Is monetarism dead? Has the resurgence of Keynesianism already peaked?

• Author: Issing, Otmar

Hasn't the theory of monetarism been consigned to the scrap heap along with other discarded theories? Aren't monetarists an endangered species? The answer seems obvious. The name of the economist who for a time was held to be the very antithesis of monetarism is now on everyone's lips.

"Keynes is back." That's the message proclaimed in one way or another by large numbers of academic papers and newspaper headlines. And all over the world, a historically unprecedented expansion of government spending programs and a veritable explosion of budget deficits are infused with the Keynesian spirit.

KEYNES VERSUS FRIEDMAN

The Keynes renaissance comes as no surprise. Beginning in 2007, the global economy was plunged into a severe crisis comparable only to the post-1929 Great Depression. Keynes's General Theory of Employment, Interest, and Money of 1936 marked a turning point in economic theory and practice, offering the conviction that by managing demand, unemployment could be eliminated and full employment ensured. This view later came to dominate policy, particularly in the English-speaking countries, but its influence was also felt throughout the academic debate. John R. Hicks characterized the period 1950-1975 as the Age of Keynes.

This dominance of Keynesianism was finally undermined by two developments. The first was new theoretical and empirical research, chiefly associated with the American economist Milton Friedman. The work of those economists, who soon came to be termed "monetarists," called into question fundamental elements of both Keynesian theory and the economic policy it underpinned. Growing skepticism toward Keynesian thinking concerning the effectiveness of fiscal policy and its multiplier effects, the disregard for money and monetary policy, and the hubristic attempt at fine-tuning the economy--was replaced by growing support for monetarism.

The second development, just as important, was that Keynesian policy had failed to deliver in practice. No one could have conceded this more plainly than then-British premier James Callaghan in his speech to the Labour Party Conference in Blackpool in September 1976: "We used to think that you could just spend your way out of a recession and increase employment by cutting taxes and boosting Government spending. I tell you, in all candor, that that option no longer exists, and that insofar as it ever did exist, it only worked by injecting bigger doses of inflation into the economy followed by...