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Can Keynes Rescue Europe from the Euro Crisis?

by Martin Haller and Dirk Ehnts Monday, Sep. 21, 2015 at 6:08 AM

Keynes' theories and concepts were pushed back with the rise of neoliberalism in the 1980s. A complete change of course occurred when state spending cuts, lower wages and devaluations failed. The state spent money to create demand for products and services.


By Martin Haller

Many leftists desire an economic policy according to the model of British economist John Maynard Keynes. His ideas are summarized here.

[This article published on July 23, 2015 is translated from the German on the Internet,]

These are ideas of an economist who never regarded himself as a leftist and had the greatest influence among critics of neoliberal economics. John Maynard Keynes was one of the most important economists of the 20th century and meddled in the political debates in his lifetime. But his ideas first had a radiating power after his death in 1946.


Keynes’ theories and concepts were pushed back with the rise of neoliberalism in the 1980s. However his criticism of classical liberal theory experienced a little renaissance after the economic crisis began in 2008. With Syriza assuming power in Greece, the question about an alternative economic- and financial policy is now raised very concretely. For the first time in the Europe of crisis, a party leads a government that radically rejects the neoliberal austerity policy. Keynes’ ideas are actually a central reference point for the Syriza leadership. Finance minister Yanis Varoufakis emphasizes again and again the influence of Keynes’ work. What causes this admiration cherished by many leftists for the middle class economist? What were his ideas?


John Maynard Keynes was convinced the market – left to itself – could not function. With that assumption, he contradicted the economics of his time – a theory that under the new name neoliberalism defines the policy of all established parties today. Keynes was born on June 5, 1883 in English Cambridge as the son of an economics professor. He attended different elite schools and studied philosophy, history, mathematics and economics. He also worked for the British government and was not only a university lecturer. After the First World War, he began criticizing the dominant liberal economic theory in individual points in different books and essays.


John Maynard Keynes was one of the most important critics of an unfettered market. His best-known work “General Theory of Employment, Interest and Money” appeared in 1936, only a few years after the worldwide economic crisis began. Here he developed his systematic criticism of liberal theory. At that time Keynesianism replaced Marxism for many social democrats and unionists who no longer believed in a revolutionary transformation of society. Liberal theoreticians assumed that an “invisible hand” of the market harmonizes so every produced good finds its buyer. Liberals supported their argument with the so-called Say’s law: the money gained with every produced good flows into two pockets – those of workers and entrepreneurs. Workers would buy vital necessities from their wages and entrepreneurs would invest their profit in new production facilities. A perpetual balance would arise between supply and demand. Crises were impossible.


Keynes contradicted this. Firstly, workers under certain circumstances would save part of their money. Secondly, entrepreneurs only invested in new production sites when they expected new profits from that investment. A situation could occur in which firms could not sell their goods. The result would be a crisis.

Even the liberal school could not ignore this. Its advocates urged lower wages for crisis times so businesses would invest again. Keynes recognized a vicious circle would be the result. Lower wages reduced demand and created even more unemployment which lowered wages again.

On the other hand, he advocated creating an “effective demand” for overcoming crises. The state must intervene and compensate the missing demand with public orders or public contracts. The expenditures had to be financed through debts, not by a redistribution of existing funds. An actual growth can only arise this way.


Keynes’ ideas were not limited to a pure demand orientation. His explanation of the system’s susceptibility to crisis was more profound. He recognized that the crisis of capitalism could be so grave that it could not free or liberate itself. For this case, he believed “the task of guiding current investments could not be left in private hands without danger.” He came to this conclusion because he saw a “declining marginal utility of capital” – a development Karl Marx described as the “increasing fall of the profit rate.” Businesses must invest more and more to gain the same profit. This leads them to speculate and not invest the profit in new production facilities. This trend intensifies the longer the capitalist economic system lasts.

Given the uncertain investment activity, Keynes urged a “socialization of investments” to reach the goal of full employment. For him, “the true remedy for the economic cycle” was “doing away with the delays and relying on a quasi-upswing.”


Keynes died in 1946 but his theory and the state planning allied with that theory celebrated great successes when the world economy entered in a long growth phase after the end of the Second World War. The basis for this “Golden Age” was the Cold War. The military spending of the US and the Soviet Union rose to ten to fifteen percent of their gross domestic product. The state created a gigantic demand for a significant part of industry. At the same time, this waste stopped the tendency to over-production. The postwar upswing was contradictory. Keynesian economic policy faced an (acid) test with the worldwide collapse in 1974. In Germany, the social democratic government presented an investment program of 16 DM. But a new international crisis in 1980/81 destroyed this success. Neoliberalism also began its triumphant advance in other countries.


