Since the 1930s, one clash has defined both academic macroeconomics and the economic policies of governments. On the left side are followers of John Maynard Keynes, who believe that government actions can and should smooth the destructive swings of business cycles. On the right are those who fear governments and believe in the self-correcting power of markets. They can be considered the friends of Friedrich von Hayek.
Nicholas Wapshott explores this fight in a new book. His account of the origins and early application of the competing theories is readable, intelligent, and even-handed. It may be too even-handed: it is hard to believe that the author really stands so far above the fray. But Wapshott is probably right to suggest that personification of the debate led to oversimplification of the rivals’ ideas, and that the exaggerated emphasis on the differences between Keynes and Hayek were manufactured, at least to a degree, to enhance the appeal of academic economic texts.
He also describes how political practice blunted the theories and led them to be applied in curious circumstances. He notes the paradox of a right-wing U.S. President Nixon embracing Keynes and the left-wing President Clinton showing a fear of deficits and distrust of governments which would have delighted Hayek.
The clash is also complicated by the fact that Keynes and Hayek had such different perspectives on what made the economy tick. Indeed, the dialogue was often one of mutual incomprehension. Hayek thought individual choices were central to the economy. That bottom-up assumption left him almost speechless when he tried to counter Keynes’s top-down analysis.
Economic and political swings of the last 80 years have elevated, relegated, and re-elevated both theories. Experience, and the depth of the current financial crisis, means that large-scale “Keynesian” intervention is now necessary. But while governments clearly have a critical role to play, there is a constant and acute danger, as Hayek made clear, that they stifle economic initiative. Policymakers need to cherish the microeconomic power of individual agents – workers, executives, entrepreneurs, investors and companies. And remember that market forces ain’t all bad.