Tariff

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A tariff is a tax on imports or exports between sovereign states. It is a form of regulation of foreign trade and a policy that taxes foreign products to encourage or safeguard domestic industry. Traditionally, states have used them as a source of income. Now, they are among the most widely used instruments of protectionism, along with import and export quotas.

Tariffs can be fixed (a constant sum per unit of imported goods or a percentage of the price) or variable (the amount varies according to the price). Taxing items coming into the country means people are less likely to buy them as they become more expensive. The intention is that they buy local products instead – boosting the country's economy. Tariffs therefore provide an incentive to develop production and replace imports with domestic products. Tariffs are meant to reduce pressure from foreign competition and reduce the trade deficit. They have historically been justified as a means to protect infant industries and to allow import substitution industrialization. Tariffs may also be used to rectify artificially low prices for certain imported goods, due to 'dumping', export subsidies or currency manipulation.

There is near unanimous consensus among economists that tariffs have a negative effect on economic growth and economic welfare while free trade and the reduction of trade barriers has a positive effect on economic growth. However, liberalization of trade can cause significant and unequally distributed losses, and the economic dislocation of workers in import-competing sectors.

Etymology

The origin of tariff is the Italian word tariffa translated as "list of prices, book of rates", which is likely derived from the Arabic ta'rif تعريف meaning "notification" or "inventory of fees to be paid".

History

Average tariff rates for selected countries (1913–2007)

 

Tariff rates in Japan (1870–1960)

 

Average tariff rates in Spain and Italy (1860–1910)

 

Average Levels of Duties (1875 and 1913)

Great Britain

At the beginning of the 19th century, Britain's average tariff on manufactured goods was roughly 51 percent, the highest of any major nation in Europe. And even after Britain embraced free trade in most goods, it continued to tightly regulate trade in strategic capital goods, such as the machinery for the mass production of textiles.

In 1800, Great Britain with about 10% of the European population, provided 29% of all pig iron produced in Europe, a proportion that reached 45% in 1830; industrial production per capita was even more significant: in 1830 it was 250% higher than in the rest of Europe compared to 110% in 1800.

Tariffs were reduced in 1833 and the Corn Laws were repealed in 1846, which amounted to free trade in food. (The Corn Laws were passed in 1815 to restrict wheat imports and guarantee British farmers' incomes ). This devastated Britain's old rural economy but began to mitigate the effects of Great Famine in Ireland. 

On 15 June 1903, the Secretary of State for Foreign Affairs, the Marquess of Lansdowne made a speech in the House of Lords defending fiscal retaliation against countries with high tariffs and whose governments subsidised products for sale in Britain (known as 'bounty-fed products', also called dumping). The retaliation was to be done by threatening to impose tariffs in response against that country's goods. His Liberal Unionists had split from the Liberals, who promoted Free Trade, and the speech was a landmark in the group's slide towards Protectionism. Landsdowne argued that threatening retaliatory tariffs was similar to getting respect in a room of armed men by showing a big revolver (his exact words were "a rather larger revolver than everybody else's"). The "Big Revolver" became a catchphrase of the day, often used in speeches and cartoons

United States

Average tariff rates (France, UK, US)

 

Average tariff rates in US (1821–2016)

 

US Trade Balance and Trade Policy (1895–2015)

 

Before the new Constitution took effect in 1788, the Congress could not levy taxes—it sold land or begged money from the states. The new national government needed revenue and decided to depend upon a tax on imports with the Tariff of 1789. The policy of the U.S. before 1860 was low tariffs "for revenue only" (since duties continued to fund the national government). A high tariff was attempted in 1828 but the South denounced it as a "Tariff of Abominations" and it almost caused a rebellion in South Carolina until it was lowered. The policy from 1860 to 1933 was usually high protective tariffs (apart from 1913–21) After 1890, the tariff on wool did affect an important industry, but otherwise the tariffs were designed to keep American wages high. The conservative Republican tradition, typified by William McKinley was a high tariff, while the Democrats typically called for a lower tariff to help consumers.

Protectionism was an American tradition: according to Paul Bairoch, the United States was "the homeland and bastion of modern protectionism" since the end of the 18th century and until after World War II. From 1846 to 1861, during which American tariffs were lowered but this was followed by a series of recessions and the 1857 panic, which eventually led to higher demands for tariffs than President James Buchanan, signed in 1861 (Morrill Tariff). 

Between 1816 and the end of the Second World War, the United States had one of the highest average tariff rates on manufactured imports in the world. According to economic historian Douglas Irwin, a common myth about United States trade policy is that low tariffs harmed American manufacturers in the early 19th century and then that high tariffs made the United States into a great industrial power in the late 19th century. A review by the Economist of Irwin's 2017 book Clashing over Commerce: A History of US Trade Policy notes:

Political dynamics would lead people to see a link between tariffs and the economic cycle that was not there. A boom would generate enough revenue for tariffs to fall, and when the bust came pressure would build to raise them again. By the time that happened, the economy would be recovering, giving the impression that tariff cuts caused the crash and the reverse generated the recovery. Mr Irwin also methodically debunks the idea that protectionism made America a great industrial power, a notion believed by some to offer lessons for developing countries today. As its share of global manufacturing powered from 23% in 1870 to 36% in 1913, the admittedly high tariffs of the time came with a cost, estimated at around 0.5% of GDP in the mid-1870s. In some industries, they might have sped up development by a few years. But American growth during its protectionist period was more to do with its abundant resources and openness to people and ideas.

In the 19th century, statesmen such as Senator Henry Clay continued Hamilton's themes within the Whig Party under the name "American System.^{[17][full citation needed]} Before 1860 they were always defeated by the low-tariff Democrats.

During the American Civil War (1861-1865), agrarian interests in the South were opposed to any protection, while manufacturing interests in the North wanted to maintain it. The war marked the triumph of the protectionists of the industrial states of the North over the free traders of the South. Abraham Lincoln was a protectionist like Henry Clay of the Whig Party, who advocated the "American system" based on infrastructure development and protectionism. In 1847, he declared: "Give us a protective tariff, and we will have the greatest nation on earth". Once elected, Lincoln raised industrial tariffs and after the war, tariffs remained at or above wartime levels. High tariffs were a policy designed to encourage rapid industrialisation and protect the high American wage rates.

The Democrats called for low tariffs help poor consumers, but they always failed until 1913. The Republican Party, which is heir to the Whigs, makes protectionism a central theme in its electoral platforms. According to the party, it is right to favour domestic producers and tax foreigners and consumers of imported luxury products. Republicans prioritize the protection function, while the need to provide revenue to the federal budget is only a secondary objective. 

In the early 1860s, Europe and the United States pursued completely different trade policies. The 1860s were a period of growing protectionism in the United States, while the European free trade phase lasted from 1860 to 1892. The tariff average rate on imports of manufactured goods was in 1875 from 40% to 50% in the United States against 9% to 12% in continental Europe at the height of free trade. 

Milton Friedman held the opinion that the Smoot–Hawley tariff of 1930 did not cause the Great Depression, instead he blamed the lack of sufficient action on the part of the Federal Reserve. Douglas A. Irwin wrote: "most economists, both liberal and conservative, doubt that Smoot–Hawley played much of a role in the subsequent contraction".

Tariffs and the Great Depression

Most economists hold the opinion that the US Tariff Act did not greatly worsen the great depression: Peter Temin, an economist at the Massachusetts Institute of Technology, explained that a tariff is an expansionary policy, like a devaluation as it diverts demand from foreign to home producers. He noted that exports were 7 percent of GNP in 1929, they fell by 1.5 percent of 1929 GNP in the next two years and the fall was offset by the increase in domestic demand from tariff. He concluded that contrary the popular argument, contractionary effect of the tariff was small.

William Bernstein wrote: "Between 1929 and 1932, real GDP fell 17 percent worldwide, and by 26 percent in the United States, but most economic historians now believe that only a miniscule part of that huge loss of both world GDP and the United States’ GDP can be ascribed to the tariff wars. .. At the time of Smoot-Hawley’s passage, trade volume accounted for only about 9 percent of world economic output. Had all international trade been eliminated, and had no domestic use for the previously exported goods been found, world GDP would have fallen by the same amount — 9 percent. Between 1930 and 1933, worldwide trade volume fell off by one-third to one-half. Depending on how the falloff is measured, this computes to 3 to 5 percent of world GDP, and these losses were partially made up by more expensive domestic goods. Thus, the damage done could not possibly have exceeded 1 or 2 percent of world GDP — nowhere near the 17 percent falloff seen during the Great Depression... The inescapable conclusion: contrary to public perception, Smoot-Hawley did not cause, or even significantly deepen, the Great Depression,"

Nobel laureate Maurice Allais argued: 'First, most of the trade contraction occurred between January 1930 and July 1932, before most protectionist measures were introduced, except for the limited measures applied by the United States in the summer of 1930. It was therefore the collapse of international liquidity that caused the contraction of trade[8], not customs tariffs'.

