Thursday, June 11, 2009

Keynes and Consumption

All of a sudden, John Maynard Keynes has returned to the A-list. Exiled at the beginning of the Reagan administration, he is once again in vogue after the policies of Reagan and his successors collapsed in an economic meltdown.

Keynes made his name during the Great Depression when he knocked Says law off its pedestal. Says law stated that supply and demand would always balance out in the long run. 1929 put the lie to that.

Instead, Keynes put forth a theory of aggregate demand in which he argued that demand evolves from the interaction of consumption, investment and government spending. In short, he believed that if consumption drops because of an economic downturn, then it was necessary to increase government spending, which would put money in the consumer’s pocket, which, in turn, would be used to buy goods, and this would stimulate the economy. (Of course, this implied that government spending be reduced in good times, something our leaders ignored during the Cold War.)

The only problem I have with Keynes theory is that it was developed when mass consumption was in its adolescence.

It is difficult to date exactly when the age of mass consumption began since several factors contributed to it. There was the sudden flooding of the consumer market with large quantities of mass produced goods that were affordable. Some argue that mass consumption really took off in the 1890s with the growth of corporate bureaucracies and the increased pay for white collar workers.

If we accept 1890 as an arbitrary start date, then Keynes formulated his theory when mass consumption was a little over forty years old. At this time, there was still room for growth in the consumer market. Many homes were without indoor plumbing or electricity. Coal or wood still heated houses and cooked the food. Clothes were washed by hand; fields were plowed by a team of mules; hot water had to be heated on the stove.

Now we fast forward to today when consumption is seventy percent of our GDP, and one could argue that much of this consumption has been superfluous since most of our basic needs were met in the go-go days of the fifties and sixties. In addition to that, this superfluous consumption has been floated on a sea of consumer debt.

How do you stimulate spending in a saturated consumer market? Whatever money is funneled into the consumer’s pocket will most likely go to pay down consumer debt. We have been floating on a consumer bubble, and it has popped. It is unlikely it will be re-inflated.

Like Icarus, our economy flew too close to the sun and has come crashing back to earth. Unfortunately, there are no more wings to be had.

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