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At least the video presents some very simplified versions of the two economists, though it leaves the impression that Keynes condoned mal-investment and was in favor of the animal spirits. They show Keynes getting drunk. If he did he could hold his liquor. He made out rather well through the Depression and was a canny investor. I do not know how involved Hayek was as an investor or how he fared.

Keynes did provide understandable explanations of the aggregate functioning of the markets for the general public. The Great Slump of 1930 is an excellent introduction. Using simple arguments with ratios of first, the cost of production going into consumer goods vs. capital goods, and second, the amount of total wages spent on consumption vs. savings, he shows how booms and busts can be created.

First the conditions for a boom:

  • the total amount spent on production constitutes the national income.
  • let 80% of national income be spent on consumption and 20% on capital goods.
  • let 90% of total wages be spent on consumption and 10% on savings.
  • since the wages for both the producers of consumer goods and capital goods go into consumption, 90% of total national income would be spent on consumer goods produced by 70% of total production capability. Lots of spending chasing not so many goods gives rise to high prices and profits to producers. Lenders will be happy to provide capital for new production, as it will be seen as profitable. Good times! Everyone is confident.

The conditions for a bust:

  • Bad news! The bankers used our money on bad bets and lost it all. Banks are failing. Your bank could be next.
  • People pull their money out of banks and bury it in coffee cans in the back yard.
  • People stop spending on all but bare essentials. (Sounds familiar.)
  • Lenders are no longer willing to lend. Producers are no longer willing to borrow.
  • The ratios change. There is zero capital investment so 100% of production is for consumption. But people are now afraid and are saving 20% of their earnings.
  • Now there is a glut of goods and a dearth of buyers. Prices fall. Producers lose money and lay off workers. Consumption drops further. Everyone becomes more afraid. The economy is in a death spiral.

Keynes noted that the government could, in these circumstances, increase spending. But he did not recommend that the government give people money to visit the casino. The government needed to spend on capital goods. It was simply obvious during the Depression that the spending should be on things that would benefit society and result in future increases in productivity, such as roads, schools, parks courthouses, energy sources, etc.

Military spending counted as well, although in a different way. The spending produced military power that helped insure the nation retained control of its own destiny but it also produced goods that the domestic consumer could not buy. In that regard it produced the same effect as producing capital goods. Now only a fraction of the national production was being expended on consumer goods and more people were employed, so there was again upward pressure on prices.

From my point of view, Keynes' explanation worked AND made sense. I will leave an exposition of Hayek to others, perhaps ManFromMiddelton. My impression is that Hayek's explanation also worked, but to a different end. While Keynes provided a model that enabled the economy as a whole to function for all, Hayek provided a model that diverted a larger portion of the total production of that economy to those who had the surplus capital and did the lending. When a small group of people end up with all the money and assets and become afraid to use the money because of the mess they made things are going to go very badly indeed. As they are.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Jan 26th, 2010 at 10:24:01 PM EST

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