Russia

Russia adopted more protectionist trade measures in 2013 than any other country, making it the world leader in protectionism. It alone introduced 20% of protectionist measures worldwide and one-third of measures in the G20 countries. Russia's protectionist policies include tariff measures, import restrictions, sanitary measures, and direct subsidies to local companies. For example, the state supported several economic sectors such as agriculture, space, automotive, electronics, chemistry, and energy.

In recent years, the policy of import substitution due to tariffs, i.e. the replacement of imported products by domestic products, has been considered a success because it has enabled Russia to increase its domestic production and save several billion dollars. Russia has been able to reduce its imports and launch an emerging and increasingly successful domestic production in almost all industrial sectors. The most important results have been achieved in the agriculture and food processing, automotive, chemical, pharmaceutical, aviation and naval sectors.

From 2014, customs duties were applied on imported products in the food sector. Russia has reduced its food imports while domestic production has increased considerably. The cost of food imports has dropped from $60 billion in 2014 to $20 billion in 2017 and the country enjoys record cereal production. Russia has strengthened its position on the world food market and the country has become food self-sufficient. In the fisheries, fruit and vegetable sector, domestic production has increased sharply, imports have declined significantly and the trade balance (difference between exports and imports) has improved. In the second quarter of 2017, agricultural exports are expected to exceed imports, making Russia a net exporter for the first time.

India

From 2017, as part of the promotion of its "Make in India" programme to stimulate and protect domestic manufacturing industry and to combat current account deficits, India has introduced tariffs on several electronic products and "non-essential items". This concerns items imported from countries such as China and South Korea. For example, India's national solar energy programme favours domestic producers by requiring the use of Indian-made solar cells.

Armenia

The Republic of Armenia, a country located in Western Asia, established its custom service on January 4, 1992, as directed by the Armenian President. On January 2, 2015, Armenia was given access to the Eurasian Customs Union, which is led by the Russian Federation and the EAEU; this resulted in an increased number of import tariffs. Armenia does not currently have export taxes; in addition, it does not declare temporary imports duties and credit on government imports or pursuant to other international assistance imports. 

Customs duty

A customs duty or due is the indirect tax levied on the import or export of goods in international trade. In economic sense, a duty is also a kind of consumption tax. A duty levied on goods being imported is referred to as an import duty. Similarly, a duty levied on exports is called an export duty. A tariff, which is actually a list of commodities along with the leviable rate (amount) of customs duty, is popularly referred to as a customs duty.

Calculation of customs duty

Customs duty is calculated on the determination of the assessable value in case of those items for which the duty is levied ad valorem. This is often the transaction value unless a customs officer determines assessable value in accordance with the Harmonized System. For certain items like petroleum and alcohol, customs duty is realized at a specific rate applied to the volume of the import or export consignments.

Harmonized System of Nomenclature

For the purpose of assessment of customs duty, products are given an identification code that has come to be known as the Harmonized System code. This code was developed by the World Customs Organization based in Brussels. A Harmonized System code may be from four to ten digits. For example, 17.03 is the HS code for molasses from the extraction or refining of sugar. However, within 17.03, the number 17.03.90 stands for "Molasses (Excluding Cane Molasses)". 

Introduction of Harmonized System code in 1990s has largely replaced the Standard International Trade Classification (SITC), though SITC remains in use for statistical purposes. In drawing up the national tariff, the revenue departments often specifies the rate of customs duty with reference to the HS code of the product. In some countries and customs unions, 6-digit HS codes are locally extended to 8 digits or 10 digits for further tariff discrimination: for example the European Union uses its 8-digit CN (Combined Nomenclature) and 10-digit TARIC codes.

Customs authority

A customs authority in each country is responsible for collecting taxes on the import into or export of goods out of the country. Normally the customs authority, operating under national law, is authorized to examine cargo in order to ascertain actual description, specification volume or quantity, so that the assessable value and the rate of duty may be correctly determined and applied.

Evasion

Evasion of customs duties takes place mainly in two ways. In one, the trader under-declares the value so that the assessable value is lower than actual. In a similar vein, a trader can evade customs duty by understatement of quantity or volume of the product of trade. A trader may also evade duty by misrepresenting traded goods, categorizing goods as items which attract lower customs duties. The evasion of customs duty may take place with or without the collaboration of customs officials. Evasion of customs duty does not necessarily constitute smuggling.

Duty-free goods

Many countries allow a traveler to bring goods into the country duty-free. These goods may be bought at ports and airports or sometimes within one country without attracting the usual government taxes and then brought into another country duty-free. Some countries impose allowances which limit the number or value of duty-free items that one person can bring into the country. These restrictions often apply to tobacco, wine, spirits, cosmetics, gifts and souvenirs. Often foreign diplomats and UN officials are entitled to duty-free goods. Duty-free goods are imported and stocked in what is called a bonded warehouse.

Duty calculation for companies in real life

With many methods and regulations, businesses at times struggle to manage the duties. In addition to difficulties in calculations, there are challenges in analyzing duties; and to opt for duty free options like using a bonded warehouse. 

Companies use Enterprise Resource Planning (ERP) software to calculate duties automatically to, on the one hand, avoid error-prone manual work on duty regulations and formulas and, on the other hand, manage and analyze historically paid duties. Moreover, ERP software offers an option for customs warehouses to save duty and VAT payments. In addition, duty deferment and suspension can also be taken into consideration.

Economic analysis

Effects of import tariff, which hurts domestic consumers more than domestic producers are helped. Higher prices and lower quantities reduce consumer surplus by areas A+B+C+D, while expanding producer surplus by A and government revenue by C. Areas B and D are dead-weight losses, surplus lost by consumers and overall.

 

Shows the consumer surplus, producer surplus, government revenue, and deadweight losses after tariff imposition.

 

General government revenue, in % of GDP, from import taxes. For this data, the variance of GDP per capita with purchasing power parity (PPP) is explained in 38 % by tax revenue.

 

Neoclassical economic theorists tend to view tariffs as distortions to the free market. Typical analyses find that tariffs tend to benefit domestic producers and government at the expense of consumers, and that the net welfare effects of a tariff on the importing country are negative. Normative judgments often follow from these findings, namely that it may be disadvantageous for a country to artificially shield an industry from world markets and that it might be better to allow a collapse to take place. Opposition to all tariff aims to reduce tariffs and to avoid countries discriminating between differing countries when applying tariffs. The diagrams at right show the costs and benefits of imposing a tariff on a good in the domestic economy.

Imposing an import tariff has the following effects, shown in the first diagram in a hypothetical domestic market for televisions:

• Price rises from world price Pw to higher tariff price Pt.
• Quantity demanded by domestic consumers falls from C1 to C2, a movement along the demand curve due to higher price.
• Domestic suppliers are willing to supply Q2 rather than Q1, a movement along the supply curve due to the higher price, so the quantity imported falls from C1-Q1 to C2-Q2.
• Consumer surplus (the area under the demand curve but above price) shrinks by areas A+B+C+D, as domestic consumers face higher prices and consume lower quantities.
• Producer surplus (the area above the supply curve but below price) increases by area A, as domestic producers shielded from international competition can sell more of their product at a higher price.
• Government tax revenue is the import quantity (C2-Q2) times the tariff price (Pw - Pt), shown as area C.
• Areas B and D are deadweight losses, surplus formerly captured by consumers that now is lost to all parties.

The overall change in welfare = Change in Consumer Surplus + Change in Producer Surplus + Change in Government Revenue = (-A-B-C-D) + A + C = -B-D. The final state after imposition of the tariff is indicated in the second diagram, with overall welfare reduced by the areas labeled "societal losses", which correspond to areas B and D in the first diagram. The losses to domestic consumers are greater than the combined benefits to domestic producers and government.

That tariffs overall reduce welfare is not a controversial topic among economists. For example, the University of Chicago surveyed about 40 leading economists in March 2018 asking whether "Imposing new U.S. tariffs on steel and aluminum will improve Americans'welfare." About two-thirds strongly disagreed with the statement, while one third disagreed. None agreed or strongly agreed. Several commented that such tariffs would help a few Americans at the expense of many. This is consistent with the explanation provided above, which is that losses to domestic consumers outweigh gains to domestic producers and government, by the amount of deadweight losses.

Tariffs are more inefficient than consumption taxes.

Optimal tariff

For economic efficiency, free trade is often the best policy, however levying a tariff is sometimes second best. 

