Abstract
No other single event has so profoundly transformed the fundamentals of economic thinking as the Great Crash in 1929. In the aftermath of the crisis, academic orthodoxy and policy makers were passively waiting for the economy to automatic return to normality, while Marxist orthodoxy was contemplating the doomsday of capitalism. It took a radical new approach to understand the intricacies of the crisis and mobilize a new type of policies that ultimately succeeded in restoring employment and confidence in the system. The rise of Keynesianism inspired a host of related disciplines on measuring and modeling economic phenomena and ushered in a new period of understanding economics and conducting economic policy. Studying fluctuations became a central theme in economic theory, but views were still in conflict as to whether they can be dampened by policy intervention or should be left to attenuate themselves.
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Notes
- 1.
More details can be found in Friedman and Schwartz, The Great Contraction 1929–1933 (2008).
- 2.
The illusion was fueled by the groupthink effect: the pressure to conform with the prevailing view discourages and punishes individual dissent.
- 3.
As Friedman and Schwartz observe, during the 1932 campaign, both presidential candidates had promised to balance the budget if elected (2008, op. cit., p. 48).
- 4.
- 5.
In his book Pigou, The Theory of Unemployment (1933).
- 6.
The analogy looks impressively similar to the distinction initially made by Machiavelli between individual preferences and collective outcomes, as discussed in Chap. 4.
- 7.
- 8.
Ricardo had already noted that “there cannot… be accumulated in a country any amount of capital which cannot be employed productively”; in his work On the Principles of Political Economy and Taxation (1817, Chap. XXI).
- 9.
For a wide range of applications, see Leontief, Essays in Economics: Theories, Facts and Policies (1977).
- 10.
Time-series autoregressive models was another method of economic forecasting developed by Robert Engle and Clive Granger (NLE 1987). Instead of Keynesian principles and structural equations, it was based on the properties of time series without adhering on any specific theory.
- 11.
Khun, The Structure of Scientific Revolutions (1970, Chap. VII). He illustrates his point with the example of the series of mistaken forecasts made by the Ptolemaic model, which led to its ultimate replacement by the Copernican sun-centered model.
- 12.
See Pressman’s account in Fifty Major Economists (2006, p. 88).
- 13.
Gunnar Myrdal was one of the leading proponents of this policy.
- 14.
Schumpeter failed monumentally to understand the impact of the Great Crash and believed that the recovery will automatically come; see Galbraith, History of Economics: The Past as the Present (1998, p. 195).
- 15.
An account of his life and theory can be found in Barnett, Kondratiev and the Dynamics of Economic Development (1998). Despite being a Marxist, Kondratiev did not hesitate to argue that diminishing capital returns would exist under socialism as well, thus cyclical crises would occur despite state ownership of all means of production. This view was an arrow in the heart of established certainty and he was exiled to Siberia. Kondratiev never denounced his views and ultimately was executed by Stalin in 1938. He was reinstated in 1987.
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Christodoulakis, N. (2015). The Great Crisis and the Theory of Keynes. In: How Crises Shaped Economic Ideas and Policies. Springer, Cham. https://doi.org/10.1007/978-3-319-16871-5_10
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