debts in a Zero Interest Rate world as opposed to going on a lending spree.



Some will challenge this notion because of Obama's pledge to create jobs and rebuild infrastructure.



The counter is that Japan went on a wild spending spree as well, building bridges to nowhere and it did not do Japan any good. Here is an article by James Shaft quoting Richard Koo in A long, shaky bridge to recovery that discusses this very issue.

Japan PM announces record budget

”Japan cannot avoid the tsunami of the world recession, but it can try to find a way out,” Mr Aso told a news conference, in which he illustrated the government’s stimulus plans with a diagram of a three-stage rocket.



”The world economy is in a once-in-a-hundred-years recession. We need extraordinary measures to deal with an extraordinary situation,” he said.

Japan's Extraordinary Measures Have Blown Up Already.

Japan's public debt that exceeds 180 percent of the GDP, limiting the government’s ability to stimulate growth

Did The Keynesian Economists Give Up Their Theories Confronted With Japan?

Swift US action may avert Japan-style "lost decade"

Concerns that the U.S. economy may suffer a repeat of Japan's "lost decade" have risen but Washington's swift response to pump trillions of dollars into the financial system may yet avert that kind of long slump.



Unlike Japan, analysts point out, the U.S. central bank has been much quicker to react to the cratering housing market which roiled the economy and the banking system. The Fed's latest moves to directly buy $500 billion of mortgage-related securities are a key effort to lower home loan rates and address a root cause of the economy's woes.



The Federal Reserve has dramatically doubled its balance sheet to more than $2 trillion as it tries to shore up faltering credit markets. Where it once largely held U.S. government debt, it has exposed itself to an array of tottering banks, insurers, quasi-governmental mortgage agencies and short-term securities markets.



That figure is expected to rise to near $4 trillion soon, analysts say.

Learning from Japan's 'Lost Decade'

Japanese banks were the biggest victims of the country's real estate bust. They were in danger of insolvency, yet Japan's central bank was slow to intervene. Eventually, in 1995, the Bank of Japan began to cut interest rates, and today they are near zero percent. But by then the economic damage already had been done.



Among the Bank of Japan's critics was a prominent Princeton University economist, who blamed "exceptionally poor monetary policymaking" for the country's protracted malaise. The central bank's failure to lower interest rates in the early 1990s ultimately drove the economy into a deflationary death spiral, according to the Princeton academic.



That economist was Ben Bernanke, now chairman of the U.S. Federal Reserve. Bernanke has clearly taken the lessons of Japan to heart. The Fed has twice cut short-term interest rates sharply, lowering its benchmark rate to 3 percent, and suggesting that it is prepared to lower rates yet again. In addition, the Bush administration hopes the government's economic stimulus package — including tax rebates for families and tax breaks for businesses — will help boost the faltering economy.



Advantages for the U.S.



That quick action on the part of the Federal Reserve is one reason why many economists believe the U.S. is better positioned than Japan to weather a real estate crisis.

Japanese Lessons



Don't Try to Spend Your Way Out of a Crisis. Japan ramped up spending on public works projects. It didn't ease the financial crunch, and left the Japanese countryside riddled with concrete.



Save, Save, Save. Japan's economic fall was cushioned by the fact that Japanese consumers have one of the highest savings rates in the world. That allowed them to maintain virtually the same rates of consumption throughout the 1990s. American consumers have no such savings to draw upon.



Be Transparent. In Japan, it took years before the government stepped in and forced banks to come clean about bad loans. That prolonged the crisis, since nobody knew where the bottom was. In the U.S., where the financial system is generally more transparent, banks have already swallowed large write-offs for losses on subprime mortgage deals.

US Makes Same Policy Mistakes As Japan

Promoting consumer spending

Stopping transparency and mark to market accounting



Initiating massive public works projects



Treasury bailed out failed banks, auto companies, insurance companies, etc. Promises more of the same.



Milton Friedman and Anna Schwartz in their classic book, A Monetary History of the United States , blamed the Federal Reserve for allowing the money supply to fall in the early 1930s (the Fed focused instead on maintaining bank reserves). Irving Fisher in his classic Debt Deflation also stressed that the money supply must not be allowed to fall. Money being destroyed by a collapse in bank lending to the private sector must be made good by bank lending to the public sector. In other words, given the current circumstances, the government should sell fewer government bonds than are needed to cover its borrowing requirement. It should under-fund.



If bank’' claims on the private sector fall, the initial effect on the other side of the balance sheet is a matching decline in their deposit liabilities (ie, the quantity of money). In these circumstances there is a risk of a debt-deflationary spiral. If so, the right policy response is for the government itself to borrow from the banks. It can do so either by direct borrowing or by the ensuring that banks buy substantial quantities of Treasury bills and gilts.