A tariff is called an optimal tariff if it is set to maximize the welfare of the country imposing the tariff. It is a tariff derived by the intersection between the trade indifference curve of that country and the offer curve of another country. In this case, the welfare of the other country grows worse simultaneously, thus the policy is a kind of beggar thy neighbor policy. If the offer curve of the other country is a line through the origin point, the original country is in the condition of a small country, so any tariff worsens the welfare of the original country.

It is possible to levy a tariff as a political policy choice, and to consider a theoretical optimum tariff rate. However, imposing an optimal tariff will often lead to the foreign country increasing their tariffs as well, leading to a loss of welfare in both countries. When countries impose tariffs on each other, they will reach a position off the contract curve, meaning that both countries' welfare could be increased by reducing tariffs.

Political analysis

The tariff has been used as a political tool to establish an independent nation; for example, the United States Tariff Act of 1789, signed specifically on July 4, was called the "Second Declaration of Independence" by newspapers because it was intended to be the economic means to achieve the political goal of a sovereign and independent United States.

 

The political impact of tariffs is judged depending on the political perspective; for example the 2002 United States steel tariff imposed a 30% tariff on a variety of imported steel products for a period of three years and American steel producers supported the tariff.

Tariffs can emerge as a political issue prior to an election. In the leadup to the 2007 Australian Federal election, the Australian Labor Party announced it would undertake a review of Australian car tariffs if elected. The Liberal Party made a similar commitment, while independent candidate Nick Xenophon announced his intention to introduce tariff-based legislation as "a matter of urgency".

Unpopular tariffs are known to have ignited social unrest, for example the 1905 meat riots in Chile that developed in protest against tariffs applied to the cattle imports from Argentina.

Arguments in favor of tariffs

Protection of infant industry

In the 19th century, Alexander Hamilton and the economist Friedrich List defended the benefits of "educator protectionism" as a necessary means of protecting infant industries. Protectionism would be necessary in the short term for a country to start industrialization away from competition from more advanced foreign industries, under which pressure it could succumb at the first stage of the process. As a result, they benefit from greater freedom of manoeuvre and greater certainty regarding their profitability and future development. The protectionist phase is therefore a learning period that would allow the least developed countries to acquire general and technical know-how in the fields of industrial production in order to become competitive on international markets.

Protection against dumping

States resorting to protectionism invoke unfair competition or dumping practices:

• Monetary dumping: a currency undergoes a devaluation when monetary authorities decide to intervene in the foreign exchange market to lower the value of the currency against other currencies. This makes local products more competitive and imported products more expensive (Marshall Lerner Condition), increasing exports and decreasing imports, and thus improving the trade balance. Countries with a weak currency cause trade imbalances: they have large external surpluses while their competitors have large deficits.
• Tax dumping: some tax haven states have lower corporate and personal tax rates.
• Social dumping: when a state reduces social contributions or maintains very low social standards (for example, in China, labour regulations are less restrictive for employers than elsewhere).
• Environmental dumping: when environmental regulations are less stringent than elsewhere.

Free trade and poverty

Sub-Saharan African countries have a lower income per capita in 2003 than 40 years earlier (Ndulu, World Bank, 2007, p. 33).^[47] Per capita income increased by 37% between 1960 and 1980 and fell by 9% between 1980 and 2000. Africa's manufacturing sector's share of GDP decreased from 12% in 1980 to 11% in 2013. In the 1970s, Africa accounted for more than 3% of world manufacturing output, and now accounts for 1.5%. Ha-Joon Chang claims that these downturns are the result of free trade policies, and attributes successes in some African countries such as Ethiopia and Rwanda to their abandonment of free trade and adoption of a "developmental state model".

The poor countries that have succeeded in achieving strong and sustainable growth are those that have become mercantilists, not free traders: China, South Korea, Japan, Taiwan. Thus, whereas in the 1990s, China and India had the same GDP per capita, China followed a much more mercantilist policy and now has a GDP per capita three times higher than India's. Indeed, a significant part of China's rise on the international trade scene does not come from the supposed benefits of international competition but from the relocations practiced by companies from developed countries. Dani Rodrik points out that it is the countries that have systematically violated the rules of globalisation that have experienced the strongest growth.

For developed countries that have implemented free trade, the work of E.F. Denison on growth factors in the United States and Western Europe between 1950 and 1962 shows that the positive effects on growth of trade liberalization have been negligible in the United States, while in Western Europe it contributed to a weighted average of only 2% of total economic growth.

The 'dumping' policies of some countries have also largely affected developing countries. Studies on the effects of free trade show that the gains induced by WTO rules for developing countries are very small. This has reduced the gain for these countries from an estimated $539 billion in the 2003 LINKAGE model to $22 billion in the 2005 GTAP model. The 2005 LINKAGE version also reduced gains to 90 billion. As for the "Doha Round", it would have brought in only $4 billion to developing countries (including China...) according to the GTAP model. However, the models used are actually designed to maximize the positive effects of trade liberalization. They are characterized by the absence of taking into account the loss of income caused by the end of tariff barriers.

Criticism of the theory of comparative advantage

Free trade is based on the theory of comparative advantage. The classical and neoclassical formulations of comparative advantage theory differ in the tools they use but share the same basis and logic. Comparative advantage theory says that market forces lead all factors of production to their best use in the economy. It indicates that international free trade would be beneficial for all participating countries as well as for the world as a whole because they could increase their overall production and consume more by specializing according to their comparative advantages. Goods would become cheaper and available in larger quantities. Moreover, this specialization would not be the result of chance or political intent, but would be automatic. However according to some commentators, the theory is based on assumptions that are neither theoretically nor empirically valid.

International mobility of capital and labour

The international immobility of labour and capital is essential to the theory of comparative advantage. Without this, there would be no reason for international free trade to be regulated by comparative advantages. Classical and neoclassical economists all assume that labour and capital do not circulate between nations. At the international level, only the goods produced can move freely, with capital and labour trapped in countries. David Ricardo was aware that the international immobility of labour and capital is an indispensable hypothesis. He devoted half of his explanation of the theory to it in his book. He even explained that if labour and capital could move internationally, then comparative advantages could not determine international trade. Ricardo assumed that the reasons for the immobility of the capital would be:

the fancied or real insecurity of capital, when not under the immediate control of its owner, together with the natural disinclination which every man has to quit the country of his birth and connexions, and intrust himself with all his habits fixed, to a strange government and new laws

Neoclassical economists, for their part, argue that the scale of these movements of workers and capital is negligible. They developed the theory of price compensation by factor that makes these movements superfluous. In practice, however, workers move in large numbers from one country to another. Today, labour migration is truly a global phenomenon. And, with the reduction in transport and communication costs, capital has become increasingly mobile and frequently moves from one country to another. Moreover, the neoclassical assumption that factors are trapped at the national level has no theoretical basis and the assumption of factor price equalisation cannot justify international immobility. Moreover, there is no evidence that factor prices are equal worldwide. Comparative advantages cannot therefore determine the structure of international trade.

If they are internationally mobile and the most productive use of factors is in another country, then free trade will lead them to migrate to that country. This will benefit the nation to which they emigrate, but not necessarily the others.

Externalities

An externality is the term used when the price of a product does not reflect its cost or real economic value. The classic negative externality is environmental degradation, which reduces the value of natural resources without increasing the price of the product that has caused them harm. The classic positive externality is technological encroachment, where one company's invention of a product allows others to copy or build on it, generating wealth that the original company cannot capture. If prices are wrong due to positive or negative externalities, free trade will produce sub-optimal results.

For example, goods from a country with lax pollution standards will be too cheap. As a result, its trading partners will import too much. And the exporting country will export too much, concentrating its economy too much in industries that are not as profitable as they seem, ignoring the damage caused by pollution.

On the positive externalities, if an industry generates technological spinoffs for the rest of the economy, then free trade can let that industry be destroyed by foreign competition because the economy ignores its hidden value. Some industries generate new technologies, allow improvements in other industries and stimulate technological advances throughout the economy; losing these industries means losing all industries that would have resulted in the future.

Cross-industrial movement of productive resources

Comparative advantage theory deals with the best use of resources and how to put the economy to its best use. But this implies that the resources used to manufacture one product can be used to produce another object. If they cannot, imports will not push the economy into industries better suited to its comparative advantage and will only destroy existing industries.

For example, when workers cannot move from one industry to another—usually because they do not have the right skills or do not live in the right place—changes in the economy's comparative advantage will not shift them to a more appropriate industry, but rather to unemployment or precarious and unproductive jobs.

