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What would Keynes do?

JM Keynes was convinced that if democracies failed to tackle mass unemployment, people would turn to dictatorships. We must urgently remember his warning. 

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In the long-run, Covid-19 may well change the way we work and live. It may – and should – lead us towards a greener, less consumption-driven economy. The question for now is what to do about the economic devastation it will bring in its wake. Around 730,000 UK jobs were lost between March and July, the biggest quarterly decline since 2009, and unemployment is forecast by the Office for Budget Responsibility to reach its highest level since 1984 (11.9 per cent). 

The coming downturn is as inevitable as the rain announced by blackening clouds. In this respect it is quite unlike the banking collapse of 2008, or even Covid-19 itself, both of which were unforeseen. Remember the Queen’s question in 2008 to a group of economists at the London School of Economics: “Why did no one see it coming?” The approaching unemployment crisis is an expected event, not an unexpected “shock”. Because it is fully anticipated, governments should be in a good position to offset its effects, if not fully, at least in large part, provided they know what to do. But the theoretical vacuum lying at the heart of current policymaking discourages any undue optimism that they might.

Admittedly, this will be a most unusual depression. As the New York Times columnist Paul Krugman has noted: “What’s happening now is that we’ve cut down both supply and demand for part of the economy because we think high-contact activities spread the coronavirus.” Businesses have been paid not to do business; their employees paid not to work. As a result, the UK’s GDP contracted by a cumulative 22.1 per cent in the first half of this year compared with the end of 2019 (the largest fall of any G7 country). It does not yet feel like a depression because millions of people’s incomes are being artificially maintained through the Job Retention Scheme. 

But the furlough scheme, as it has become known, is being wound down and will formally end on 31 October. The optimistic expectation is that as businesses reopen and workers return to work, the economy will naturally and speedily revert to its former size. This is called a “V-shaped” recovery. But in many cases there won’t be jobs to go back to, because firms will have folded or continue to be restricted in the amount of business they are allowed to do. Added to this, Britain is mainly a service economy, and one has to consider the effect on spending of compulsory social distancing, plus voluntary resistance to physical contact. In the absence of further measures to support incomes, total demand will soon start falling to the level of the reduced supply, with savage consequences for employment.

But the more fundamental reason for scepticism about future government policy is that public officials and their economic advisers still subscribe to models that assume economies normally do best without government help. Stimulus measures can be justified in an emergency, but they are not seen as part of the policy framework, any more than keeping people in intensive care is seen as a prescription for healthy living. As the Chicago economist Robert Lucas once observed, all governments are “Keynesians in the fox hole”. The fact the stimulus measures advocated by JM Keynes – such as higher public spending and tax cuts – are expected to be for emergencies only reflects the damage the neoclassical (or free-market) economics of the 1980s and 1990s inflicted on his theory: damage has never been repaired.  


The fundamental feature of today’s neoclassical orthodoxy is a disbelief in the ability of governments permanently to improve the level and direction of economic activity or to alter the distribution of wealth and income. Markets, say mainstream economists, churn out results, which, if not always optimal, cannot be improved on without dire consequences for long-term prosperity. Since the 1980s Western governments have abandoned the full employment, growth and income-equalising targets of the Keynesian social-democratic era. 

Behind this rejection of the beneficial power of government are a number of specific theoretical and policy propositions: that market economies are normally stable; that with flexible wages and prices there can be no unwanted unemployment; that governments are less efficient in allocating capital than private firms; that public budgets should be balanced to prevent governments stealing resources from the private sector; that the only macroeconomic responsibility of government is to maintain “sound money”; and that this task should be outsourced to central banks who alone can be trusted not to inflate the economy for electoral reasons.

So-called New Keynesians would add numerous qualifications. They would point to the existence of “market imperfections”, which allow for more short-term “policy space” than neoclassical orthodoxy permits. Nevertheless, they are hamstrung by their adherence to economic models that in principle deny the need for, and stress the baleful consequences of, government interference with market forces. Their common sense is stronger than their logic. 

Against this orthodoxy, juxtapose the key Keynesian propositions, which justify a much more robust economic role for the state: the instability of private investment due to uncertainty; the inability of flexible wages and prices to maintain full employment; the power of government policy to improve long-run and not just short-run outcomes; and the importance of the state’s budget for balancing the economy. 

Consider the Keynesian argument for denying that flexible wages will lead to a V-shaped recovery from an economic shock. Every producer, Keynesians argue, is also a consumer. A cut in production costs (wages) simultaneously cuts the community's spending power and thus, far from hastening recovery, deepens the slump. By the same logic, cutting government spending in a slump makes matters worse, not better.  

For this reason it is likely to fail on its own terms. The former chancellor George Osborne never succeeded in “balancing the budget” in six years of trying. The budget cannot be balanced without a recovery in government revenue; the way to increase government revenue is to increase government spending. This apparent paradox arises only because we think of governments as ordinary households, which cannot “afford” to spend more than their incomes. But the government is a super-household: in a slump its spending creates its own income by enlarging its tax take. That is why fears of a runaway explosion in the national debt are largely illusory. The debt only becomes an unsupportable burden if it grows faster than the economy. Starting from a position when the economy is shrinking, an increase in government spending will cause the economy to grow faster than the debt.

And as for the neoclassical view that public investments are bound to be wasted, Keynes replied that even the most wasteful conceivable public investment is less wasteful than unemployment.


