Macroeconomics Digression The Fight of the Century: Keynes vs. Hayek

1. MacroeconomicsDigressionThe Fight of the Century: Keynes vs. Hayek Prof. Dr. Rainer Maurer

2. The Fight of the Century: Keynes vs. Hayek http://www.youtube.com/watch?v=GTQnarzmTOc&feature=relmfu Prof. Dr. Rainer Maurer - 2 -

3. The effectiveness of anti-cyclical policy is hard to evaluate based on simple observations: • Neoclassics can always argue that despite anti-cyclical policy things have not become good enough. • Keynesians can always argue that things would be worse without anti-cyclical policy Prof. Dr. Rainer Maurer - 3 -

4. The Second World War played an important role in the historical debate between Keynes and Hayek: - The World Economic Crisis was lasting much longer than Hayek expected and was finally overcome in Germany (and later in other countries too) when the government started military spending programs. - The majority of economists became therefore “Keynesians” until Keynesian policy started to fail in the 70s in the face of supply side shocks. This epoch was a kind of “ the return of Hayek”. Prof. Dr. Rainer Maurer - 4 -

5. A fundamental question: Can an economy be steered like a machine or is it too complex? • Keynes like Hayek rejected central planning on the “micro-level” (telling firms what they have to produce and households what they have to consume). • But, contrary to Hayek, Keynes hold government anti-cyclical policy on the “macro-level” (stimulating macroeconomic aggregates like “consumption”, “investment”, “net-exports”) to be possible. Prof. Dr. Rainer Maurer - 5 -

6. The basic difference between Hayek and Keynes: • Keynes hold recessions to be the result of a reduction in consumption or investment propensity by the private sector - “self-fulfilling expectations” (Chapter 3.2). • Hayek hold recessions to be the result of “overinvestment” booms triggered by too expansionary monetary policy (reduction of the interest rate below the natural interest rate (Chapter 2.2.1). Prof. Dr. Rainer Maurer - 6 -

7. The policy problem: • Keynes is quite optimistic in regard to the ability of politicians to regulate the economy. • Hayek is very sceptic, expecting “crony capitalism” and wrong incentives (moral hazard), if politicians have to much discretionary leeway. Prof. Dr. Rainer Maurer - 7 -

8. Rules vs discretion – “German law and order” vs. “Anglo-Saxon pragmatism”: • Given his optimistic evaluation of politicians and his conviction that market economies are unstable in the short-run, Keynes believed in discretionary macroeconomic policy. • Given his sceptic view on politicians and his conviction that market economies – free of government and central bank interventions – are sufficiently stable, Hayek believed in rules effectively binding the hands of politicians. Prof. Dr. Rainer Maurer - 8 -

9. http://www.youtube.com/watch?v=d0nERTFo-Sk Prof. Dr. Rainer Maurer - 9 -