John Maynard Summers

Jeff Harding

Friday’s Wall Street Journal’s Econ Blog reported on a speech Obama economic adviser Larry Summers gave to the Council on Foreign Relations.

John Maynard Summers

It was a very revealing speech: a detailed rationale for the Administration’s policies and actions. What is most revealing about it is that Summers’ view of economics and economic history is … not very nuanced. It is a simplistic view of economics seen entirely through the eyes of John Maynard Keynes. He accepts Keynes whole cloth, without question. It is as if he had never heard of any economic theory other than the standard Keynesian textbook version penned by his uncle Paul Samuelson 60 years ago. (Samuelson did more to set economics back than any other person in America because of the influence of his economics textbook, Economics. For an excellent critique of Keynes’ General Theory, see The Failure of the New Economics by Austrian, Henry Hazlitt.)

One would expect the most powerful adviser on economics in the Obama Administration to be more inciteful, considering his illustrious career.

For example he cites FDR’s imitation of fascism in his radical economic and social policies as “today understood to have helped preserve the market system.” In other words, he believes the destruction of a market economy through central planning actually helped to preserve it. He states that the Obama Administration’s position is to also save capitalism from its excess, just like FDR.

Here are the assertions he makes in his speech:

1. The fiscal and monetary stimulus program appears to be working.

Summers is citing the usual ‘green shoots” stuff that all the optimists are talking about. In fact he has no way of knowing if the program is working. In fact, even if Keynesian stimulus were working, he would only be guessing as to cause and effect.

I would say that the fact the Fed has pumped so much cash and credit into the economy that incipient inflation may be the reason for the “green shoots,” not any fundamental turnaround of the underlying economy. And, as those who follow this blog know, there is a vast difference between actual economic growth and inflation. The problems still exist; the Fed is just papering them over.

2. The government was “forced” to take equity positions in Citigroup, AIG, and GM.

This is definitely a novel idea: government propping up failing businesses to keep the economy from correcting itself. This has been tried and tried and always has failed. Hoover did it, Roosevelt did it, the Japanese did it during the lost decade+ (and are doing it now) and it never worked. While these companies may survive, no one is seeing the other side of the argument: what the negative, unforeseen consequences of these actions are. I believe that GM will ultimately fail because I don’t think the Obama administation will let the union wage contracts fall. AIG will be split up and the bad parts left over will be owned by us taxpayers. Citigroup? Why reward these guys for incredibly bad management?

The only thing that “forced” the government to act was politics, not economics.

3. “Vicious cycles” have created circumstances beyond the market’s ability to correct itself making government intervention absolutely necessary.

Here’s the most interesting point in his speech, in my opinion. He notes that these “vicious cycles” keep happening but he doesn’t offer any explanation of them other than as a “breakdown” of the markets. Ditto Mr. Keynes. As far as Keynes got was that they were caused by falling demand (i.e., consumer spending) which was the result of our “animal spirits.”

He mentions “vicious cycles” three times in the speech. Well, I am happy to illuminate him on this topic because it is something I have read a lot about. Cycles, Mr. Summers, are caused by central banks’ continuous inflation and deflation of the money supply in an attempt to cure the problems they created during the previous cycle.

4. Cheating the Chrysler bondholders would have happened just the same if instead of the government acting it was a private investor doing what we did.

He doesn’t exactly put it this way in his speech. His point is that government acts no differently than do private lenders of last resort. Since it’s OK for private lenders to dictate the terms of a bankruptcy reorganization, it’s OK for the government to do it. The fact the unions were favored were to keep good relations with them for future operations.

This is really stretching credulity here. Everyone knows it was an Obama payback to the unions. Secured creditors be damned. How can he expect us to swallow this lie? What does he think the message will be to future financiers of companies that may turn to the government in a financial crisis? Does he not believe that this creates a chilling effect on the financial markets?

5. What the government is doing is the least intrusive they can do and still be stewards of the public’s money.

This is the justification of every government bailout. When you have political payoffs, you say you’ve got to run these companies you’ve taken over to watch “our investment” in, say, GM. Summers states over and over that the last thing Obama wants to do is run these companies, but the fact remains that they have taken a very activist role. If, as Summers says, they were private financiers providing capital as an investment, I would say fine, let BlackRock or Kohlberg, Kravis & Roberts sit their boys at the table because they know what they are doing. I doubt they would be as kind to the unions in a bankruptcy reorganization.

6. We need to increase regulation of the economy to stop these crises we keep having every three years (since 1987).

Everyone of the “crises” he mentions has the stamp of the government on it. These crises are: Latin America debt crisis, 1987 crash, S&L bust, Mexican financial crisis, Asian financial crisis, the LTCM fiasco, and the Dot Com crash. Perhaps I can point to LTCM as being created mostly by faulty risk models designed by Messrs. Merriwether, Scholes, and Merton which failed during the Russian financial crisis. But the rest: central bank monetary manipulations.

Mr. Summers should look to himself for the causes of these cycles.

Years ago, after WWII, it was thought that Keynesian economics was dead. After all during the period of the Twenties through the Fifties, Keynes’ theories had been thoroughly debunked by the Austrians, especially, and primarily, Friedrich von Hayek, Ludwig von Mises, and Henry Hazlitt. It was thought that Keynes was a dead-end of intellectually flawed thought. It was resurrected in the ’60s and ’70s to disastrous results. Monetarism prevailed after that. But since Bush II there has been a wholesale turn to Keynes and the abandonment of free market ideology.

The assertions of Keynesian theory are still taught as mainstream economics in our prestigious universities. The foundations of macroeconomics and econometrics are derived from Keynes. Yet they still have never been able to prove the efficacy of Keynesian policies whenever they were employed. See Japan, AD=C+I+G, fiscal stimulus, and a general critique.

Larry Summers is hugely disappointing as an intellectual and an adviser at the highest level. He is leading us to stagflation.