Current conventional wisdom has it that business cycles are obsolete; promarket policies have swept recessions into history's proverbial dustbin. The generation of policymakers nurtured on notions of government economic management after World War Il is retiring or dying off, replaced by "new economy" enthusiasts like Bill Clinton, who famously declared in 1996 that "the age of big government is over."
But what happens if the economy slips?
The old-fashioned big-government programs that pulled the U.S. through many an economic downturn have, in the last decade, been mostly dismantled. Many think that the government will resume its recession fighting tactics, should the economy falter - priming the economic pump by cutting taxes and raising spending, as Reagan did in the 1980s and Bush in the 1991 recession. Indeed, Treasury Secretary Larry Summers defended the current administration's plan to pay off the federal debt by contending that Clinton is merely "reloading the fiscal cannon"; saving against the bad times when heavy federal spending and borrowing might be needed.
But the tools of macroeconomic management are not so easily discarded and taken up again; not, at least, in the U.S. political environment. From the 1930s, efforts to push through programs to ameliorate recessions and relieve unemployment in this country have been fraught with controversy and fiercely contested.
The 1930s was when President Franklin Roosevelt's "New Deal" attempted to implement the "Keynesian Revolution" - the programs proposed by British economist John Maynard Keynes to end depressions, such as public-works programs financed through deficit spending. Roosevelt, to be sure, pressed throughout the 1930s to expand federal jobs programs, but did not actually succeed until the Second World War. After the war, it took years of careful and deliberate effort to craft the political and intellectual infrastructure for continued Keynesian policy in the United States. That infrastructure is now largely gone. Putting it back together again will not be easy.
THE KEYNESIAN CONSENSUS
When Richard Nixon declared in 1972 that "we are all Keynesians now", it seemed that the consnsus for active, government management of the economy in the manner was unskable. the consensus for active, government management of the economy in the manner of Keynes was unshakable. Just a few years after Nixon's speech, Congress passed the Humphrey-Hawkins Act, which committed the federal government to use its virtually unlimited taxing and spending powers to avert economic downturns and promote full employment.
In fact though, the Keynesian consensus was already shattering. In 1967, the influential American Economic Association elected arch-conservative and Keynesian nemesis Milton Friedman as its president. In 1969, the prestigious American Economic Review published a paper by Robert Lucas outlining the new theory of rational expectations which purported to "prove" that government macroeconomic policy was useless.
Keynes had taught that the cycle of economic boom and bust could be eliminated with judicious government spending to create demand for goods and workers. By running deficits, governments could fuel economic growth, borrowing idle funds (or printing new money) to pay the employees that private businesses put to work. Known as fiscal stabilization policy or expansionary macroeconomic policy, these tools proved highly effective in combating business cycles. Even those initially hostile to Keynesian ideas in the 1930s could not deny the evidence of World War II when, thanks to massive government spending, the U.S. economy went from deep depression to rapid boom virtually overnight.
But support forged during the war for federal involvement in taming the business cycle and creating full employment proved hard to sustain once the war ended. The American version of Keynesianism, though tepid and watered-down compared to European programs or to Keynes' own proposals, was sufficiently left-wing to galvanize unending hostility in the deeply conservative probusiness arena of U.S. politics. Continued government spending after the war faced determined opposition from businesses who decried swollen government budgets as "creeping socialism" and complained that government programs amounted to "unfair competition" with the private sector. In 1954, one radical economist pronounced Keynesianism in the United States "deader than the dodo."
To be sure, business leaders supported the federal highway program, Cold War military build-up of weapons, and the Korean and Vietnam wars. But they did not support the deficit financing of these ventures, nor did they back using federal programs as tools of macroeconomic management. By the early 1960s, even moderate gestures toward fiscal stabilization had become a hard sell in Congress. Keynesian economists worried openly about "implementation lags" -the yawning gap between the onset of a recession and the time it might take Congress to do something.
