Fallacious Keynesianism: Alive Or Dead?

An anecdote that dramatically illustrates the fallacy of fake Keynesianism is sometimes attributed to the great economist Milton Friedman.  Quote investigator has its doubts about whether Friedman is the original source of the anecdote, so I'll use the letters MF to designate the protagonist.  The anecdote goes like this:  MF was visiting China during the Maoist era, and was taken by his hosts to observe the construction site of a huge new dam.  There MF saw thousands of workers toiling away using picks and shovels to move the massive amounts of earth needed for the project.  MF asked, "Instead of having thousands of workers toiling with picks and shovels, why not use modern tools like bulldozers and other mechanized equipment?"  His hosts answered, "This is a jobs project.  We want to employ as many people as possible."  MF responded, "Then why not give them spoons instead of shovels?"

Keep this anecdote in mind if you find yourself somehow going along with the idea that the answer to some slack in the economy is more government spending, no matter how wasteful.   Anybody who observes the world economy can see that the governments that watch every nickel of spending carefully have the most successful economies (Singapore, Switzerland), that those that engage in wildly uncontrolled blowout spending are the least successful (Venezuela, Greece), that uncareful spenders that let wasteful government spending grow too much languish (Europe) while somewhat more careful spenders are able to maintain growth, if somewhat impaired (United States).  And these correlations can be clearly observed despite the unsupportable convention of counting government spending at 100 cents on the dollar in GDP even when it is intentionally wasted. 

In an op-ed in the Wall Street Journal last week headlined "An Autopsy for the Keynesians," John Cochrane of the University of Chicago is ready to declare the most recent post-financial-crisis burst of Keynesianism dead. 

This year the tide changed in the economy. Growth seems finally to be returning. The tide also changed in economic ideas. The brief resurgence of traditional Keynesian ideas is washing away from the world of economic policy.

Cochrane gets to the point of ridicule in listing some of the fallacies you have to believe if you buy into the fundamental Keynesian proposition that more government spending "stimulates" an economy:

Hurricanes are good, rising oil prices are good, and ATMs are bad, we were advised: Destroying capital, lower productivity and costly oil will raise inflation and occasion government spending, which will stimulate output. . . .  In Keynesian models, government spending stimulates even if totally wasted. Pay people to dig ditches and fill them up again. By Keynesian logic, fraud is good; thieves have notoriously high marginal propensities to consume.

And thus Cochrane concludes that Keynesianism has thoroughly disproved itself and isn't coming back.  Well, one can hope.  But look around and the evidence is that this is an idea that needs to be killed at least a thousand times.  Take for example the cover story in Business Week on October 30, "John Maynard Keynes Is The Economist The World Needs Now," by Peter Coy.

Is there a doctor in the house? The global economy is failing to thrive, and its caretakers are fumbling. . . .  There is a doctor in the house, and his prescriptions are more relevant than ever. True, he’s been dead since 1946. But even in the past tense, the British economist, investor, and civil servant John Maynard Keynes has more to teach us about how to save the global economy than an army of modern Ph.D.s equipped with models of dynamic stochastic general equilibrium.

Coy goes on to advocate for blowout government spending as the cure to current slow economic growth, although he does grudgingly concede that government spending that goes to real projects is at least preferable to pure waste.  Well, Peter, how about hiring workers to build a dam with spoons?

And how about the case of Japan?  If there is any example that conclusively disproves the Keynesian hypothesis that fiscal "stimulus" spending can get an economy moving, it has to be Japan.  Since its economy went into stagnation in approximately 1990, Japan has had one Keynesian "stimulus" program after another, the result being the 25 years of stagnation plus bonded debt exceeding 200% of GDP.  But the stagnation continues, so over the weekend Prime Minister Abe announced the latest government program to get the economy moving again.  Yes, it is another round of so-called "stimulus":

Japanese Prime Minister Shinzo Abe on Saturday approved a $29.17 billion stimulus package meant to boost consumer spending and regional economic activity, seeking to revive an economy in recession. The spending package focuses on small businesses, rural communities and post-disaster reconstruction.

Well, Mr. Abe, if you believe the Keynesian hypothesis that the "stimulus" of more government spending gets an economy going, instead of the $29 billion why not make it $1 trillion, or for that matter $10 trillion?