Be of Good Cheer: the Keynesian Welfare State Is Doomed

by
Gary North
Tea Party Economist

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The
Keynesians and declared anti-Keynesians have joined hands in order
to promote an intensely Keynesian error: European fiscal austerity
as a negative factor. One contributor in Forbes refers to
austerity as a death spiral.

The word “austerity,”
beginning with the Greek government’s debt crisis two years ago,
has been used by the financial media in one sense, and only one
sense: reductions in spending by national governments. The word
is not used with respect to the economy as a whole.

More than
this: the word has been used to explain the contracting economies
of Europe. The reductions in government spending are said to have
caused the contracting economies. This explanation is based on textbook
Keynesianism.

Keynesians
call for increased government spending. This is the heart of Keynesianism.
Keynesianism rests on a mantra: “Government spending overcomes recessions.”
All else is peripheral: monetary inflation, graduated taxation,
and free trade. These peripheral issues will always be sacrificed
to the supreme economic premise: “Government spending overcomes
recessions.”

This is where
every analysis of Keynesianism should begin. Any economic doctrine,
any economic policy, any proposed solution to the present crisis
should be assessed in terms of the mantra. Anything that does not
begin and end with the mantra is not Keynesianism. Anything that
does, is.

It is a mark
of the supreme triumph of any ideology when the self-professed critics
of the ideology adopt both its conclusions and its rhetoric, and
do so unknowingly. This means that the promoters of the ideology
have set the terms of public discourse. It is very difficult to
replace an ideology or worldview, once its promoters have established
the terms of discourse.

It can be
done, of course. But to do this, the promoters of a rival outlook
must expose both the errors of the existing system and the implicit
agreement of its supposed critics. This wins no friends among the
hapless troops who think they are scoring significant victories
by arguing against peripheral aspects of the enemy ideology, while
accepting its central presuppositions and main policy prescriptions
lock, stock, and barrel. They have been taken in hook, line, and
sinker.

PHARAOH
AND THE FROGS

A recent example
of a well-meaning but conceptually confused anti-Keynesian was published
in Forbes. It had a powerful headline: “Keynesianism
Is the New Black Death
.” It suggested that the great tragedy
of Europe today is “austerity.”

As I have
already said, the financial media universally define austerity as
cuts in government spending. I have never seen the word used in
any other way over the last two years. Any author who uses the word
in any other way owes it to his readers to explain this new usage.
The Forbes article offered no such distinction or alternative
definition. I therefore take it at its word: austerity.

If austerity
is the great evil, then the implication is inescapable: that which
restores government spending and therefore overcomes austerity is
positive.

This reminds
me of the Pharaoh who decided not to let the Israelites journey
for a week to sacrifice to God. Moses and Aaron then attempted to
persuade him by way of a series of plagues. One of them was frogs.
The land filled up with frogs. Everywhere anyone walked, he stepped
on frogs.

The court
magicians had to do something about this. They responded by a public
display of the power of their magic that matched what Moses and
Aaron could do. “And the magicians did so with their enchantments,
and brought up frogs upon the land of Egypt” (Exodus 8:7).

Somehow, I
imagine Pharaoh screaming at them: “No, no, you blockheads: not
more frogs! Fewer frogs!” But the text does not record
this.

The solution
to the frogs of European recession is not increased government spending.
Rather, it is the opposite: reduced government spending. In short,
the solution is greater austerity.

AUSTRIANISM’S
MANTRA

The Austrian
economists also have a mantra: “Reduced taxation increases liberty.”
Liberty is necessary for economic growth.

If a contemporary
government cannot reduce taxes without going bankrupt, then it must
cut spending if it chooses not to go bankrupt.

Europe’s national
governments are all going bankrupt. Japan’s is, too. So is America’s.
The solution is to cut taxes and cut spending even more.

“Not more
government spending. Less government spending!”

“Not larger
government deficits. Reduced government deficits!”

“Not higher
taxes. Lower taxes!”

“Not more
fiat money. Reduced fiat money!”

In short:
“Let my people go!”

With this
in mind, let us examine an article that argues that austerity is
the great threat to Europe’s prosperity.

A DEATH
SPIRAL?

The article
begins with a survey of European politics. It points out that voters
are tossing out politicians in nation after nation. Sarkozy was
number eight over the last year. Why is this happening? Here is
the proposed answer:

The
voters of Spain, Greece, France, etc., understand that their governing
elites have pushed their economies into austerity death spirals,
and they have been expressing their unhappiness at the ballot box.

