Was Keynes Right...Once? (A Bleg)
Chatting with John Stossel yesterday--we devoted an episode of Uncommon Knowledge to his new book, No They Can't: Why Government Fails But Individuals Succeed--I mentioned a question in economics that had always puzzled me. It puzzled John Stossel, too.
We conservatives and libertarians agree that government intervention in the economy tends to make matters worse, not better. During the 1930s, for example, the New Deal did almost nothing to improve the economy, except, perhaps, contribute to a second dip--a depression within the depression--around 1938.
But--and here's the question John Stossel and I puzzled over--what about the war years? As the nearby chart indicates, from 1941 to 1945, GDP per capita grew dramatically. What was the government doing? Well, it was spending massively, borrowing at levels without any precedent in American history, imposing wage and price controls, targeting certain industries for investment, and generally behaving as if John Maynard Keynes--or even (shudder at the thought) Paul Krugman--had been made dictator.
During the Second World War, in other words, Keynesian economics...actually worked.
I'm sure that can't be right. For the life of me, though, I can't figure out what I'm missing.
Can you?
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Nov '10
Re: Was Keynes Right...Once? (A Bleg)
Russ Roberts!!!!
Sep '11
Re: Was Keynes Right...Once? (A Bleg)
So if we build a plane, which is destroyed the first day it sees action, what is the effect on the GDP? My guess is that it is considered a net gain, that is, its creation is added to the GDP, and its destruction is never subtracted. Which, I think, speaks to the general usefulness, or lack thereof, of GDP numbers. During the Clinton/Bush/Greenspan/Bernanke housing bubble hundreds of billions of dollars of houses were added to the GDP, but now that those houses are worth half as much as their GDP-boosting sale price, many are rotting away unoccupied, and some are even being bulldozed, we don't go back and say, "actually the GDP numbers for 2006 were wildly inaccurate." By treating GDP numbers as meaningful regardless of what is actually created, or not created, we enable ourselves to be endlessly manipulated by the state.
Oct '10
Re: Was Keynes Right...Once? (A Bleg)
As many have said, GDP does not measure economic well-being. The best person to read on this issue is Bob Higgs. He has been on Econtalk several times. Looking forward to having Russ Roberts on the podcast.
Oct '10
Re: Was Keynes Right...Once? (A Bleg)
Someone above made the comment that the GDP measures what we produce, not what we consume. I think that's half right. It does measure what we consume, but it does not directly measure the utility we get from the consumption of those items. What it does is use prices to approximate this. It assumes that the utility we get out of those items produced/consumed is reflected in the price of those items. In other words, higher priced items reflect greater utility. But in WWII, prices were meaningless, primarily because of rationing. There were many items that were just not available at any price. As a result, GDP was not very meaningful.Listen to Econtalk episode with John Papola for more on this.
Oct '10
Re: Was Keynes Right...Once? (A Bleg)
EJHill: Peter, there is one major equation most modern economists omit. While the United States went massively in debt it did so to its own citizens. By January 3, 1946 more than 85 million Americans — half the population — purchased War Bonds totaling $185.7 billion.
Those billions were returned plus interest. And with their War Bond savings Americans built homes, bought cars, bought into a new gadget called television and raised their families.
There is a good reason that most economists omit that fact! (Well, almost all economists.) Just because we borrow from ourselves, doesn't make the burden go away. The burden of the spending is reflected in the fact that taxes still need to be raised to pay the money back, regardless of who the lender is.
Saying that the debt is not a burden if we borrow it "from ourselves" justifies any level of government spending. It implies that the government can spend an unlimited amount of money as long as only Americans are allowed to lend the money. But we know that's not true.
Jan '12
Re: Was Keynes Right...Once? (A Bleg)
Todd - It does not measure what we consume at all....it only measures what we produce. It is a pure formula that subtracts net imports (items we consume but don't produce). If everything we consumed was produced by China and we only sent them $ bills for it, our GDP would be zero. Conversely, if we exported everything we produced and had no imports, we would have positive GDP but no c0nsumption (this obviously excludes any investment in capital).
Since we generally consume most of what we produce, GDP certainly has a directional and relatively close relation to consumption but the purpose of GDP is to measure what is produced...it stands for Gross Domestic Product.
Your point in regards to GDP being measured in prices and useful only to the extent the price mechanism accurately reflects value is a good one, but it is measuring the prices of items produced.
Oct '11
Re: Was Keynes Right...Once? (A Bleg)
I'm coming to this late, so I'm sorry if someone already posted this:
http://www.youtube.com/watch?v=GTQnarzmTOc
Around the 3:00 minute mark:
Keynes: Do you do deny World War 2 cut short the depression?
Hayek: Wow. One data point and you're jumping for joy.
The last I checked, wars only destroy.
There was no multiplier; consumption just shrank
as we used scarse resources for every new tank.
Pretty perverse to call that "prosperity."
Ration meat, ration butter; a life of austerity.
When that war spending ended, your friends cried disaster,
yet the economy thrived and grew faster, faster.
