(Here is a presentation I gave at the University of Denver at the annual J. Fagg Foster honors ceremony. Most of you will not know of Foster, but you should. While he did not publish much, he was the professor of a number of prominent institutionalists who attended DU in the early postwar period. I was lucky to have studied with his student, Marc Tool, and was introduced to Foster’s work at the very beginning of my studies of economics. My presentation below is based on two of Foster’s articles: J. Fagg Foster (1981) “Understandings and Misunderstandings of Keynesian Economics,” JEI, vol XV, No 4, p. 949-957.; and (1981) “The Reality of the Present and the Challenge of the Future”, JEI vol XV, No 4, p. 963-968. Both are from 1966, republished in a special issue of the Journal of Economic Issues, 1981. You should read them.)
Is this the age of Keynes? That’s the question raised by Fagg Foster in 1966.
In the 1960s the answer seemed obvious. Keynes dominated economics—or, at least, macroeconomics—and Keynesianism dominated policy. And it worked! Or, so most thought.
Foster wasn’t sure. While he agreed that “[t]here probably has been no instance in history in which a pattern of ideas has had so much effect on the everyday life of everyone in so short a time,” he thought most of Keynes’s followers misunderstood his theory.
Further, Foster wasn’t convinced the theory provided a firm basis for policy.
Finally, he lamented that “among all post-Keynesian economists, the institutionalists seem to have been least affected by Keynes’s theory…. The institutionalists have not even contemplated the possibility of any generic relationships between the Keynesian theory and their own.”
A decade later, so-called Keynesian economics was in disarray, a casualty of the apparent failure of policy to fine-tune the economy. Stagflation at the end of the 1970s delivered the final blow, and fueled the rise of increasingly preposterous approaches such as Rational Expectations, Real Business Cycle theory, the Efficient Markets Hypothesis and hence on to DSGE with a single representative agent standing in for the whole economy.
In truth, even in the heyday of Keynesianism, policy was directed to stimulate the sentiments of business undertakers—precisely what Keynes recommended against—with supply-side tax cuts and a cornucopia of subsidies to the captains of industry.
While a parallel approach developed calling itself New Keynesian, the only thing new was the adoption of the craziest “new” orthodox ideas (witness rational expectations). And the only thing “Keynesian” was the presumption that sticky wages and prices prevent instantaneous market clearing—which was actually the old Neoclassical explanation of unemployment that Keynes had dispatched.
With friends like these, Keynes doesn’t need enemies.
In retrospect, Foster might have been a bit hard on the institutionalists. continue reading…