FULL-EMPLOYMENT BUDGETING
Throughout the 1960s and 1970s, coalitions of liberals and moderates tried to stem the backlash, quietly constructing a macroeconomic-policy infrastructure that would weave some basic fiscal stabilization into the fabric of federal law. Under the Johnson and Nixon administrations, federal entitlement programs - Social Security, Medicaid, Medicare, food stamps, and the plethora of welfare programs - were enacted or vastly expanded. Economists called these automatic stabilizers, because, as enacted, eligible applicants could not be denied benefits for lack of funding. Thus government's mandated spending levels would rise and fall predictably with the unemployment rate. Entitlements legally committed the government to increase spending during economic downturns, regardless of, or despite, sentiment in Congress for Keynesian fiscal policies. Thus the government would automatically send money into the economy via these social programs during downturns.
These programs were neither massive nor generous -especially compared with their European counterparts -but taken together they provided a bedrock level of federal spending in lean years as well as a minimal guaranteed income to prevent wages from plummeting in a recession.
With the sole exception of Reagan's tax cut and military build-up in the early 1980s, automatic increases in entitlement spending have been the only significant source of fiscal stimulus in the United States since 1973. During the recession of 1991, for example, virtually all of the $47 billion increase in the federal deficit came about because of increased welfare and Social Security spending.
Furthermore, Keynesian- trained economists insisted that the budget deficits that resulted when recessions suddenly swelled welfare and Social Security rolls should not really count as deficits at all. In annual economic reports, the president's economic advisors carefully distinguished between a structural deficit - in which the government's budget was out of balance even with a booming economy -and a cyclical deficit-where the deficit soared unavoidably due to rising entitlements and falling tax collections.
Full employment budgeting - the position that balancing the federal budget should take a back seat to expanded financing of entitlements during a recession - sustained Keynesian fiscal policy even during the Reagan-Bush years.
THE END OF MACROECONOMIC POLICY
Though Reagan is credited with killing Keynesian economics, neither the Bush nor Reagan administrations were able to dismantle the policy apparatus inherited from the 1970s. Despite substantial cuts in the average benefit for many welfare programs, for example, total spending on entitlement programs rose throughout the 1980s, contributing (along with tax cuts and a military build-up) to the largest peacetime deficits ever run by the U.S. government. AFDC, Food Stamps, WIC, and other programs, though perhaps stingier than before, enlarged their spending with each downward shift in the economy during the 1980s. Deficits ballooned and a Democratic House resisted major changes in entitlements.
Reagan's budget director, David Stockman, contended in 1984 that Reagan's huge deficits were a deliberate strategy to discredit Keynesian policy and part of a larger plan to undermine congressional support for further expansions of federal spending. While this may well have been Reagan's intention, Keynesian economics was not finished, politically, until Bill Clinton's watch.
Upon attaining a legislative majority in 1994, conservatives in Congress single-mindedly set about dismantling the key legislative vestiges of Keynesian economic policy in the United States. Welfare reform, their most important victory, is instructive. When the Personal Responsibility Act passed in 1996, much was made of the five-year lifetime limit on welfare benefits, the work requirements, and so forth. Rarely noted was the fact that the legislation transformed the fiscal nature of most federal welfare programs. Welfare benefits are no longer an entitlement. Annual spending levels are now capped and will not rise with the unemployment rate unless Congress specifically allocates new funds. It was this provision of the legislation that led official Peter Edelman to resign from the Department of Health and Human Services in protest when Clinton signed the legislation.
The Food Stamp and Medicaid programs remain entitlements in theory, still available to all comers. But in enacting the 1996 reforms, Congress turned responsibility for managing these programs over to local officials who have been known to turn away applicants not already receiving welfare. Meanwhile, conservatives lobby intensely to privatize and effectively dismantle Social Security- the largest of all federal entitlement programs - though so far without success.
Republican leadership had hoped to bury Keynesian stabilization policy altogether by passing a constitutional amendment requiring an annually balanced federal budget, which would put an end once and for all to full-employment budgeting. The amendment failed by one vote to pass the Senate, but conservatives scored a partial victory with the Balanced Budget Agreement of 1997, committing Congress and the administration to balance the budget each year for the next decade, regardless of the state of the economy. Whether the agreement survives an economic downturn remains to be seen, but the strident anti-deficit rhetoric of the last decade will certainly make stabilization policies a tough, if not an impossible, sell.