Static vs. dynamic gains via international trade

Comparative advantage theory allows for a "static" and not a "dynamic" analysis of the economy. That is, it examines the facts at a single point in time and determines the best response to those facts at that point in time, given our productivity in various industries. But when it comes to long-term growth, it says nothing about how the facts can change tomorrow and how they can be changed in someone's favour. It does not indicate how best to transform factors of production into more productive factors in the future.

According to theory, the only advantage of international trade is that goods become cheaper and available in larger quantities. Improving the static efficiency of existing resources would therefore be the only advantage of international trade. And the neoclassical formulation assumes that the factors of production are given only exogenously. Exogenous changes can come from population growth, industrial policies, the rate of capital accumulation (propensity for security) and technological inventions, among others. Dynamic developments endogenous to trade such as economic growth are not integrated into Ricardo's theory. And this is not affected by what is called "dynamic comparative advantage". In these models, comparative advantages develop and change over time, but this change is not the result of trade itself, but of a change in exogenous factors.

However, the world, and in particular the industrialized countries, are characterized by dynamic gains endogenous to trade, such as technological growth that has led to an increase in the standard of living and wealth of the industrialized world. In addition, dynamic gains are more important than static gains.

Balanced trade and adjustment mechanisms

A crucial assumption in both the classical and neoclassical formulation of comparative advantage theory is that trade is balanced, which means that the value of imports is equal to the value of each country's exports. The volume of trade may change, but international trade will always be balanced at least after a certain adjustment period. The balance of trade is essential for theory because the resulting adjustment mechanism is responsible for transforming the comparative advantages of production costs into absolute price advantages. And this is necessary because it is the absolute price differences that determine the international flow of goods. Since consumers buy a good from the one who sells it cheapest, comparative advantages in terms of production costs must be transformed into absolute price advantages. In the case of floating exchange rates, it is the exchange rate adjustment mechanism that is responsible for this transformation of comparative advantages into absolute price advantages. In the case of fixed exchange rates, neoclassical theory suggests that trade is balanced by changes in wage rates.

So if trade were not balanced in itself and if there were no adjustment mechanism, there would be no reason to achieve a comparative advantage. However, trade imbalances are the norm and balanced trade is in practice only an exception. In addition, financial crises such as the Asian crisis of the 1990s show that balance of payments imbalances are rarely benign and do not self-regulate. There is no adjustment mechanism in practice. Comparative advantages do not turn into price differences and therefore cannot explain international trade flows.

Thus, theory can very easily recommend a trade policy that gives us the highest possible standard of living in the short term but none in the long term. This is what happens when a nation runs a trade deficit, which necessarily means that it goes into debt with foreigners or sells its existing assets to them. Thus, the nation applies a frenzy of consumption in the short term followed by a long-term decline.

International trade as bartering

The assumption that trade will always be balanced is a corollary of the fact that trade is understood as barter. The definition of international trade as barter trade is the basis for the assumption of balanced trade. Ricardo insists that international trade takes place as if it were purely a barter trade, a presumption that is maintained by subsequent classical and neoclassical economists. The quantity of money theory, which Ricardo uses, assumes that money is neutral and neglects the velocity of a currency. Money has only one function in international trade, namely as a means of exchange to facilitate trade.

In practice, however, the velocity of circulation is not constant and the quantity of money is not neutral for the real economy. A capitalist world is not characterized by a barter economy but by a market economy. The main difference in the context of international trade is that sales and purchases no longer necessarily have to coincide. The seller is not necessarily obliged to buy immediately. Thus, money is not only a means of exchange. It is above all a means of payment and is also used to store value, settle debts and transfer wealth. Thus, unlike the barter hypothesis of the comparative advantage theory, money is not a commodity like any other. Rather, it is of practical importance to specifically own money rather than any commodity. And money as a store of value in a world of uncertainty has a significant influence on the motives and decisions of wealth holders and producers.

Using labour and capital to their full potential

Ricardo and later classical economists assume that labour tends towards full employment and that capital is always fully used in a liberalized economy, because no capital owner will leave its capital unused but will always seek to make a profit from it. That there is no limit to the use of capital is a consequence of Jean-Baptiste Say's law, which presumes that production is limited only by resources and is also adopted by neoclassical economists.

From a theoretical point of view, comparative advantage theory must assume that labour or capital is used to its full potential and that resources limit production. There are two reasons for this: the realization of gains through international trade and the adjustment mechanism. In addition, this assumption is necessary for the concept of opportunity costs. If unemployment (or underutilized resources) exists, there are no opportunity costs, because the production of one good can be increased without reducing the production of another good. Since comparative advantages are determined by opportunity costs in the neoclassical formulation, these cannot be calculated and this formulation would lose its logical basis.

If a country's resources were not fully utilized, production and consumption could be increased at the national level without participating in international trade. The whole raison d'être of international trade would disappear, as would the possible gains. In this case, a State could even earn more by refraining from participating in international trade and stimulating domestic production, as this would allow it to employ more labour and capital and increase national income. Moreover, any adjustment mechanism underlying the theory no longer works if unemployment exists.

In practice, however, the world is characterised by unemployment. Unemployment and underemployment of capital and labour are not a short-term phenomenon, but it is common and widespread. Unemployment and untapped resources are more the rule than the exception.

2008–09 Keynesian resurgence

From Wikipedia, the free encyclopedia

 

John Maynard Keynes

 

Following the global financial crisis of 2007–08, there was a worldwide resurgence of interest in Keynesian economics among prominent economists and policy makers. This included discussions and implementation of economic policies in accordance with the recommendations made by John Maynard Keynes in response to the Great Depression of the 1930s—most especially fiscal stimulus and expansionary monetary policy.

From the end of the Great Depression until the early 1970s, Keynesian economics provided the main inspiration for economic policy makers in Western industrialized countries. The influence of Keynes's theories waned in the 1970s, due to stagflation and critiques from Friedrich Hayek, Milton Friedman, Robert Lucas, Jr. and other economists, who were less optimistic about the ability of interventionist government policy to positively regulate the economy or otherwise opposed to Keynesian policies. From the early 1980s to 2008, the normative consensus among economists was that attempts at fiscal stimulus would be ineffective even in a recession, and such policies were only occasionally employed by the governments of developed countries.

In 2008, a rapid shift of opinion took place among many prominent economists in favour of Keynesian stimulus, and, from October onward, policy makers began announcing major stimulus packages, in hopes of heading off the possibility of a global depression. By early 2009 there was widespread acceptance among the world's economic policy makers about the need for fiscal stimulus. Yet by late 2009 the consensus among economists began to break down. In 2010 with a depression averted but unemployment in many countries still high, policy makers generally decided against further fiscal stimulus, with several citing concerns over public debt as a justification. Unconventional monetary policy continued to be used in attempts to raise economic activity. By 2016, increasing concerns had arisen that monetary policy was reaching the limit of its effectiveness, and several countries began to return to fiscal stimulus.

Background

Competing views on macroeconomic policy

Macroeconomic policy focuses on high level government decisions which affect overall national economies rather than lower level decisions concerning markets for particular goods and services.

Keynes was the first economist to popularize macroeconomics and also the notion that governments can and should intervene in the economy to alleviate the suffering caused by unemployment. Before the Keynesian Revolution that followed Keynes's 1936 publication of his General Theory, the prevailing orthodoxy was that the economy would naturally establish full employment. So successful was the revolution that the period spanning the aftermath of World War II to about 1973 has been referred to as the Age of Keynes. Stagnating economic performance in the early 1970s successfully shattered the previous consensus for Keynesian economics and provided support for a counter revolution. Milton Friedman's monetarism school was prominent in displacing Keynes' ideas both in academia and from the practical world of economic policy making. 

For an overview on the different perspectives concerning optimal balance between public and private power in the economy. For more detail on specific systems of thought relevant to debate on this fiscal policy see Keynesian economics, Monetarism, the Austrian School, New classical macroeconomics, Real business-cycle theory, and New Keynesian economics. A key common feature of the anti-Keynesian schools of thought is that they argued for policy ineffectiveness or policy irrelevance. Although the theoretical justifications vary, the various schools all hold that government intervention will be much less effective than Keynes had believed, with some advocates even claiming that in the long run interventionist policy will always be counterproductive.

Keynesian economics followed on from the Keynesian Revolution. In contrast to the recent resurgence of Keynesian policy making, the revolution initially comprised a shift change in theory. There had been several experiments in policy making that can be seen as precursors for Keynes' ideas, most notably President Franklin D. Roosevelt's famous "New Deal" in the United States. These experiments had been influenced more by morals, geopolitics and political ideology than by new developments in economics, even though Keynes had found some support in the US for his ideas about counter-cyclical public works policy as early as 1931.

