Keynesian Economics and Marriner Eccles

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          “The outstanding faults of the economic society in which we live are its failure to provide for full employment and its arbitrary and inequitable distribution of wealth and incomes.” – John Maynard Keynes [1]

          The inequitable distribution of incomes and wealth has all but destroyed the American economy, and another depression is waiting at the doorstep.  Understanding the mechanics of Keynesian economics is now crucial.   

          Monetary policy (manipulation of interest rates) and fiscal policy (control of government spending) are the two Keynesian tools for influencing employment (while controlling inflation).  The tax structure and business regulation are the mechanisms for preserving a reasonable distribution of wealth.

          Although lowering interest rates tends to stimulate investment, and therefore employment and production, Keynes nonetheless concluded that monetary policy (adjusting interest rates) would, by itself, be an inadequate tool to control growth and employment:

            “[I]t seems unlikely that the influence of banking policy on the rate of interest will be sufficient by itself to determine an optimum rate of investment.  I conceive therefore, that a somewhat comprehensive socialization of investment will prove the only means of securing an approximation to full employment.”[2]

          In other words, government needs to use fiscal policy when the incentive of low interest rates is not enough to provide needed economic stimulus.  Government can invest directly in infrastructure (e.g., the programs of the “New Deal” in the 1930s), or increase consumer spending in other ways (e.g., paying for medical care). 

          Such spending injects money into the economy and increases the demand for goods and services.  To stimulate the economy, government needs to spend more than the tax revenues it receives.  This is called “deficit spending,” and it involves borrowing money. 

          One way to get there is to reduce taxes without reducing spending.  When after-tax incomes rise following a tax reduction, people spend portions of the increment according to what economists call their “marginal propensity to consume.”  As Keynes famously explained, to increase economic activity and jobs, the community’s overall “propensity to consume” must be increased. [3] 

Cutting taxes for the rich depresses the economy, cutting taxes on lower incomes stimulates the economy.

          Very wealthy people spend a lot, but they can’t spend all they have, so they tend to max out, spending to the limit of their desires.  When their incomes rise, therefore, they save most of the increase, which is to say they have a very low marginal propensity to consume.  Reducing their taxes, therefore, reduces the community’s overall propensity to consume.

          On the other hand, low-income people have a very high marginal propensity to consume, so cutting their taxes or putting money in their hands increases the demand for goods and services and the community’s overall propensity to consume, stimulating employment and production.  In fact, the best stimulus is provided by unemployment insurance, because all or nearly all of that money is quickly spent, reentering the economy.

          In his excellent book “Aftershock: The Next Economy and America’s Future,” [4] Robert Reich points out that Marriner Eccles, a successful banking and business entrepreneur and President Roosevelt’s Governor of the Federal Reserve Board during the Great Depression, had this same demand-side insight:

          “Eccles wondered why anyone would invest when the economy was so severely disabled.  Such investments, he reasoned, ‘take place in a climate of high prosperity, when the purchasing power of the masses increases their demands for a higher standard of living and enables them to their bare wants.’”

          Eccles, Reich says, “merely connected the dots.”  In 1933, three years before the publication of Keynes’ “General Theory,” his proposed program “included relief for the unemployed, government spending on public works, government refinancing of mortgages, a federal minimum wage, federally supported old age pensions, and higher income taxes and inheritance taxes on the wealthy in order to control capital accumulations and avoid excessive speculation.  Not until these recommendations were implemented, Eccles warned, could the economy be fully restored.” [5]     

         If America continues to apply the destructive prescriptions of Reaganomics, a second depression is inevitable, and it may come come soon.  Tax revenues from the lower income brackets have declined from the recession, creating a federal deficit crisis.  State government income tax revenues have declined as well.  The way out lies in real economics, Keynesian stimulus policies, as was used by Marriner Eccles for America’s recovery from the Great Depression.  

          Fiscal policy will be a crucial component of any comeback.  The bankrupted United States is at the point where additional borrowing for stimulus would be counter-productive.  The only way out is the way proposed by Robert Reich [6] and many others: increased taxes on the wealthy and increased social spending. An excellent and probably necessary component of the recovery will be fixing the health care system to provide universal health care, saving billions of dollars, which will then be available for recovery, productivity, and growth.   

          This will require a great political awakening and change in America, for today the ultra-right wing agents of the top 1% are controlling the media and the courts and driving America headlong in the opposite direction, holding taxes on wealthy people’s incomes and corporate profits far below minimum reasonable levels, while dismantling what is left of government programs for the bottom 99% of Americans and their economy.  This is holding down the economic communy’s overall “propensity to consume.”   

JMH – 4/8/11

 ________

[1] John Maynard Keynes, The General Theory of Employment, Interest, and Money, first printing 1935, Harvest/Harcourt, Inc., 1953, 1964 ed., 1991 printing, p. 372.   

[2] Id. at  373.

[3] Id. at 245-248, 378.

[4] Robert B. Reich, Aftershock, the Next Economy and America’s Future, Alfred A. Knopf , 2010, Chapter 1.

[5] Id. at 13, 15. (Emphasis added.)

[6] Reich proposes a 55% marginal tax rate for the top 1%.  COmpared to the 70% rate in effect at the start of the Reagan Revolution, that’s a relatively modest proposal.  It would be a good start toward establishing an optimum distribution of inome and wealth.

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4 Responses to Keynesian Economics and Marriner Eccles

  1. Pingback: Econ 101 |

  2. Pingback: Reaganomics |

  3. Hi there! This post couldn’t bee written any better!
    Looking through thks post reminds me oof my previous roommate!
    He constantly kept talking about this. I’ll forward this article to him.

    Fairly certain he’ll have a great read. Thank you
    for sharing!

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