Old habits die hard. This has certainly been true for the American policy makers. It’s quite astonishing, to say the least, that the U.S. government did not burn themselves badly enough during the Great Depression. Today, the government continues to advance the same “solutions,” based on Keynesian economics, as was used eighty years ago.  

On July 19th in the Financial Times, reporter Niall Ferguson argued that “In some ways, of course,this is not an argument about economics at all. It is an argument about history.” Many parallels can be drawn between the current recession and the Great Depression. Both periods were marked by large deficits, multiple bankruptcies and a negative spillover effect on the global economy. In terms of the American response, similar policies were practiced in both scenarios. Each time, those in power choose to turn to John Maynard Keynes and used massive government spending in order to “stimulate” the economy.

The main point Keynes advanced in his General Theory was that spending was good, and saving was bad. He argued that the only way out of a recession is to spend your way out of it.   

Yet if we look at history, the evidence suggests that loose fiscal policy is not the ladder to prosperity. Two UCLA economists, Cole and Ohanian, reported in 2004 that if the government had forgone this massive government spending and instead maintained a more prudent budget during the 1930s, the Great Depression would have ended 7 years earlier than it actually did.

Keynes’ biggest pitfall was his failure to acknowledge human expectations. Consumers recognize that they are being prodded to spend more than they own, and they further recognize that there will be a high cost to pay for government’s current spending binge. A poll done by the Financial Times recently said that “45% of Americans ‘think it likely that their government will be unable to meet its financial commitments within 10 years’. Surveys of business and consumer confidence paint a similar picture of mounting anxiety.”  That anxiety is encouraging businesses and consumers to forgo investment in the economy, which is one of many reasons that growth is happening at a slow rate. 

Undercover Economist blogger Tim Harford labeled Keynes’ General Theory as “a work of genius”; however, historical evidence and modern economic theory shows us that it is generally just flawed. As economist Gene Smiley articulated, “Although an increasing number of economists have come to doubt [the Keynesian] view, the general public still accepts it.“American politicians and policy makers need to find a new economic Bible to shape a credible exit strategy around. If we continue to adhere to Keynes’ models, we are not the only ones who will be dead in the long run. The global economy will be too.