According to Gordon Fletcher, Keynes' General Theory provided a conceptual justification for New Deal-type policies which was lacking in the established economics of the day. This was immensely significant, as in the absence of a proper theoretical underpinning there was a danger that ad hoc policies of moderate intervention would be overtaken by extremist solutions, as had already happened in much of Europe. However, Keynes did not agree with all aspects of the New Deal; he considered that the almost immediate revival of business activity after the program's launch could only be accounted for by dangerous-to-rely-on psychological factors, such as the boost to confidence effected by Roosevelt's inspiring oratory.

Keynesian ascendancy 1941–79

Prime Minister Clement Attlee (left) with King George VI. Attlee based the British post-World War II economic policy on Keynes' ideas.

 

While working on his General Theory, Keynes wrote to George Bernard Shaw "I believe myself to be writing a book on economic theory which will largely revolutionize, not I suppose at once but in the course of the next ten years – the way the world thinks about economic problems ... I don't merely hope what I say, in my own mind I'm quite sure". Keynes's ideas quickly became established as the new foundations for mainstream economics, and also as a leading inspiration for industrial nations economic policy makers from about 1941 to the midseventies, especially in the English speaking countries. The 1950s and 1960s period, when Keynes's influence was at its peak, to many appeared in retrospect to have been a golden age.

At that time, in contrast to the decades before WWII, the industrialized world and much of the developing world enjoyed high growth, low unemployment and an exceptionally low frequency of economic crises. In late 1965 Time magazine ran a cover article with the title inspired by Milton Friedman's statement, later associated with Richard Nixon, "We are all Keynesians now". The article described the exceptionally favourable economic conditions then prevailing, and reported that "Washington's economic managers scaled these heights by their adherence to Keynes's central theme: the modern capitalist economy does not automatically work at top efficiency, but can be raised to that level by the intervention and influence of the government." The article also states that Keynes was one of the three most important economists ever, and that his General Theory was more influential than the magna opera of his rivals – Adam Smith's The Wealth of Nations and Karl Marx's Das Kapital.

Displacement by monetarism and new classical economics 1979–99

Friedrich Hayek, Keynes' leading contemporary critic. Milton Friedman began to take over this role by the late 1950s.

 

A swelling tide of criticism of Keynesian economics, most notably from Milton Friedman, a leading figure of monetarism, and the Austrian School's Friedrich Hayek, was unleashed by the stagflation of the 1970s. A series of events that contributed to this economic situation included Richard Nixon's imposition of wage and price controls on 15 August 1971 and unilateral cancellation of the Bretton Woods system in 1972, his ceasing the direct convertibility of the United States dollar to gold, as well as the 1973 oil crisis and the recession that followed.

In 1976, Robert Lucas of the Chicago school of economics introduced the Lucas critique, which called into question the logic behind Keynesian macroeconomic policy making. The new classical economics became the dominant school in macroeconomics. By the mid-1970s, policy makers were beginning to lose their confidence in the effectiveness of government intervention in the economy. In 1976 British Prime Minister James Callaghan said that the option of “spending our way out of recession” no longer exists. In 1979, the election of Margaret Thatcher as prime minister brought monetarism to British economic policy. In the US, the Federal Reserve under Paul Volcker adopted similar policies of monetary tightening in order to control inflation.

In the world of practical policy-making as opposed to economics as an academic discipline, the monetarist experiments in both the US and the UK in the early 1980s were the pinnacle of anti-Keynesian and the rise of perfect competition influence. The strong form of monetarism being tested at this time asserted that fiscal policy is of no effect, and that monetary policy should only try to target the money supply to control inflation, without attempting to target real interest rates. This was in contrast to the Keynesian view that monetary policy should target interest rates, which it held could influence unemployment. 

Monetarism succeeded in bringing down inflation, but at the cost of unemployment rates in excess of 10%, causing the deepest recession seen in the developed countries since the end of the Great Depression and severe debt crises in the developing world. Contrary to monetarist predictions, the relationship between the money supply and the price level proved unreliable in the short- to medium-term. Another monetarist prediction not borne out in practice was that the velocity of money did not remain constant, in fact it dropped sharply. The US Federal Reserve began increasing the money supply above monetarist-advised thresholds with no effect on inflation, and discarded monetarism in 1984. The Bank of England likewise abandoned its sterling M3 money targeting in October 1985.

Keynesian counter currents 1999–2007

By 1999, the 1997 Asian financial crisis and the harsh response by the International Monetary Fund (IMF) had already caused free market policies to be at least partially discredited in the eyes of developing world policy makers. The developing world as a whole stopped running current account deficits in 1999, largely as a result of government interventions to devalue the countries' currencies, which would help build foreign reserves to protect against future crises and help them enjoy export led growth rather than just rely on market forces.

For the advanced economies, while there was much talk of reforming the international financial system after the Asian crises, it was not until the market failure of the 2000 dot-com bubble that there was a significant shift away from free market policies. In America there was a return by the government of George W. Bush to a moderate form of Keynesian policy, with interest rates lowered to ease unemployment and head off recession, along with a form of fiscal intervention with emergency tax cuts to boost spending. In Britain, Chancellor of the Exchequer Gordon Brown had gone on record saying "the real challenge was to interpret Keynes's insights for the modern world."

Yet American and British policy makers continued to ignore many elements of Keynesian thinking such as the recommendation to avoid large trade imbalances and to reduce government deficits in boom years. There was no general global return to Keynesian economics in the first 8 years of the 2000s. European policy became slightly more interventionist after the start of the 21st century, but the shift in a Keynesian direction was smaller than was the case for the US and the UK. However, continental Europeans had not generally embraced free market thinking as wholeheartedly as had the English-speaking world in the 1980s and 1990s. Japan had been using moderate Keynesian policies in the nineties, and switched to neoliberalism with the government of Junichirō Koizumi in 2001–06.

For the first half of the 2000s, free-market influences remained strong in powerful normative institutions like the World Bank, the IMF, and in prominent opinion-forming media such as the Financial Times and The Economist. The Washington Consensus view that current account imbalances do not matter continued even in the face of a ballooning US deficit, with mainstream academic opinion only turning to the view that the imbalances are unsustainable by 2007. Another notable anti-Keynesian view that remained dominant in US and UK policy making circles was the idea that markets work best if they are unregulated.

In the world of popular opinion, there had been an upsurge in vocal but minority opposition to the raw free market, with anti-globalization protests becoming increasingly notable after 1998. By 2007, there had been bestsellers promoting Keynesian or at least pro-mixed economy policies: Naomi Klein's The Shock Doctrine and Song Hongbing's Currency Wars.

In the academic world, the partial shift towards Keynesian policy had gone largely unnoticed.

On Keynesian resurgence

In the wake of the financial crisis of 2007–08 and the search for a way out of the crisis, a worldwide move toward Keynesian deficit financing and general resurgence of Keynesian policies resulted in a new economic consensus, which involved reassessment or even reversal of normative judgments on a number of topics. The Keynesian view receiving most attention has been fiscal stimulus, applied by numerous states as a response to the Great Recession. The IMF managing director Dominique Strauss-Kahn advocated for global fiscal stimulus already in January 2008.

Gordon Brown built support for fiscal stimulus among global leaders at September's UN General Assembly, after which he secured George Bush's agreement for the first G20 leaders summit. In late 2008 and 2009 fiscal stimulus packages were widely launched across the world, with packages in G20 countries averaging at about 2% of GDP, with a ratio of public spending to tax cuts of about 2:1. The stimulus in Europe was notably smaller than in large G20 countries elsewhere. Other areas where opinion has shifted back towards a Keynesian perspective include:

• Global trade imbalances. Keynes placed great importance on avoiding large trade deficits or surpluses, but following the Keynesian displacement, an influential view in the West was that governments need not be concerned about them. From late 2008 imbalances are once again widely seen as an area for government concern. In October 2010 the US suggested a possible plan to address global imbalances, with targets to limit current account surpluses similar to those proposed by Keynes at Bretton Woods.

• Capital controls. Keynes strongly favoured the use of controls to restrain international capital movement, especially short term speculative flows, but in the 1970s and 1980s opinion among Western economists and institutions swung firmly against them. During 2009 and 2010 capital controls once again came to be seen as an acceptable part of a government's macroeconomic policy toolkit, though institutions like the IMF still caution against overuse. In contrast to stimulus policies, the return to favour of capital controls still had the momentum as of late 2012.

• Skepticism concerning the role of mathematics in academic economics and in economic decision making. Despite his degree in mathematics, Keynes remained skeptical about the usefulness of mathematical models for solving economic problems. Mathematics, however, became increasingly central to economics even during Keynes' career, and even more so in the decades following his death. While the Keynesian resurgence has seen no general reversal of opinion on the utility of complex math, there have been numerous calls for a broadening of economics to make further use of disciplines other than mathematics. In the practical spheres of banking and finance, there have been warnings against overreliance on mathematical models, which have been held up as one of the contributing causes of the 2008–09 crises.