Given the crisis in the Eurozone left today, a massive state investment program creating new jobs and higher wages would certainly be helpful. Still this is not a guarantee for overcoming the crisis. The question is how such a policy can be carried out. In the past, corporations and economic institutions made it clear they would block measures against their interests. In 1976, the Labor government in Britain was forced to spending cuts by the International Monetary Fund. At the beginning of the 1980s, the Socialist Party in France abandoned its program after a boycott of businesses. In Germany, Oscar Lafontaine was forced out of office by a campaign of capital. Keynes did not answer the question how measures against the power of capital can be implemented – unlike Marx who saw the potential power of the working class. Keynes’ theory shook the limits of capitalism even if he was not a leftist. He held to capitalism and expected the rulers would approve his program. “If there is a real class struggle, my local and personal patriotism clings to my environment. (…) A class war would find me on the side of the educated bourgeoisie.”

Nevertheless Keynes also said investment decisions must be socialized. Marxists could join him since the door for a socialist perspective is opened. This means putting in question the rule of a few over social wealth and defying the power of the rulers.


By Dirk Ehnts

[These excerpts from “Open Letter to the German Finance Minister” (September 9, 2015) are translated abridged from the German on the Internet,]

Dear Minister of Finance Wolfgang Schauble,

…Besides “star international economists,” nine of ten German economists are convinced increased state spending will lead to more growth and employment.

You mention Keynes in connection with the state budget to be balanced in the economic cycle. While the state budget can or should skid into deficit in the crisis, a budget surplus can be reached in good times.

Formulated differently, the state becomes indebted in bad times and reduces indebtedness in good times. Since the current budget of the German government shows a surplus, you now regard our country marked by your economic policy as “much nearer to John Maynard Keynes than many so-called star international economists.” I’d like to contradict that statement and will only defend economic theories here and not economists.

Keynes wrote in the first half of the 20th century when nearly every modern industrial state had its own currency. The state ran into debt with the Central Bank that made available state money. State and currency coincided almost everywhere. In the outbreak of the 1929 Great Crash, the western world first reacted with austerity policy that greatly resembled today’s austerity policy. State spending cuts, lower wages and devaluations should ensure the return to growth and employment. A complete change of course occurred when this failed and the recession led to a worldwide economic crisis. The state then spent more money to create demand for products and services. As a result, employment, the inflation rate and the growth rate rose. The national government accepted a state deficit as long as the crisis continued.

However there is no European “national government” in the Eurozone of the 21st century

That helps macro-economic stabilization through a deficit. Keynes would certainly recommend expanding state spending to the European monetary union since unemployment in the Eurozone lies at 11%. The “old” national governments are responsible since no European “national government” exists. You emphasize that the economic situation in Germany is good. People argue about that. To me, the question whether this perspective is legitimate in a monetary union is central. Additional state spending must come from the national governments since there is no European government that stabilizes on the macro-economic plane. As everybody knows, the European Central Bank cannot initiate fiscal spending since the Eurozone depends on solidarity national economic policy. During the good economic phases, Spain (2005-8) and Ireland (2003-8) pursued such an economic policy and posted state budget surpluses at that time. The state indebtedness at the outbreak of the crisis (2008) was only 25% of the GDP in Ireland and 36% of the GDP in Spain (and 65% of the GDP in Germany in comparison).

The national governments must adjust their fiscal policies if Keynesian economic policy should be practiced in a monetary union, as you think you are doing. Thus the governments of the Eurozone should increase their spending and accept deficits in the current situation with weak growth, an inflation rate at the limit to deflation and mass unemployment. All countries cannot do this on account of the disastrous Stability- and Growth Pact. The responsibility lies with governments with fiscal possibilities. As mentioned, countries like Ireland and Spain applied the fiscal brakes in their upswings. The fiscal reins should now be loosened in hard economic times in other countries. That is the core of Keynesian economic policy.

However the possibility of expansive fiscal policy has changed greatly since the times of Keynes. While most currencies were backed by gold at the beginning of the 1930s, modern currencies are no longer limited that way. The euro is neither backed by gold nor bound to a (formerly gold-backed) US dollar with a fixed exchange rate. By purchasing state bonds on the secondary market, the European Central Bank can ensure that the interests of the state bonds of governments in the Eurozone does not rise when states increase their spending and thus their indebtedness. Mario Draghi announced bond purchases would be extended. The Federal German government and its European partners could collaborate with the European Central Bank and practice an expansive fiscal policy until the exceptional case of mass unemployment ends.

I hope I have addressed some points that reflect the position of many German economists in relation to German economic policy in the European context. Besides the majority of German economists, most American and European economists would be glad about state budget surpluses if they are caused by increasing growth rates and increased employment in the whole Eurozone.

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