Oct '11
Re: Was Keynes Right...Once? (A Bleg)
Oh! Mark Wilson beat me to it. Well, it bears repeating; EconStories is just that damn good.
Oct '10
Re: Was Keynes Right...Once? (A Bleg)
But if an item is not consumed - sold - than how can it show up in GDP? For an item to show up as being produced, it has to have been sold. I think we are talking about different things.
Edited on April 24, 2012 at 8:32pmMar '11
Re: Was Keynes Right...Once? (A Bleg)
The real problem is we don't know what would've happened if what did happen didn't happen.
Re: Was Keynes Right...Once? (A Bleg)
Keynsian theory was designed to raise employment rates. I don't think GDP was developed yet as an indicator when Keynes formed his theory.
To be fair to Keynes, you'd have to look at unemployment rates to determine if the government investment worked or not.
Of course Keynsian investment can work to raise employment. It's a mere matter of math, so I always get puzzled when Keynsians and free marketeers both act as if their souls are at stake over the outcome of spending policy.
The bigger picture is that Keynes himself warned that his theory was a fix, and not a way of governing, as too much of it could lead to fascist regimes. Hayek agreed on both points.
Since Fascism (the economic positions of it) is now a politcally incorrect term even in most intellectual discussions, we just can't talk about how close to the F word all these trillions in spending is taking us.
Jan '12
Re: Was Keynes Right...Once? (A Bleg)
Todd
But if an item is not consumed - sold - than how can it show up in GDP? For an item to show up as being produced, it has to have been sold. I think we are talking about different things. · 1 hour ago
Edited 56 minutes ago
Todd - Something does not have to be sold to show up in GDP. An increase in inventory would increase GDP even though those items have not been sold yet. Also, if something is exported (produced in the US and sold in Canada), this would increase GDP although US citizens did not consume the product. Conversely, when we import something, this does not increase GDP even though we consume it.
Feb '12
Re: Was Keynes Right...Once? (A Bleg)
I'm an economist and I blogged about this in an understandable way once, with lots of good links. It seems to be showing up only in a cache in Google now, but look for "Eric Rasmusen World War Keynesian Stimulus" or try:
http://webcache.googleusercontent.com/search?as_qdr=all&num=30&oe=utf-8&rls=org.mozilla%3Aen-US%3Aofficial&client=firefox-a&hl=en&q=cache:A9ExBHk5ECMJ:http://rasmusen1.blogspot.com/2009/01/keynesian-stimulus-and-world-war-ii.html+rasmusen+weblog+world+war+2&ct=clnk
Oct '10
Re: Was Keynes Right...Once? (A Bleg)
Big Green
Todd - Something does not have to be sold to show up in GDP. An increase in inventory would increase GDP even though those items have not been sold yet. Also, if something is exported (produced in the US and sold in Canada), this would increase GDP although US citizens did not consume the product. Conversely, when we import something, this does not increase GDP even though we consume it.
I thought that inventory only shows up in GDP only to the extent that it shows up in someone else's income - the suppliers of the materials and the labor. The difference between the market value and the cost of the inventory (i.e. profit) only shows up in GDP after it is sold.
Re: Was Keynes Right...Once? (A Bleg)
Duane Oyen: Peter, Russ Roberts did an EconTalk episode with Valerie Ramey of UCSD, the subject was Keynesian multipliers, and it turns out that the only good dataset available to allow measurement of spending multipliers where you can adequately separate the factors was WWII. The audio, and the transcript summary, are both here. Highly recommended.
The "multiplier" is between .8 and 1.2- in other words, on average, 1, or, translated, "zero net effect". The war years created serious private consumption austerity, GDP per capita was high because everybody was working- we exported all 6 million unemployed men overseas and paid them almost nothing to carry rifles. If you were in the US, you were working and producing, under a wage-controlled regime, so output per dollar of labor could peak as well.
Pretty unique situation. · 22 hours ago
Thanks tons for pointing this out. I'll be talking to Russ in a couple of days, and I'll be sure to ask him to elaborate.
Jan '12
Re: Was Keynes Right...Once? (A Bleg)
Todd
Big Green
Todd - Something does not have to be sold to show up in GDP. An increase in inventory would increase GDP even though those items have not been sold yet. Also, if something is exported (produced in the US and sold in Canada), this would increase GDP although US citizens did not consume the product. Conversely, when we import something, this does not increase GDP even though we consume it.
I thought that inventory only shows up in GDP only to the extent that it shows up in someone else's income - the suppliers of the materials and the labor. The difference between the market value and the cost of the inventory (i.e. profit) only shows up in GDP after it is sold. · 9 minutes ago
Changes in inventory show up in the "Investment" line in GDP accounts. These (as are all GDP accounts including Consumption) all "netted" out so that production of the same object is not counted twice. If inventory increases during a period, GDP will increase (all else equal) and if inventory decreases, GDP will decrease even though in this situation, many of the goods sold out of inventory increase consumption.