Over the past year, the outlook for macroeconomic policy has grown bleak indeed. Clinton attributes the economic boom to tough spending caps and fiscal restraint and has made a fetish of further fiscal austerity. White House press releases conceive the future exclusively in terms not simply of budgetary balance, but of burgeoning surpluses and massive debt repayment. Rather than fight recessions or expand jobs programs, $3.5 trillion of tax revenue will buy back federal bonds from financial institutions. Clinton's millennial state of the union address laid out the goal of Clintonomics: "Make America debt-free for the first time since 1835." Candidate Al Gore assures voters that he plans to reduce the debt "even if the economy slows." Sounding uncannily like the ghost of Herbert Hoover or Calvin Coolidge, Gore maintains that a recession will provide "an opportunity" to cut government spending "just like a corporation has to cut expenses if revenues fall." When Bill Bradley floated a modest proposal to use surplus funds for health care, Gore attacked the idea as "fiscally irresponsible," and warned it might plunge the U.S. economy into recession. Hillary running for the Senate from New York, declared that most problems facing the country "cannot be solved by government" and staunchly supported running budget surpluses to pay off the national debt. When Democrats are hawking debt reduction and warning that deficits cause recessions, Keynesian policy has truly drawn its last gasp.
It is no good thinking these statements can be unsaid, conveniently forgotten when the next recession revives talk of an active, pro-employment government. The political programs that buttressed American Keynesianism are gone. The intellectual backing and public rhetoric that sustained Keynesian ideas no longer exist or are dwarfed by the editorial pages of the Wall Street Journal. College economics textbooks, through which hundreds of thousands of voters and policyrnakers learn the rudiments of macroeconomics, barely bother with Keynes these days - or with recessions for that matter. The hottest new text by Gregory Mankiw (for which Prentice-Hall paid an unprecedented $1.4 million advance) does not even mention economic downturns until a few pages at the very end.
LIFE AFTER KEYNES
So what if the "new economy" turns out to be the same old economy? The last U.S. recession officially ended in 1991. In the eight years since, GDP has grown steadily and unemployment rates have fallen. If this is just the start of an endless millennial boom, there is no reason to worry. But what if the U.S. is on the brink of a Y2K recession? This is not the first time in history that Americans have lived through a prolonged boom - the economy grew for eight years straight in the 1960s - but it is the first time since the Depression that politicians and policymakers have rested their hopes so utterly on the boom's continuing.
Many on the left, of course, do not mourn Keynes' passing. Keynes, after all, despised the British Labor party and proudly proclaimed his allegiance to "the educated bourgeoisie." Socialists have long argued that Keynesian programs were meant not to help workers or humanize the economy, but to placate and defuse a potentially powerful workers' movements awakened by the Depression. Environmentalists too criticize Keynesian thinking for its mindless worship of economic growth, its prediliction to solve all economic problems with more production, more work, more growth, more stuff.
But Keynes' understanding of capitalist economies was, nevertheless, profoundly radical. Any effort to construct a new kind of economic policy in the future will need to build on and attend to his fundamental insights. Keynes understood that the matters of debt and budget deficits, of interest payments and paper wealth that so obsess private business people and financial interests are, ultimately, irrelevant to all but the wealthy elite. The central insight of Keynesian thought was that real wealth lies in the people, resources and productive apparatus of a society and that citizens can, through the collective power of government, harness those resources for internal development.
In the early years of the New Deal, government jobs programs funded public art works, community theaters, oral history projects, and the creation of hiking trails in national forests - programs that would warm the hearts of environmentalists and radicals alike. The government disbanded the efforts in the face of business opposition. In the end, Americans got a timid version of Keynesianism, complete with probusiness tilt and anti-government bias, that flexed the collective muscle of government weakly indeed and only at the federal level. The most U.S. Keynesians managed to accomplish was to secure a minimal living standard for the very poor and very old, and to provide a fair number of makeshift defense jobs for the otherwise unemployed.
Should the boom prove not to be eternal, It is inevitable that many voices will call to reestablish the dismantled and discredited programs of postwar American Keynesianism. It will be wasted breath. The real challenge for the new millennium will be to forge a post-Keynesian economic policy. This will entail thinking about how citizens can harness their collective power to produce more leisure rather than more jobs, more equity rather than more income, more conservation rather than more production, more satisfaction rather than more consumption, more quality rather than more quantity.
Ellen Frank teaches economics at Emmanuel College in Boston and is a member of the Dollars & Sense collective.