The traditional Keynesian response to a downturn in demand is to stimulate the economy through a mixture of fiscal and monetary measures: on the fiscal side by cutting taxes or by increasing public spending; on the monetary side by “printing” money. Such stimulus packages are intended to reverse the fall in total demand, leading to a recovery in economic output and employment. An example of fiscal stimulus from the UK government in 2009 was the car scrapping incentive scheme, whereby car owners received a £2,000 discount from the Treasury when trading in their old car for a newer model. The enlarged market for newer cars led to an increase in car production and sales, which led to increased employment in the motor car industry, and this helped sustain employment elsewhere. The Eat out to Help Out Scheme, which offered restaurant diners up to a £10 discount per head, is a more recent example.

However, such is the fear that government spending equates to “socialism” (think of the phrase “socialised medicine”) that even today’s Keynesians would prefer to stimulate the economy through unconditional cash grants to private individuals, rather than direct government spending. But cutting taxes (equivalent to giving people extra cash) will not increase employment if people are reluctant to spend; new money issued by the central bank won’t increase spending if it goes straight into cash reserves. Even negative real interest rates won’t prompt businesses to borrow if their expectation of profit is zero. The truth is that indirect stimulus won’t stimulate anything much in the face of a widespread collapse in consumer and investor confidence. Only direct state spending will do the job.

I would frame my anti-slump measures around a robust Keynesian model. The war against the economic consequences of Covid-19 must be fought with the weapons of public investment and job creation.

One result of the discrediting of Keynesian theory has been the collapse of state investment: the UK government’s share of total investment fell from an average of 47.3 per cent in 1948-76 to 18.4 per cent in 1977-2007. This left the economy much more dependent on the variable expectations of the business community. More pertinently for today, it left the public health services denuded of capacity to cope with the pandemic, and unduly reliant on foreign supply chains for essential medical equipment. A sound principle in today’s world is that all the goods and services necessary to maintain the health and security of the nation should be produced within its own borders, or those of its close political allies. If that means curtailment of market-led globalisation, so be it. 

More generally, I would immediately expand and accelerate all public construction and procurement projects – infrastructure, social housing, schools, hospitals – taking the opportunity to make them energy efficient. However, not all public investment needs to be performed directly by the state. I would create a state-holding company to take equity shares in private firms that are needed in the national interest. In today’s insecure world, no country can afford to leave the direction of its economic life, especially its scientific and technological direction, to the vagaries of global market forces. 

Secondly, I would replace the furlough scheme with a public sector job and training guarantee. This would cut off the coming jobs crisis at its root. Ideally, it should be part of a permanent system for ending the unemployment that has scarred all economies since the Industrial Revolution. Every person of working age able and willing to work who cannot find work in the private sector at the minimum wage should be offered a public-sector job or training at the minimum wage. Such a scheme, by guaranteeing work for all those able and willing to work, would fulfil the old trade union demand of “work or maintenance”. 

If this system were in place there would be no need for minimum wage legislation, since anyone offered a private-sector job at below the minimum wage would have the alternative of a higher-paid public-sector job. Periodic upward adjustment of the public-sector minimum wage would substitute an upward for a downward pressure on wage levels throughout the economy.  

There are two further advantages of a public-sector job guarantee. First, it would be a much more powerful automatic stabiliser than unemployment benefit. At present, the government’s budget deficit expands automatically in a slump as state revenues fall and public spending on income support rises. This limits the fall in economic activity, but does not avoid it. Under the job guarantee scheme, although government spending would rise more than at present, private incomes and therefore public revenues would be better maintained, not only minimising the recession, but ensuring that much of the enlarged budget deficit would be self-liquidating. 

A second advantage would be the stimulus that a job guarantee would provide for decentralisation. The programme would be funded nationally, but would be administered locally by a variety of agencies: local governments, NGOs and social enterprises. Each would be tasked with creating “on-the-spot” employment opportunities where they are most needed (environmental, civic, and human care), matching unfilled community needs with unemployed or underemployed people. Good models would be Franklin D Roosevelt’s Works Progress Administration and Civilian Conservation Corps, which provided millions of local jobs to the unemployed, often with a strong green slant. Local authorities might even offer prizes for residents who devise the boldest and most imaginative ideas.

A frequent criticism of such public work schemes is that they would simply “make work”. This is to take at face value Keynes’s off-the-cuff remark that if the unemployed were sent to dig up old bottles full of banknotes, there need be no more unemployment. People never quote the follow-up: “It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing.” Of course, there are many more sensible things that need doing in every community, which only a petrified imagination stops from being conceived and carried out.

If public money is to be spent – and much more will need to be spent in the years ahead – it is much better spent creating work than maintaining millions in idleness waiting for the private economy to heal itself. The big idea which needs to be grasped is that state-created work is itself part of the healing process. Not only does it add value to the community, but it expands the market for goods and services, which the private sector needs to return to health.

Keynes was convinced that if democracies failed to tackle mass unemployment, people would turn to dictatorships. He gave democracies a programme of action. We must build on it today. The economics profession has a special responsibility to show the way, which it has shamefully shirked.

Robert Skidelsky is the author of a three-volume biography of J M Keynes, a cross-bench peer and emeritus professor of political economy at the University of Warwick. His most recent book is Money and Government: The Past and Future of Economics 

This article appears in the 18 September 2020 issue of the New Statesman, Planet Covid