Keynesian Economics

In 1936, economist John Maynard Keynes proposed a newspaper contest in which readers would select the six most attractive faces from a hundred photographs. This pre-Instagram analogy illustrated that one strategy might be to choose based on what others would find attractive.

This term, applied to investing, suggests that an investor is going to move forward by guessing what others are going to do instead of using his/her own judgment.

Keynes was a British economist and founder of modern-day macroeconomics. Popular in the 1960s. His big book? Everybody Poops. Well, yes, that one. But, uh…his big economics book? General Theory of Employment Interest and Money. Published in 1936...written in the middle of the Depression when spending was hugely declining and the notion of putting all your cash in your mattress was actually not a bad idea at all.

Keynes wrote that, once employment dropped, a new balance with low employment was created...and the Depression might continue on and on, unless the government started spending. According to Keynes, the big solution (aside from lowering taxes) was to have the government spend and spend to get things moving economically...even if it meant the government falling into debt.

With the goal being to stimulate demand, this went against the ideas that economists had before, i.e. that the economy would eventually correct itself, no interference needed.

Not everyone likes Keynes' ideas, but President Roosevelt and the rest of the administration eventually did create The New Deal, which took on a broadly Keynesian quality, characterized by major and unprecedented government interventions into the economy.

Keynes also believed that economy could not function on its own. It needed parental help to correct it. That is, in times of depression, the government needed to lower taxes and increase spending, or the economy would stay in a funk like a generally unfed, cranky child. And, at the other end of the stick, to control inflation, the government needed to raise taxes and decrease spending.

And little things matter a lot in Keynesian economics.

Witness the multiplier effect. It’s kind of like that TV commercial where the woman with the awesome hair tells two friends about her conditioner, who tell two friends, who tell two friends, who then tell everyone. That is, a government tax cut puts an extra 5 grand in the hand of a lawyer, who spends most of that 5 grand on parties, employing caterers, and deploying his friend, Mr. Walker Black, who then deploys money on wheat and rye distilleries, such that the tax cut of 5 grand ends up being an economic stimulus of some 10 to 20 times that number.

Keynesian demand-focused ideas went on to dominate academic and government thinking about political economy through the 1960s...right about the time the first edition of Everybody Poops hit the shelves. Okay, so Keynes didn’t write that one, but still. Stimulating the economy, stimulating your bowels, six of one, half a dozen of the other.