It's curious how massive borrowing is both the problem and the cure.

Eight More Believers of the Free Lunch Theory

Philip Booth, Cass Business School

Tim Congdon, Lombard Street Research

Charles Goodhart, Financial Markets Group, London School of Economics

John Greenwood, Chief Economist, Invesco Perpetual Group

Michael J. Oliver, Lombard Street Research and ESC Rennes School of Business

Gordon Pepper, Lombard Street Research

David B. Smith, University of Derby

Simon Ward,Chief Economist, New Star Asset Management



Ideas On Propping Up The Stock Market

For much of the post-war period, the US Federal Reserve has been relatively successful at combating recessions by lowering the interest rate to stimulate aggregate demand. The policy was unavailable in the 1930s because the interest rate on treasury securities was already near zero, just as it is today. It is this fact that makes the current crisis more like the Great Depression than any other of the post-war recessions.



So where do we go from here? The only actor large enough to restore confidence in the US market is the US government. The current policy of quantitative easing by the Fed is a move in the right direction but it does not, as yet, go nearly far enough.



It is time for a greatly increased role for monetary policy through direct intervention of central banks in world stock markets to prevent bubbles and crashes. Central banks control interest rates by buying and selling securities on the open market.



A logical extension of this idea is to pick an indexed basket of securities: one candidate in the US might be the S&P 500, and to control its price by buying and selling blocks of shares on the open market.



Even the credible announcement that a policy of this kind was being considered should be enough to boost the markets and restore consumer and investor confidence in the real economy.



Critics will argue that this policy is dangerous socialist meddling. But I am not arguing that the government should pick winners and losers: only that it should stabilise a broad basket of stocks.

Ambrose Evans-Pritchard In On The Act

US inflation was minus 1.7pc in November, and minus 1pc in October. This entirely vindicates the brave decision by Ben Bernanke at the US Federal Reserve -- and our own Mervyn King at the Bank of England -- to “look through” the oil spike earlier this year and keep his focus on the underlying forces at work in the global economy.



Mr Bernanke has not run out of ammunition yet. He has a nuclear arsenal, and has begun to use it. The Fed is already buying mortgage debt. It has infinite means of injecting stimulus into the economy by 'quantitative easing', if needs be. It can ultimately print money and hang it on Christmas trees.



Mr. Bernanke correctly judged the risk of deflation. His critics did not anticipate this price collapse. The burden in now on them to explain why they are sure that deflation can safely be left to run its malign course.

Bernanke Correctly Judged Nothing

Obama's Bridge To Nowhere

John Maynard Keynes died in 1946, but to hear President elect Obama speak you would think he was going to be heading the treasury department. What does Obama propose to do when he takes office in January? Well other than raise taxes, and increase spending he believes in public works. That’s right, that’s his big plan. The same plan that didn’t help us during the Great Depression, or didn’t help the Japanese during their recession in the 1990’s, and they basically paved over everything they could.



When governments decide to follow the Keynesian philosophy they have to get the money for it, and there is only one place where that money can come from. The taxpayers will be paying the bill for all these new, and mostly useless, projects. This means government becomes bigger and has more control over the economy, it becomes more powerful, and governments don’t like to give up power or cut the fat out. Government is already too big, the expansion that Obama wants is practically Orwellian.



Aside from the government getting bigger and more intrusive there is the simple fact that Keynesian economics don’t work. When the stock market crashed in 1929 President Hoover, and later President Roosevelt decided that public works were the way to go. We built the Hoover Dam, put thousands of men to work on construction projects. Yet none of that prevented an even bigger stock market crash in 1936, and unemployment was never lower than 14%, that’s hardly an economic success story.



In the 1990’s the Japanese economy, suffering from a downturn fueled by deflation, the Japanese government desperate to keep unemployment low and to stimulate economic activity went on a building binge. They built bridges to nowhere that would have made Ted Stevens ashamed. All the building didn’t get the Japanese economy moving up until deflation ended, consumers started spending, and business became more productive.



Obama’s economic plan won’t accomplish any real economic growth. The only engine for economic growth is the free market. The Keynesian belief won’t add anything to the economy, but it will add to the debt, the tax burden, and increase the federal leviathan. If Obama goes through with his economic plans we can expect the economy to go from shaky to catastrophic. John Maynard Keynes is dead, it’s time his wrong headed economic philosophy join him.

How Discredited "Something For Nothing" Ideas Become Policy