Is Keynesian Economics Dead?

Since capitalism's beginnings, the market economy has been subject to fluctuations, to booms and busts. Capitalist economies are not self-adjusting: market forces might eventually restore an economy of full employment, as Keynes said, but in the long run we are all dead. Keynes proposed clear prescriptions for hard economic times: expansionary monetary and fiscal policy. He thought fiscal policy particularly important in situations where monetary policy was likely to be ineffective.

In advanced economies, Keynesian economics is the bread and butter of economic forecasting and policy making. Expansions are longer and downturns shallower and shorter, because Keynesian prescriptions work. Of course, theory and practice have been refined. The theory of asymmetric information provides much of the micro-foundations for modern macroeconomics. But some of the simplest and most important precepts, formulated well before these micro-foundations were well established--such as the fact that temporary income tax cuts are unlikely to be effective, while temporary investment tax credits can be extremely powerful--are as valid today as ever.

We learn from economic policy failures as well as from successes. When the IMF forced large expenditure cuts in East Asia, output in those countries fell--just as Keynesian theory predicted.

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