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Herve van Caloen, a managing partner at Belpointe Asset Management, is an investor with more than 25 years of experience managing international equity portfolios for Scudder, Mitchell Hutchins, Provident Capital Management. He is currently a portfolio manager at Belpointe Asset Management in... More
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  • Keynes For Dummies 2 comments
    Mar 14, 2013 4:30 PM

    "I found myself the only non-Keynesian there," remarked John Maynard Keynes following a meeting with economists in Washington in 1944.

    I wonder if the famous economist would feel the same way reading today's stimulus debate. Would he approve of trillion dollar deficits in the name of Keynesian policies? Would he agree with Paul Krugman that more government spending is needed? I suspect not. And here is why.

    According to Professors Backhouse and Bateman*, Keynes devised a system of economic policymaking that makes it possible to fine-tune the economy with careful adjustments of fiscal policy. "fine-tune" and "careful adjustments" are key words. It was his belief that sharp downturns in the economy could be mitigated with some governmental intervention.

    Today's Uber-Keynesians, however, have changed the government's role of fine-tuning the economic engine to becoming the engine itself. In the process, they turned central banks into ATM's.

    Four years into an anemic recovery, Europe is back in recession, the US is barely growing, Asia's export economies are sputtering and parts of Latin America are returning to their old isolationist demons. What went wrong? Why did all the stimulus programs not get the global economy roaring back? From Japan to the UK, from the US to China, trillions of dollars have now been borrowed from the next generation and yet there is very little to show for. Why? Well, Neo-Keynesian professors from Princeton to Paris have the answer: it was not enough.

    This we saw coming. We expected the narrative all along. Some readers may remember that we predicted that failure was going to be blamed on too little spending, no matter what the amount. Let's make another prediction: whenever countries start to tackle their gaping fiscal deficits, Krugman and Co. will claim it is too soon. Actually, they are already vilifying Europe (read Germany) for thinking that growth could come from structural reforms and not from spending fiat money.

    Not spending other people's money has now been labeled austerity. But is keeping France's governmental budget at 54% of GDP really austerity? How much more can the government overtake a so-called free economy?

    I doubt Keynes expected that some careful adjustments would have lead to public debts varying from 100% of GDP in Italy and the US to over 200% in Japan. The magnitude of today's interventions would most likely have made him uncomfortable.

    That is not all. Contrary to popular belief, Keynes was skeptical about the use of the budget to influence consumption. He was not a supporter of budget deficits if they took the form of borrowing to finance current expenditures. Even spending on public works, he believed, had to be considered carefully because it could frighten businessmen into reducing their own investments.

    In other words, not all debt is created equal. Like cholesterol, there is good debt and bad debt. Properly invested in capital goods that yield a revenue stream, debt can be very helpful. When, instead, debt is used to artificially maintain one's standard of living, the endgame is very different. That's the problem many governments are facing today. Fiscal deficits around the world are out of control while not yielding any returns. Therefore more borrowing is needed.

    Most rational people realize that this cannot go on. Something has to give. From borrowing to fine tune the economy, we have now created an economy addicted to government borrowing. We have even convinced ourselves economic growth is impossible without it.

    Central banks conquer. This chronic dependency could not have been created without their enabling profligacy. Market forces should have corrected politicians' behavior a long time ago. But, the manipulation of interest rates and the monetization of the deficits are keeping the free ride alive.

    Would Keynes have approved? Here again,it is doubtful. Why else did he warn us against debauching the currency? In his writings, he even calls Lenin to the rescue to make his point. It is said, indeed, that Lenin once declared that "the best way to destroy the capitalistic system was to debauch its currency", for changes in the value of money amounts to arbitrary confiscation of wealth. Keynes believed in the capitalistic system.
    Not that Bernanke, King or Draghi are intentionally debauching the global currencies. However, their enabling of excessive "Keynesian" policies could well result in such a destruction of the value of money. If not reduced with "austerity", how else will debt be dealt with? Inflation is the only alternative.

    The problem with Helicopter Bernanke is not that he is not a student of history. He knows Keynes' teachings better than anyone. Only, he tends to take them to new extremes. Keynes' emphasis on the psychology of expectations has thus brought us the wealth effect, first praised during the housing bubble.

    The paper profits in the stock market have similarly been pointed to lately by our dear chairman as a reason for optimism. The new wealth effect is supposed to lead to more consumption and, consequently, to more economic activity. It worked so well the first time.

    Another example of Bernanke's extreme interpretation of Keynesian philosophy is his treatment of fixed income earners. In this matter, Keynes was not exactly a moderate himself. Never a great fan of raw capitalism, he famously wished for the "euthanasia of the rentier". Could Bernanke be on a mission to fulfill this wish? It sure feels that way to many retirees…

    Turning back to Europe, we are told that today's debate is between Keynesian stimulus and fiscal rectitude. Keynes vs Hayek. Growth vs austerity.
    Now, who is against growth? Only monks are in favor of austerity. Obviously, these are not the real issues. Europe is dealing with a different debate all together. It is one between social democracy vs Club Med style socialism.

    Let me explain. All of Europe is socialist and wants to remain that way. Europeans reject what the French call "le capitalisme sauvage" as practiced in America. Their only division is on what kind of socialism. In essence, the difference comes from their opposing starting points. Social democrats study the economy as it is. Then, they try to implement as much social redistribution as the economy will tolerate. Their southern brethren start from what they would like the world to be. Then, they tell markets to adjust.

    Logically, when social democrats face an economic downturn, they reform. Not surprisingly, when the Club Med countries face a downturn, they fight even harder for their entitlements. After all it is for the markets to adapt to the newly proclaimed reality.

    Sweden reformed in the early 1990's in order to save their welfare system after a now too familiar construction boom-bust cycle.The German social democrat Gerhard Schroder reduced some entitlements and allowed some more labor flexibility at the outset of the century. Finland and Estonia are other examples and today Ireland may be the next country to have made the needed adjustments to…grow again.

    On the other side, we know what happened to Greece. Spain is facing the abyss and trying implement fundamental reforms. France, always different, is explaining to Germany how to grow an economy.

    Finally, Keynes' work drew heavily from an analysis on how to make ethical decisions. He was particularly taken by the moral consequences of unemployment.

    Now, it is difficult to see the ethical superiority of the southern European economies that are so heavily dependent on public spending.

    Unemployment is much higher. A ballooning debt will be passed on to the next generation. And, as if that is not bad enough, the Club Med countries are unashamedly shutting the young generation from the labor force! With no jobs and no income, how are they supposed to pay their parents' humongous debt? In countries like Spain and Greece, youth unemployment has already exceeded 50%. In France, it is "only" 25%.

    This is the real time bomb and only a full assault on labor rigidity can forestall disaster. Young people used to be known to be restless.
    German "austerity", in contrast, produces only single digit youth unemployment.

    Do not believe the false argument that Germany is trying to impose hardship on the rest of Europe. All they are saying is: "Grow up!"

    (*) Capitalist Revolutionary John Maynard Keynes by Roger E. Backhouse and Bradley W. Bateman

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

    Themes: economy
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Comments (2)
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  • Urmas G
    , contributor
    Comments (19) | Send Message
     
    Herve,
    Thanks for posting a excellent article! It's easy to read & follow. It's my belief that we (US) will not solve our budget deficit until we havea our own "Greek Moment."
    15 Mar 2013, 12:10 PM Reply Like
  • Herve van Caloen
    , contributor
    Comments (132) | Send Message
     
    Author’s reply » Thank you, Urmas. I hope you are wrong but I am afraid you are right!
    18 Mar 2013, 06:57 AM Reply Like
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