Among policy makers

Economist and former prime minister of India Manmohan Singh spoke in favour of Keynesian fiscal stimuli at the 2008 G-20 Washington summit

 

In March 2008, leading free-market journalist Martin Wolf, chief economics commentator at the Financial Times, announced the death of the dream of global free-market capitalism, and quoted Josef Ackermann, chief executive of Deutsche Bank, as saying "I no longer believe in the market's self-healing power." Shortly afterward economist Robert J. Shiller began advocating robust government intervention to tackle the financial crisis, citing Keynes. Macro economist James K. Galbraith used the 25th Annual Milton Friedman Distinguished Lecture to launch a sweeping attack against the consensus for monetarist economics and argued that Keynesian economics were far more relevant for tackling the emerging crises.

Much discussion among policy makers reflected Keynes's advocacy of international coordination of fiscal or monetary stimulus, and of international economic institutions such as the IMF and World Bank, which he had helped to create at Bretton Woods in 1944, and which many argued should be reformed at a "new Bretton Woods". This was evident at the G20 and APEC meetings in Washington, D.C., and Lima, Peru in November 2008, and in coordinated reductions of interest rates by many countries in November and December 2008. IMF and United Nations economists and political leaders such as British Prime Minister Gordon Brown advocated a coordinated international approach to fiscal stimulus.

World Bank's President Robert Zoellick advocated that all developed countries pledge 0.7 percent of their stimulus package to a vulnerability fund for assisting developing countries.^[48] Donald Markwell and others argued that the absence of an effective international approach in the spirit of Keynes would risk a return of economic causes of international conflict, which Keynes had identified back in the 1930s.

The first nation to announce a substantial fiscal stimulus was Great Britain, with Chancellor Alistair Darling referring to Keynes as he unveiled plans for fiscal stimuli to head off the worst effects of recession. These measures were later described by Ed Balls as the first time a postwar British government had been able to meet a recession with a "classic Keynesian response". In his autobiography published in 2011, Darling recounts how his response to the crisis was "influenced hugely by Keynes's thinking, indeed, as were most other governments." 

Darling's stimulus announcement was swiftly followed by a similar declaration from China, and over the next few weeks and months from European countries, the U.S. and other countries across the world.

In a speech on 8 January 2009, President Elect Barack Obama unveiled a plan for extensive domestic spending to combat recession, further reflecting Keynesian thinking. The plan was signed by him on 17 February 2009. There had been extensive debate in US Congress concerning the necessity, adequacy, and likely effects of the package, which was cut from $819 to $787 billion during its passage through the Senate.

President Barack Obama confers with Prime Minister Gordon Brown following the United Nations Security Council meeting in New York in 2009

 

On 21 January 21, 2010, the Volcker Rule was endorsed by President Obama. It was a proposal by US economist Paul Volcker to restrict banks from making speculative investments that do not benefit their customers. Volcker had argued that such speculative activity played a key role in the recent worldwide financial crisis. Plans for a new $180 billion stimulus plan were announced by Obama in September 2010.

A renewed interest in Keynesian ideas was not limited to Western countries and stimulus plans were a common response to the crisis from nations across the globe. Stimulus packages in Asia were on a par with those in Europe and America. In a speech delivered in March 2009 entitled Reform the International Monetary System, Zhou Xiaochuan, the governor of the People's Bank of China, revived Keynes's idea of a centrally managed global reserve currency. Dr Zhou argued that it was unfortunate that Keynes's bancor proposal was not accepted at Bretton Woods in the 1940s. He argued that national currencies were unsuitable for use as global reserve currencies as a result of the Triffin dilemma – the difficulty faced by reserve currency issuers in trying to simultaneously achieve their domestic monetary policy goals and meet other countries' demand for reserve currency. Zhou proposed a gradual move towards adopting IMF special drawing rights (SDRs) as a centrally managed global reserve currency. Zhou's view was echoed in June 2009 by the IMF and in September was described by the Financial Times as the boldest statement of the year to come from China.

In a widely read article on dollar hegemony published in Asia Times Online on 11 April 2002, Henry C.K. Liu asserted that "The Keynesian starting point is that full employment is the basis of good economics. It is through full employment at fair wages that all other economic inefficiencies can best be handled, through an accommodating monetary policy." Liu also advocated denominating Chinese exports in Chinese currency (RMB), as a step to free China from the constraints of excessive reliance on the dollar.

Efficacy

According to Anatole Kaletsky, Keynesian stimuli were rapidly followed by "revivals of growth in one country after another, roughly in proportion to the size of the various stimulus plans."

China was one of the first nations to launch a substantial fiscal stimulus package, estimated at $586 billion spread over two years, and in February 2009 the Financial Times reported that both government officials and private investors were seeing signs of recovery, such as rises in commodity prices, a 13% rise in the Chinese stock market over a period of 10 days, and a big increase in lending – reflecting the government's success in using state-owned banks to inject liquidity into the real economy.

Reviewing events from 2010, economics commentator John Authers found that the stimulus and associated expansionary monetary policy had a dramatic effect in reviving the Chinese economy. The Shanghai index had been falling sharply since the September 2008 bankruptcy of Lehman Brothers, but the decline was halted when news of the planned stimulus leaked in late October. The day after the stimulus was officially announced, the Shanghai index immediately rose by 7.3%, followed by sustained growth. Speaking at the 2010 Summer Davos, Premier Wen Jiabao also credited the stimulus for good performance of the Chinese economy over the past two years.

As late as April 2009, central bankers and finance ministers remained cautious about the overall global economy, but by in May the Financial Times was reporting that according to a package of leading indicators there were signs that recovery was imminent in Europe too, after a trough in March. The US was one of the last major economies to implement a major stimulus plan, and the slowdown there looked set to continue for at least a few more months. There was also a rise in business and consumer confidence across most of Europe, and especially in the emerging economies such as Brazil, Russia and India.

In June, the Organisation for Economic Co-operation and Development (OECD) reported improvements in global economic outlook, with an overall growth forecast for 2010. The OECD gave the credit to stimulus plans, which they warned should not be rolled back too swiftly. The IMF also reported a better than expected global economic outlook in July, though warning that the recovery is likely to be slow. They credited the "unprecedented" global policy response and echoed the OECD in urging leaders to avoid complacency and not to unwind recession fighting fiscal and monetary policies too soon.

In a widely syndicated article published in August 2009, Paul Krugman announced that the world had been saved from the threat of a second great depression, thanks to "Big Government". The US economy emerged from recession in the third quarter of 2009, which the Financial Times credited to the stimulus measures. In November, the managing director of the IMF Dominique Strauss-Kahn repeated the warning against terminating the stimulus measures too soon. The Financial Times, however, reported that significant differences had emerged even within Europe, with senior members of the European Central Bank expressing concern about the risk of delaying the exit for too long.

On 8 December 2009, President Obama unveiled what the Financial Times described as a "second stimulus plan" for additional job creation using approximately $200 billion of unused funds that had been pre-approved for the Troubled Asset Relief Program. In the same speech he expressed the view that the initial stimulus had already saved or created 1.6 million jobs. In an article looking back at 2009, economist Arvind Subramanian wrote in the Financial Times that economics had helped to redeem itself by providing advice for the policy responses that successfully prevented a global slide into depression, with the fiscal policy stimulus measures taking their "cue from Keynes".

In July 2010 economics journalist Robin Harding wrote for the Financial Times that most American economists are in agreement regarding the large influence of the US stimulus on the economy, though he mentioned high-profile dissenters such as Robert Barro and John B. Taylor. Barro's arguments against the effectiveness of the stimulus have been addressed by Keynesian economics professor J. Bradford DeLong.

A July 2010 paper by Moody's Investors Service's chief economist Mark Zandl and former Federal Reserve Vice Chairman Alan Blinder predicted that the US recession would have been far worse without the government intervention. They calculate that in the absence of both a monetary and fiscal response, unemployment would have peaked at about 16.5% instead of about 10%, the peak to trough GDP decline would have been about 12% instead of 4%. Despite the lack of deficit spending, without the intervention the 2010 and 2011 US federal budget deficit was forecast to be almost two times larger, due to the predicted collapse of tax receipts.

In August 2010, a report from the non-partisan Congressional Budget Office found the US stimulus to have boosted growth by as much as 4.5%. House of Representatives Minority Leader John Boehner expressed skepticism about the report's accuracy. In March 2011, citing studies on the effectiveness of fiscal stimulus from several dozen economists and international bodies, David Romer told the IMF that "we should view the question of whether fiscal stimulus is effective as settled."

