Keynesian fail – manipulating “aggregate demand” does not equalibrate the supply and demand for inputs

A basic understanding of the price mechanism exposes the pseudo-science of Keynesian economics:

It was John Maynard Keynes .. who ultimately succeeded in rehabilitating a view long the preserve of cranks ..  He had attempted by a succession of new theories to justify the same, superficially persuasive, intuitive belief that had been held by many practical men before, but that will not withstand rigorous analysis of the price mechanism: just as there cannot be a uniform price for all kinds of labour, an equality of demand and supply for labour in general cannot be secured by managing aggregate demand.  The volume of employment depends on the correspondence of demand and supply in each sector of the economy, and therefore on the wage structure and the distribution of demand between the sectors.  The consequence is that over a longer period the Keynesians remedy does not cure unemployment but makes it worse.

It’s your Hayek Quote of The Day courtesy of Economic Thought.

4 comments to Keynesian fail – manipulating “aggregate demand” does not equalibrate the supply and demand for inputs

  • Has anyone read or showed this quote to Nancy Pelosi?

  • ‘The volume of employment depends on the correspondence of demand and supply in each sector of the economy, and therefore on the wage structure and the distribution of demand between the sectors.’

    This is all very well for a barter economy, but in a monetary economy potential demand may fail to become effective demand due to a lack of money ‘in the right place’.

    Applying that money to the ‘right place’ may be problematic, but the theoretical basis is perfectly sound once you accept the existence of money!

    There’s an interesting piece on Hayek and Keynes by Robert Skidelsky at http://ineteconomics.org/sites/inet.civicactions.net/files/INET%20C%40K%20Paper%20Dinner%201%20-%20Skidelsky.pdf

  • Greg Ransom

    Diarmid,

    Hayek has two arguments.

    1. Keynesian theory tells people to put the money in exactly the WRONG places (typically and in most situations).

    2. The “knowledge problem” make this not “problematic” but effectively IMPOSSIBLE, by any means other than magic.

    Diarmid writes:

    “Applying that money to the ‘right place’ may be problematic”

  • The knowledge problem surely also applies to firms and individuals planning for the future. Keyness central message is that in a monetary economy this fundamental uncertainty can lead to a self-fulfilling cycle of economic inactivity.

    The relevant aspect of the Skidelsky link I gave above, is that he claims that Hayek and his closest contemporary followers eventually accepted that something had to be done about the human suffering and capital loss of the 1930s. Whatever the causes of the depression, if a general increase in liquidity and the government-directed utilisation of otherwise idle labour and resources could bring relief in the short run, it might be justified.

    The knowledge problem presumably also applies to economists, so best not to pin all your hopes to one or other of them!

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I want to express a very belated thanks to Friedrich A. Hayek. His work had much more of an influence on me than I realized during the writing of [_The End of Liberalism_] . I neither began nor ended as a Hayekist but instead found myself confirming, by process of elimination and discovery, many of his fears about the modern liberal state. — Theodore Lowi

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