The more fundamental
question is this: Why did these elites push their respective economies
into this supposed death spiral? Why would faithful Keynesian elites
do such a thing?

Let us not
be naive. The West has been run at the top by Keynesian elites,
or politicians holding Keynesian ideas, ever since 1930 – six years
before Keynes offered his unreadable justification of politicians’
policies: “The General Theory of Employment, Interest, and Money.”.

The Keynesian
central bank pushed Europe’s economies into a boom, 2001 to 2007.
The voters loved it. Interest rates were low. There was lots of
money to buy houses. The economies of the south – “Club Med” –
were booming. So was the honorary member of Club Med: Ireland. Ireland’s
property values quadrupled. It was all going to last forever. The
elites – especially the economists – issued no warnings, except
for Austrian economists, who were dismissed, as always, as dinosaurs.

Then came
the bust phase. What the European Central Bank did before 2007 –
inflate – it has done more aggressively ever since 2008. Governments
ran even larger deficits. They all implemented Keynesian stimuli.
This did not work. Europe is falling back into a recession.

In the spring
of 2010, investors in northern Europe caught on to the fact that
Club Med residents could not compete economically. They kept running
deficits with the North. Those easy-going populations were living
on money borrowed from the North. So were their governments. They
had no intention of ever paying back these loans.

Any why not?
This is what Keynesianism teaches. Government loans will not be
paid off. Ever. Government debt will grow. So will prosperity.

Two years
ago, Greece’s Socialist Party found out just how far in the debt
hole the government was. Interest rates then started to rise in
PIIGS nations. PIIGS governments were trapped. They could not run
ever-larger deficits, because the cost of loans were rising.

That was when
the reality of Keynesianism hit: deficits do matter. Money is not
free. Debts must be rolled over at market interest rates. The horror!

That was when
governments in the South started cutting back on spending. Not much,
you understand. The deficits are still unprecedented: above 6% of
GDP.

Keynesians
labeled this “austerity.”

It is not
austerity. It is deficit spending on a massive scale. Austerity
is where national governments run surpluses and use excess revenues
to pay down the national debt.

There has
not been austerity in Europe since approximately 1914.

The gold coin
standard enforced austerity, 1815 to 1914. That was its chief function
and its great service to mankind. It kept the West’s governments
austere. This enabled the private sector to dine at an ever-expanding
feast.

Keynesians
hate the gold coin standard. That is because they believe that high
government spending is the basis of high consumer spending, and
consumer spending – not private thrift – is the foundation of
prosperity.

The public,
which prefers consumer spending to the austerity of thrift, cheers
on the politics of Keynesianism. Deficits without end, borrowing
without pain, growth without ceasing: Keynesians promise, and voters
believe.

But the day
of reckoning arrived in 2010. The free money got expensive. The
party did not stop, but some of the guests were sent home, to join
young adults, who have sat and watched TV, because there are no
jobs.

The public
feels betrayed. Voters believed in the Keynesian dream, which was
articulated by the original Keynesian, who said, “If thou be the
son of God, command that these stones be turned into bread” (Matthew
4:3). When the target of this challenge refused to rise to the bait,
the Keynesian went looking for other takers. In the second half
of the twentieth century, he found them. Lots of them. Millions
of them. Politicians promised to accomplish the feat. Voters applauded.

But times
have changed, the article tells us.

Unfortunately
for Europe and the world right now, there are no pro-growth candidates
and/or parties on the Continent to offer relief from the austerity
programs that are grinding their economies to dust. With no one
to vote for, all that European electorates have been able to do
is to vote against. They have sought to register their protest by
defeating incumbents.

The incumbents
over-promised. They had long told the voters that deficits don’t
matter. Deficits did not matter for as long as banks in northern
Europe kept lending to PIIGS at rates associated with German frugality.
But then came reality.

Europe
as a whole is in recession, and Greece, Spain, and Portugal are
in depressions. What are the people supposed to do if the economic
chefs on both the political Left and the political Right are offering
the same poisonous “austerity” menu?

Balanced budgets
remain mirages a far as the eye can see. Token spending cuts, which
are made in the name of reducing deficits to about 3% of GDP in
ten years, are part of a “poisonous austerity menu.” Put in a more
familiar terminology, there are too many stones and not enough bread.
The voters will not tolerate this.