Calls for further extensions

In 2009 there were several books published by economists advocating a further shift towards Keynesian thinking. The authors advocated further reform in academic economics, policy making and even the public's general ethics. Theoretical arguments regarding the relative merits of free market versus mixed economy policies do not always yield a clear conclusion. In his 2009 book Keynes: The Return of the Master, economic historian Lord Skidelsky has a chapter comparing the performance of the world economy between the "golden age" period of 1951–73, when Keynesian policies were dominant, with the Washington Consensus period of 1981–2008, when free market policies were adopted by leading governments. Samuel Brittan of the Financial Times called this part of the book the key chapter for the practically inclined reader. Using data from the IMF, Skidelsky finds superior economic performance on a whole range of metrics, except for inflation where he says there was no significant difference.

Metric	Golden age period	Washington Consensus period
Average global growth	4.8%	3.2%
Average global inflation	3.9%	3.2%
Average unemployment (US)	4.8%	6.1%
Average unemployment (France)	1.2%	9.5%
Average unemployment (Germany)	3.1%	7.5%
Average unemployment (Great Britain)	1.6%	7.4%

Skidelsky suggests the high global growth during the golden age was especially impressive given that during that period Japan was the only major Asian economy enjoying high growth – the exceptional growth of China and other Asian emerging economies, raising the global average, happened later. He also comments that the golden age, compared with other periods, was substantially more stable. Martin Wolf found that in 1945–71 (27 years) the world saw only 38 financial crises, whereas in 1973–97 (24 years) there were 139.

Skidelsky also reports that inequality was generally decreasing during the golden age, whereas since the Washington Consensus was formed it has been increasing. He notes that South America has been an exception to the general rise in inequality – since the late 1990s inequality has been falling there, which James K. Galbraith explains as likely due to the region's early "retreat from neoliberal orthodoxy".

In his 2009 book The Keynes Solution, post-Keynesian economist Paul Davidson makes another historical case for the effectiveness of Keynesian policy, referring to the experience of the United States during the Great Depression. He notes how economic growth and employment levels increased for four successive years as the New Deal policies were pursued by President Roosevelt. When government spending was cut back in 1937 due to concerns about the budget deficit, all the gains were lost in one year, and growth only resumed after spending increased again from 1938, as a response to growing acceptance of deficit spending in a recession and later due to World War II. For Davidson, this experience validates the view that Keynesian policy has the power to deliver full employment and prosperity for a government's entire labor force. Davidson also wrote that both price stability and employment in the Keynesian age were superior even to the classical gold standard era that was terminated by World War I.

On 8 November 2008, Paul Davidson and Henry C.K. Liu co-authored an open letter to world leaders attending the November 15 White House summit on financial markets and world economy, urging reconsideration of Keynes' analytical system that contributed to the golden age of the first quarter century after World War II. The letter, signed by many supporting economists, advocates a new international financial architecture based on an updated 21st century version of the Keynes Plan originally proposed at Bretton Woods in 1944. 

The letter ends by describing this new international financial architecture as aiming to create (1) a new global monetary regime that operates without currency hegemony, (2) global trade relationships that support rather than retard domestic development and (3) a global economic environment that promotes incentives for each nation to promote full employment and raise wages for its labor force.

In academia

A marked shift towards Keynesian thinking took place among prominent economists. Some, such as Paul Krugman, James Galbraith and Brad Delong, were already Keynesians, but in 2008 began to get considerably more attention for their advocacy of Keynesian policy. Others, such as Richard Posner and Martin Feldstein, had previously been associated with anti-Keynesian thinking, yet by 2009 publicly converted to Keynesian economics, which made considerable impact on other economists. Posner's 2009 book, A Failure of Capitalism, was a critique of laissez-faire capitalism and its ideologues.

This shift towards Keynesian thinking was widely shared by many politically active economists across the world. In the years leading up to the resurgence, Germany had been home to some of the most outspoken critics of Keynesianism, yet according to economist Sebastian Dullien writing in December 2008, "important voices in the German economic profession are now calling for a large stimulus package, passed as quickly as possible". The New York Times reported that in the March 2008 annual meeting of the American Economic Association, economists had remained hostile or at least sceptical about the government’s role in enhancing the market sector or mitigating recession with fiscal stimulus. But already during the January 2009 meeting virtually everyone voiced their support for such measures.

There were a few high-profile known dissenter economists, such as Robert Barro and Eugene Fama, but in 2008 and early 2009 their objections had little influence on the mainstream debate. A dissenter from Germany had been Stefan Homburg, who in January 2009 complained "I simply cannot understand how so many economics professors have done a complete U-turn. Have they all gone mad?"

Among the less publicly prominent economists, who tend to debate only with their fellows and write mainly in technical journals, a substantial shift in opinion was less obvious. Speaking in March 2009, Galbraith stated that he had not detected any changes among academic economists, nor a re-examination of orthodox opinion in the journals.

Until 2008, the consensus among most mainstream economists was that fiscal stimulus did not work. New Keynesians and New Classical economists had previously agreed monetary policy was sufficient for most downturns and the two schools of thought debated only technicalities. The extent of the recession made the New Keynesians re-evaluate the potential of large stimulus, and their debates with New Classical economists, who often opposed stimulus entirely, became substantive. Some economists (primarily post-Keynesians) accused the New Keynesian system of being so integrated with pro-free market neo-classical influences that the label 'Keynesian' in this case could be considered a misnomer.

The 2008 financial crisis has led economists to pay greater attention to Keynes's original theories. In February 2009, Robert Shiller and George Akerlof argued in their book Animal Spirits that the current US stimulus package was too small, because it did not take into account loss of confidence or do enough to restore the availability of credit. In a September 2009 article for The New York Times, on the lessons economists should learn from the crisis, Paul Krugman urged economists to move away from neoclassical models and employ Keynesian analysis:

“

So here's what I think economists have to do. First, they have to face up to the inconvenient reality that financial markets fall far short of perfection, that they are subject to extraordinary delusions and the madness of crowds. Second, they have to admit ... that Keynesian economics remains the best framework we have for making sense of recessions and depressions. Third, they'll have to do their best to incorporate the realities of finance into macroeconomics.

”

By mid-2010, interest in Keynes' ideas was still growing within academia, even though the apparent consensus among prominent economists had fractured and the revival in Keynesian policy making had to some degree stalled.

In October 2011 journalist John Cassidy noted the large number of new books that had recently come out about Keynes, including from leading universities such as Cambridge and MIT, with more books due to come out towards the end of that year.

Criticisms

Keynesian ideas also attracted considerable criticism in this time period. While from late 2008 to early 2010 there was broad consensus among international leaders concerning the need for coordinated stimulus, the German administration initially stood out in their reluctance to fully embrace Keynesian policy. In December 2008, Finance Minister Peer Steinbrück of Germany criticised Gordon Brown's advocacy of Keynesian stimulus, saying "The switch from decades of supply-side politics all the way to a crass Keynesianism is breathtaking." However, by the end of January 2009 Germany had announced a second stimulus plan which, relative to GDP, was larger than Britain's. George Osborne, at the time shadow British chancellor, opposed a return to Keynesian policy from as early as October 2008, saying "even a modest dose of Keynesian spending" could act as a "cruise missile aimed at the heart of recovery."

Critics argued that Keynesian policy would be counter-productive – for the reasons of being inflationary, creating more income disparity, and causing consumers to rein in their spending even more as they anticipated future tax increases. In 2009, more than 300 professional economists, led by three Nobel laureates in economics, James M. Buchanan, Edward C. Prescott, and Vernon L. Smith, signed a statement against more government spending, arguing that "Lower tax rates and a reduction in the burden of government are the best ways of using fiscal policy to boost growth."

Robert Barro, an economics professor at Harvard University (author of the 1974 Ricardian equivalence hypothesis postulating that government stimuli are inefficient in a perfect market), argued that US stimulus spending might be unwise because of one of the factors the US stimulus package depended on for its effectiveness, the "multiplier effect". The fiscal multiplier, required to be over the value of one for the effect to take place, was in practice close to zero – not 1.5 as he said the Obama team were assuming – which means the extra employment generated by the stimulus would be cancelled out by less output and investment in the private sector. A group of German economists had also argued that the size of the multiplier effect was overestimated, while the Memorandum Group of German Economics Professors claimed the opposite and demanded a larger stimulus.

Economist Edward Prescott (author of the real business-cycle model that post-Keynesians hold failed to forecast the crisis) and economist Eugene Fama argued that stimulus plans are unlikely to have a net positive effect on employment, and may even harm it. Economist Jeffrey Sachs doubted a positive effect because the stimulus and associated policies "may work in the short term but they threaten to produce still greater crises within a few years". In a June 2010 article, referring to the cooling of enthusiasm for further stimulus found among policy makers at the 2010 G-20 Toronto summit, Sachs declared that Keynesian economics is facing its “last hurrah”.

