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The Financial Crisis and Policy Response: A Post Keynesian Perspective


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Responses and Reforms to the Global Financial Crisis session at 12th International Conference

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The Financial Crisis and Policy Response: A Post Keynesian Perspective

  1. 1. Dr Manjira Dasgupta M.S. University of Baroda Presented at the 12th International Conference on Post-Keynesian Economics of the Levy Economics Institute, Kansas City, Missouri September 2014
  3. 3. The Crisis and the shock: Mainstream reaction “ “This crisis … has turned out to be much broader than anything I could have imagined … (We) are in a state of shocked disbelief … (The) modern risk management paradigm held sway for decades. The whole intellectual edifice, [has] collapsed.” ….. 3 Contd. Manjira 10/20/2014
  4. 4. …“I still do not fully understand why it happened, and obviously to the extent that I figure it happened and why, I shall change my views.” (Alan Greenspan, Testimony before Congressional Committee Oct 23, 2008, cited in King 2011 p 11). 4 Manjira 10/20/2014
  5. 5. And Yet… Krugman (1997): “The unemployment rate will be what Alan Greenspan wants it to be, plus or minus a random error reflecting the fact that he is not quite God.”  Federal Reserve: capable of successfully managing aggregate 5 demand to the fullest and ensure price stability  Dominant consensus: fiscal policy could not, and should not, be the instrument to correct fluctuations. Natural Questions:  What were the defining features of this “structure”?  How and why did it fail to predict the Crisis?  Why was neoclassical thought unable to provide solutions to it?  What answers do heterodox approaches, Post-Keynesian economics included, hold to the myriad problems thrown up by the crisis? Manjira 10/20/2014
  6. 6. Neoclassical Structure: Defining Elements .. … And their direct bearing on the unfolding of the Crisis 2007 onwards:  Efficient Market Hypothesis  Rational Expectations  Policy Ineffectiveness  Neutrality of Money Implications: Markets would clear themselves automatically. 6 Manjira 10/20/2014
  7. 7. How do such constructs lead directly to the Crisis?  Increasing “financialization” (Minsky, among principal prophets)  Increasing complexity, bewildering proliferation of financial instruments and derivatives  Passing by the name of “sophistication”  Lack of regulation  lack of transparency  Money Manager Capitalism  Bubbles Neoclassicals operated on the certainty (ergodicity) presumption That a crisis was brewing, and could in deed burst some day, was beyond perception. 7 Manjira 10/20/2014
  8. 8.  “There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.” - Ludwig von Mises (1958) 8 Manjira 10/20/2014
  9. 9. Direct corollary of the Ruling Mainstream:  Discrediting of fiscal policy.  Envisaged role of fiscal policy in the so-called “New consensus”.  Minimum fiscal policy: “Great Moderation” Attitude to fiscal policy:  Critical and crucial differences between the so-called “New Economic Consensus” and post-Keynesians. 9 Manjira 10/20/2014
  10. 10. Difference with Heterodoxy: “For Eichner (1985), a clear difference between neoclassical and Post Keynesian economics is that Post Keynesians desire to “explain the real world as observed empirically”. (Holt & Pressman p 4)  Approaches like Post-Keynesian work in a non-ergodic world.  At core: the famous Minskian financial instability  Crisis are “embedded” (Dejuán 2013)  Role of government  Non-neutrality of money (Question: Is there a single, coherent, “Post-Keynesian” body of thought?) 10 Manjira 10/20/2014
  11. 11. Post-Keynesian Thought: Strands  Eichner (1973): At least two overlapping traditions  Marc Lavoie, others have identified at least five (5) distinct strands  Finally, there are “cross-over” theoreticians who hae comfortably traversed and straddled across the traditions  (Prof. Lavoie himself considers himself to be such a contributor and collaborator in diverse Post- Keynesian themes). “cross-over” 11 Manjira 10/20/2014
  12. 12. CRISIS: A TIMELINE  :  Source: Hewitt (Feb. 2009) 12 Manjira 10/20/2014
  13. 13. The Crisis: Critical Turning Points  Large-Scale and unprecedented Bail-out by Government of Banks and Financial Institutions  Wray (2012): The unprecedented—and “possibly illegal” nature of the Fed’s response by extending the government’s “safety net” to the biggest financial institutions. 13 Manjira 10/20/2014
  14. 14. THE RESPONSE: ONE REPRESENTATIVE STIMULUS PROGRAM  Source: Hossain et al (2009) 14 Manjira 10/20/2014
  15. 15. 15 FROM STIMULUS TO AUSTERITY Manjira 10/20/2014
  16. 16. Policy Regime Change:  Two Major, vociferous demands  For one, what was deemed to be unproducive and unjustified government spending  Simultaneously, concern with a mounting debt-GDP ratio as spendings grew  Austerity: The Major Steps:  Immediate scale back of spending, prticularlt in areas deemed as “no productive” enough  Large-scale reversal of tax cuts, a comeback to the recessionary spectre 16 Manjira 10/20/2014
  17. 17. Policy Responses: The Post-Keynesian Perspective  Post-Keynesians:  Austerity ill-advised on at least two critical rationales:  Its enormous social and human costs 17  Dramatic examples: Greece, Spain  More significantly, declining GDP growth has implied re-emerging high debt-GDP ratio, the very reason why austerity had been demanded in the first place.  Manjira 10/20/2014
  18. 18. What have we Learnt?  Policy Lessons to take home:  Re-instating fiscal policy  “Functional Finance”, as distinct from “Sound Finance” (Lerner)  Automatic stabilizers are no longer infallible  Greater, indeed, “Activist” role of Government  Orthodoxy must yield to Heterodoxy, including Post- Keynesianism to show the way ahead. 18 Manjira 10/20/2014
  19. 19.  … theoretical, methodological and pedagogical issues are still being debated and discussed among Post Keynesians, but this is what you would expect from a vibrant and dynamic economic theory. This sort of discussion goes on within every economic paradigm or perspective, including in the dominant neoclassical paradigm. These … internal debates– (revolving) around refining the paradigm and solving its internal puzzles— do not detract from the more important point that most of the key methodological and theoretical work has been done, and that the foundation of Post Keynesian Economics is well established. … it is time for Post Keynesians to take their work beyond methodology and theory, … and enter a new stage (focussing on) public policy and empirical analysis.” (Holt et al 2011) 19 Manjira 10/20/2014
  20. 20. bibliography 20 Manjira 10/20/2014
  21. 21. 21 Manjira 10/20/2014