The reason
why there are no economic chefs promoting growth is simple: somebody
has to bankroll the growth of government spending. Who will that
be? Who wants to trust PIIGS?

The louder
the voters scream about austerity, the fewer the number of lenders,
meaning lenders at rates under 10%.

PLAGUE!

The article
eventually gets to the point.

So,
what happened in Europe? The short answer is, “plague”. The Black
Death of the 14th century was caused by the Yersinia pestis bacterium,
which was spread by rats. Today’s plague is the result of Keynesianism,
which is being spread by the economics departments of major universities
and The New York Times. Unfortunately, unlike Yersinia pestis, Keynesianism
does not respond to antibiotics.

How does the
article define Keynesianism? Erroneously. It says that Keynesians
favor tax increases and spending cuts.

Austerity,
as currently being practiced in Europe, is based upon the Keynesian
belief that tax increases and government spending cuts have the
same effect upon both the government deficit and the economy. In
fact, the most virulent strains of Keynesianism cause people to
believe that raising top marginal tax rates and increasing government
spending can actually boost GDP, because “the rich” have a higher
“marginal propensity to save” than do the recipients of government
handouts.

Fran‡ois Hollande,
the winner of Sunday’s election in France, is a Keynesian. He believes
that raising France’s top marginal tax rate to 75% while hiring
60,000 more unionized teachers will make things better.

Excuse me?
What does an avowed socialist politician have to do with Keynesianism?
Keynesianism is what Paul Krugman proclaims, which is greater deficit
spending, plus sufficient central bank money expansion to finance
this expansion.

Which Keynesian
economist or politician has come out forthrightly for spending cuts,
i.e., austerity? Austrian economists have. Ron Paul has. This is
why Austrians and Ron Paul have been marginalized by the Keynesian
media as cranks.

To
a leader whose mind is infected by Keynesianism, it makes sense
to try to close a budget deficit with a combination of tax increases
and spending cuts, with the balance between them determined by some
combination of political considerations and “fairness”.

There are
many politicians in Europe who have imposed taxes on the rich. The
voters have cheered them on, as always. The voters are outraged
by the spending cuts. Spending cuts reduce the flow of funds to
government bureaucrats and welfare state clients. This is why Greek
union members riot.

Traditional
Keynesianism calls for increased spending, more borrowing, and –
if private lenders demand high rates of interest – monetary expansion
by the central bank to purchase government debt. The article wisely
rejects monetization. But it does not call for a gold coin standard.
Rather, it defends the euro.

As
damaging as tax increases are to an economy, monetary depredation
is worse. Only a Keynesian could think that replacing the euro with
a new drachma could be a solution for Greece. The result would be
a new currency backed by the full faith and credit of a government
in which no one has faith and to which no one will extend credit.
In reality, the collapse of the Greek economy would not even wait
for the introduction of the new currency. It would not be possible
to keep preparations for a new drachma a secret, and even rumors
of such a move would be enough to create a cataclysmic run on the
Greek banking system. Capital, and people with capital, would flee.

The article
suffers from an illusion: that the euro is not just another medium
for inflation, that it is anything more than drachmas for Keynesians.

The Keynesian
political hierarchy imposed the euro on the voters in 1999. The
elite’s spokesmen have decried the departure of Greece from the
eurozone. The unelected Greek technocrats, like technocrats all
over Europe, were either former Goldman Sachs employees or wanna-be’s.
They are now being tossed out by the voters. The voters are populists
and socialists. They are fellow travelers of Keynesians only in
the boom phase of the Keynesian welfare state. When the bills come
due, they revert to locally issued fiat money, taxation of the rich,
trade unionism, and increased government spending.

CONCLUSION

Keynesianism
is in a death spiral. So is populist socialism. So is fiat money
fascism. They are all in death spirals because they all reject this
premise: “Lower taxes increase liberty.”

Liberty will
prevail. This is an eschatological affirmation. One of the ways
that it will prevail is through the bankruptcy of the Keynesian
social order: high taxation, high regulation, high deficit spending,
and high inflation.

Let’s put
government on a diet. Let’s have austerity where it belongs: government
spending.

That is what
Europe’s voters do not want. That is what they are going to get.

“Not less
austerity. More austerity!”

May
12, 2012

Gary
North [send him mail]
is the author of
Mises
on Money
. Visit http://www.garynorth.com.
He is also the author of a free 20-volume series, An
Economic Commentary on the Bible
.

Copyright ©
2012 Gary North

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