There have also been arguments that the Great Recession of the early 21st century was caused not by excessively free markets but by the remnants of Keynesian policy. Luigi Zingales of the University of Chicago argued that "Keynesianism is just a convenient ideology to hide corruption and political patronage". In February 2009, Alan Reynolds, senior fellow at the Cato Institute, acknowledged the Keynesian resurgence, but stated that evidence from various studies suggest Keynesian remedies will be ineffective and Keynesian advocates appear to be driven by blind faith. In 2009, historian Thomas Woods, an adherent to the Austrian school of economics, published the book Meltdown, which places blame for the crisis on government intervention and points to the Federal Reserve as the primary culprit behind the financial calamity.

Professor John Bellamy Foster, a sociologist, questioned whether the resurgence had been truly Keynesian in character. He suggested those few economists he regards as genuinely progressive, such as James Galbraith, were now far from the centre of government. He also asserted that it is Karl Marx, not Keynes, that society should look to for a full solution to economic problems.

Aftermath: 2010 and later

According to Henry Farrell and John Quiggin, by late 2009 the previous apparent consensus for Keynesian policy among prominent economists began to dissolve into "dissensus". There was no reversal to the previous free market consensus, but the apparent unity of the previous year had gone. In part this was due to objections from anti-Keynesians like Robert Barro attracting wider attention, in part to the intervention of elite economists who had previously kept out of the debate (specifically from the ECB, but also others, including Jeffery Sachs). The lack of consensus among expert opinion made policy makers vulnerable to calls for abandonment of Keynesian policy in favour of fiscal consolidation.

In April 2010 a communiqué from the Washington meeting of finance ministers called for continuation of the stimulus policies until the recovery is firmly entrenched with strong private sector activity, though it accepted that some countries had already begun to exit from the policies. By mid-2010, the earlier global consensus for ongoing Keynesian stimulus had fractured, mirroring the "dissensus" that had emerged among prominent economists.

Especially in Europe, there was an increase in rhetoric calling for immediate fiscal tightening, following events such as the Greek debt crisis and the displacement of the UK Labour government with a coalition dominated by the Conservatives after the May 2010 elections. While some high level officials, particularly from the US and India, continued advocating sustained stimulus until the global recovery is better established, a communiqué from the G20, issued after their June 2010 meeting of finance ministers in Busan, welcomed the trend towards fiscal consolidation rather than further deficit financed stimulus. The G20 did reiterate that forceful government intervention had been the correct response in 2008 and 2009. Then IMF managing director Dominique Strauss-Kahn, who had been a leading advocate for stimulus spending from as early as January 2008, said he was comfortable with the reversal.

European political leaders embarked on substantial austerity drives. In July 2010, leading European economic policy maker Jean-Claude Trichet, president of the ECB, stated that it was time for all industrial nations to stop stimulating and start tightening. Keynesian economists and Keynes biographer Lord Skidelsky contested the move to implement cuts given the still fragile economy. In a July 2010 article, Financial Times columnist Philip Stephens argued that recent events show the markets to have re-established themselves as leading influences on western economic policy, while Brad DeLong wrote that he considered himself and fellow Keynesians to have lost the argument for fiscal stimulus.

In April 2011, Professor Patrick Dunleavy wrote that the resurgence has caused a "backlash against the State", starting in America with movements like the Tea Party and later spreading to Europe. He also stated it is likely that ideological wars between rival economic world views have returned for good. In September, Steven Rattner opined that the 2012 US presidential election was shaping up to be a contest between the economic policies of Keynes and Friedrich Hayek - "a clash of ideologies the likes of which America has not seen in decades." Republican candidates openly praised Hayek and Ludwig von Mises. According to Rattner, while the Democrats economic strategy remained largely based on Keynes, the economist's name was now rarely mentioned; "Keynes" had become an almost politically toxic word due to the extensive criticism of the 2009 Keynesian stimulus. Rattner refers to the work of Alan Blinder and Mark Zandi, which determined that the 2009 US stimulus saved about 8.5 million jobs, and with Obama's third stimulus, a $450 billion Jobs plan was projected to create 1.9 million jobs in 2012. Also in September, President of the European Commission José Manuel Barroso called for additional fiscal policy to boost economic growth, while recognizing many European countries did not at that time have the capability to launch a substantial stimulus program. German Chancellor Angela Merkel rejected the idea of further stimulus.

By November 2011, efforts to pass Obama's American Jobs Act had been rejected by the US Congress. In Britain, in November David Cameron made a speech in which he recognized a deteriorating economic outlook, but said those arguing for traditional fiscal stimulus were "dangerously wrong". Simon Cox, Asia economics editor for The Economist, predicted that while China might face future economic challenges, the incoming leaders expected to take over the top positions in late 2012 ( Xi Jinping and Li Keqiang ) were far less likely than their predecessor to respond with Keynesian policies.

Also in November, The Courageous State book was released by the anti-tax evasion campaigner Richard Murphy, calling for a revival of the Keynesian resurgence, which he argues is the best economic policy for the interests of ordinary people. Murphy sees the resurgence as having faded out by late 2009. Influential figures that had come out against Keynesian policy, even from left of center politics, include the UK Labour Party's Maurice Glasman, whose favorite economist is Hayek, and the diplomat Carne Ross, who asserted that no form of centralized authority can meet the problems of the modern world, arguing for an anti-statist form of participatory democracy instead.

In January 2012, Philip Stephens repeated his earlier view that the markets once again have decisive influence on economic policy making, also noting a decline in the public's trust in government in both Europe and the US, along with greater concern over public debt. In March however, while accepting that the resurgence had stalled, Paul Krugman expressed optimism about the long term prospects of achieving a lasting shift towards Keynesianism in both mainstream economics and policy making. In May, Krugman published the book End this Depression Now!, where he repeated his calls for greater use of fiscal stimulus, though according to the Financial Times his proposals were both "modest" and "cautious", reflecting the resistance to such measures since the end of resurgence.

In June Krugman and Richard Layard launched A manifesto for economic sense, where they call for greater use of stimulatory fiscal policy to reduce unemployment and boost growth. By mid-2012, with the ongoing Euro crisis and persistent high unemployment in the US, there had been renewed consideration of stimulus policies by European and American policy makers, but no return to the pro-stimulus consensus that existed in 2009. After the 2012 G8 summit, leaders issued a statement recognising the range of opinions concerning the best measures to strengthen their economies.

In January 2013, Japan's recently elected conservative government announced a ten trillion yen Keynesian stimulus package, which was to include public works and create an expected 600,000 new jobs. But at the same time the Financial Times published Wolfgang Münchau's article US joins misguided pursuit of austerity, as the great power was abandoning the relatively stimulatory policy it had adopted prior to 2013, repeating, in the author's view, Europe's mistake. In July 2013, Philip Mirowski wrote that not only had the Keynesian resurgence subsided, but the rival economic orientation of neoliberalism had emerged from the financial crisis stronger than ever.

In May 2016, three IMF economists published new research findings and criticized some of the fundamental assumptions of the neoliberal doctrine. They warned that austerity policies could do more harm than good because of their social costs – increased inequality, which "in turn hurts the level and sustainability of growth". Speaking of capital account liberalization, that is unrestricted movement of capital across international borders ("openness") and fiscal consolidation, meaning policies to reduce fiscal deficits and debt levels ("austerity"), they wrote: "Since both openness and austerity are associated with increasing income inequality, this distributional effect sets up an adverse feedback loop. The increase in inequality engendered by financial openness and austerity might itself undercut growth, the very thing that the neoliberal agenda is intent on boosting. There is now strong evidence that inequality can significantly lower both the level and the durability of growth". Additionally, they recommended actively combating inequality by redistributing wealth via taxes and government spending, noting "the evidence of the economic damage from inequality suggests that policymakers should be more open to redistribution than they are" and "the fear that such policies will themselves necessarily hurt growth is unfounded".

By October 2016 there had been recent increases in fiscal stimulus for many countries, along with calls for this return to fiscal stimulus and demand management policies to increase further, or at least for further research into clarifying the scope for such policies to be effective. Sources for these calls included the IMF, Janet Yellen and senior Whitehouse economist Jason Furman. While some economists and government policy makers remain sceptical, Martin Sandbu for the Financial Times said a return to Keynes original positive views about demand management is underway. Sandbu calls this "paleo-Keynesianism" to differentiate from "new Keynesianism" thinking which had relatively little to say in favour of state intervention in the economy.