Our Keynesian Failure

In a post yesterday, I noted that recession responses contributed mightily to our now $40 trillion national debt. These included the stimulus packages enacted during the Great Recession and the gobs of “rescue” aid during the pandemic. Trillions of dollars were spent in these periods as tax revenue dipped, resulting in large deficits.

Progressives may respond: Of course, these relief packages were financed by deficits — that was by design. In fact, they would not have worked had they been paid for. Lawmakers were following the advice of John Maynard Keynes, the most influential economist since Adam Smith, who famously flipped the script of how governments ought to handle recessions.

Keynes argued that, because recessions were due to insufficient demand (itself a controversial claim), government needed to fill the gap by spending money. Crucially, this money could not be funded by new taxes, as that would worsen the problem of consumer demand. In fact, Keynes favored cutting taxes during recessions, too. Deficits, he believed, would effectively inject dormant savings into the real economy and thereby restore “full employment.”

Now, I do not agree with any of that. Recessions are not caused by sudden drops in aggregate demand, I believe, as human desires for all goods and services do not spontaneously swing together. Even if they did, and insufficient demand were the problem, borrowing from the public for the government to spend diverts just as much money and productive resources as taxing it.

But even if one accepts Keynes’s thesis and defends U.S. stimulus packages on his grounds, no one can claim that we have taken a Keynesian fiscal policy in full, because we have abandoned the other half of his prescription: He advocated governments running deficits during recessions and running surpluses in between them. Though he viewed this mostly as a means of economic stabilization — “taking money out” of the economy to prevent inflation — rather than sound fiscal stewardship, he did seem to believe that public budgets should be balanced over the long run. Surpluses in good times would pay back deficits in bad times.

Suffice to say, we have not followed Keynes’s advice on that second point. Instead, we have and continue to run the highest peacetime and noncrisis deficits in American history during a period of sustained economic growth and strong employment. And we run these deficits not temporarily, but structurally; not to fund the big capital projects that Keynes was fond of, but to finance regularly scheduled consumption that we simply don’t want to pay for.

We will almost certainly never see another federal surplus again. A balanced budget is only marginally less fanciful, like the Loch Ness Monster as opposed to Godzilla. Just more and more debt, forever. The Keynesian bargain has not been held up.