Farewell to Keynes? Not so fast…

Jun 11, 2010

In the June 8 edition of the Financial Times, Jeffrey Sachs published a provocative assault on Keynesian stimulus.  Specifically, Sachs argued that it was a “dubious proposition” that Keynesian stimulus through expenditure on “shovel-ready projects” could actually “combine short-term cyclical and long-term structural agendas.”  To Sachs, fiscal stimulus on anything but social protection grounds is demagoguery, “a testament to the perennial political attractiveness of tax cuts and spending increases,” and the perennial dream that we can continue our spendthrift ways forever.

To be sure, Sachs is correct to note that there are conflicts between short and long-term agendas, and furthermore, that the United States ultimately has to scale back its addiction to cheap money and excessive borrowing.  It is also hard to argue with the limited value of political winners like “cash for clunkers.” One may even concede his point that it has been the extraordinary steps taken by the Federal Reserve more so than fiscal stimulus which have prevented widely peddled doomsday scenarios from materializing.  (The Fed has played a critical role precisely because it has gone beyond its usual inflation-control mandate, so this is not exactly a victory for the monetarists, but nor does it qualify as traditional “Keynesian” demand management.)

Still, Sachs goes too far in suggesting that there is no plausible way to bring together short-term demand management and long-term structural change in the economy.  In fact, just over a year ago, after the crisis had started, but before it had reached its apogee, a small buzz had developed in the United States around one way to do just that: the creation of a permanent infrastructure bank.  Two businessmen put the case for a new bank persuasively in a New York Review of Books piece in October, 2008. Focusing on the deplorable state of American infrastructure, the authors argued that the federal government was failing in its unique role to finance and coordinate infrastructure investment in the United States.  They drew attention not only to the weakness of new construction, but also the failures of maintenance, which, they suggested, was often more cost-effective than building anew.  As it happens, both houses of the American congress also introduced legislation in 2007 to create a new “National Infrastructure Bank.”

The financial crisis effectively distracted public attention from the idea of an infrastructure bank, and the last hearing on the bill was held two years ago.  But the idea should be revived, and not only in the United States, precisely because it offers a unique opportunity to solve short-term stimulus dilemmas while contributing to long-term economic growth.  The reason is simple: financial crises are a recurring element of capitalist economies, and the need for stimulus is therefore also recurrent.  This converts short-term fiscal stimulus into a long-term concern.  A permanent infrastructure bank can function as a mechanism for marrying short-term stimulus needs with long-term investment demand.

If an infrastructure bank in a given country is responsible on an ongoing basis for coordination of public investment, assessment of project quality and relative cost-effectiveness, and the prioritization of investment based on clear, transparent objectives, then that country will have a list a mile long of shovel-ready investment projects which can be sped up or slowed down as the cycles in the economy demand.  Although he is normally associated with short-term demand management, Keynes himself may have anticipated precisely this kind of hybrid approach to managing economic downturns.  As Lord Skidelsky writes (page 717) in the one-volume edition of his authoritative biography, Keynes at various times exhibited a “distinct bias against fiscal fine-tuning.”  He seems to have preferred “a long-term programme [of investment] of a stable character…capable of reducing the range of fluctuation to much narrower limits than formerly…If this is successful it should not be too difficult to offset small fluctuations by expediting or retarding some items in this long-term programme.”

As usual, rumors of the death of Keynes are greatly exaggerated.  Sachs is right to point out that there are no easy fixes to the global structural imbalances behind today’s economic crisis.  But as we search for both short-term cushions and long-term transformations, we should not ignore the possibility of creating institutions that can fuse both needs.  The question is not if we should promote infrastructure banks, but what they should look like.  This is not the place to sort out all of those details, but what can be said with some certainty is that a bank of this kind should be transparent in the criteria it uses to assess projects, open to scrutiny from civil society, and responsive to market assessments of cost and viability.  When large sums of public money are pumped into infrastructure, external oversight, by some combination of citizens, elected officials and market actors, is essential to minimize corruption.


  1. Another way is to run responsible Budgets in the first place so that stimulus measures (which are shovel ready projects, not bank bail outs) actually work to prevent a GFC from impacting. Australia has spent three decades reducing its once signficant Government deficit to negligible levels, enabling it to spend up big and avert even a technical recession.

    To be sure, there are rarely such clear cut signals for counter-cyclical investment and generally counter cyclical ‘tuning’ has a poor history of success. However, the Sachs article at least appears to start with an underlying assumption of a highly indebted Government, not a necessity of Keynsian theory.

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