Keynes Hayek: The Clash That Defined Modern Economics by Nicholas Wapshott

Free market or government intervention?

The enemy of this engrossing and lucid economic history is dichotomous thinking.

During WWII, as the Luftwaffe targeted culturally-rich cities in 1942, two economists, Keynes and Hayek, took their turn in fire-watching on the roof of King’s College chapel. This opened an account of the history’s greatest economic duel.

The interventionist vs. the free marketer. From their first face-to-face encounter to the heated arguments between their ardent disciples, this book here unearths the contemporary relevance of John Maynard Keynes and Friedrich Hayek, as present-day arguments over the virtues of the free market and government intervention rage with the same ferocity as they did in the 1930s.

This book also serves as interesting biographies of two famous economists, an exposition for popular consumption of their respective philosophical ideas, and a historical overview of who “won” in the intellectual and political arenas in different eras. Disclaimer: Though this book is an entertaining, often informative, read, the author Nicolas Wapshott is a journalist, not an economist, not even a financial journalist. Consequently, some of his exposition of theory is inadequate.

Throughout the book, the author gives a vivid account of personal and professional relationships that underscore continuing debates over monetary and fiscal policy. He uncovers how both economists responded to the combination of the turbulence of the 1920s and 30s, and their own specific experience of it - hyperinflation in Austria, and the iniquities resulting from reparations, in Hayek’s case; mass unemployment and the damage done by the Gold Standard in Keynes’s case.

Hayek’s philosophy was set quite early in his career by his connection with Ludwig Von Mises, whose work presaged Hayek’s argument that central planning obscured the information market prices carried about individuals’ opinion of the worth of a product or service, and thereby deprived people of an important freedom. However, Keynes, in a 1924 lecture, “The End of Laissez Faire”, was already arguing that the world is not so governed from above that private and social interest always coincide. It is not so managed here below that in practice they coincide. It is not a correct deduction from the Principles of Economics that enlightened self interest always operates in the public interest. Of course, the economy went on to prove Keynes right on this, witnessing how the free market in Wall Street crashed in 2008.

During the WWII, by necessity took the government deeply into the management of the economy. After the war, the imperative of building a welfare state for returning service men and women kept it there. The book explains how the evolution of the academic economics profession in the US - in particular the brilliant exposition of the Keynesian world view by Paul Samuelson - meant that before long we were “all Keynesians now”, as Milton Friedman put it.

The author also sets out the inter-relationship between US budget policy and the need for defence spending. Personally, I was struck by the success of big Keynes-inspired tax cuts in stimulating growth, and subsequent tax revenues, in 1964, a sharp contrast to the effect of the Reagan tax cuts, which are now usually derided as Laffer-curve mumbo jumbo. Finally, takes us to the modern-day obsessive interest with Keynes vs Hayek. Their intellectual or philosophical disagreement is often taken to correspond to a difference of opinion about whether the government can and should offset an economic downturn by increased deficit finance.

As previously mentioned, this is an interesting read, however, I have to say I believe the author’s adjudication of the clash between Keynes and Hayek is a bit impartial. He often describes how Keynes had “a commonsense understanding”, whereas Hayek’s was “intellectual rather than practical”. Keynes saw economics as “a means of improving the lives of others”, whereas Hayek was “consumed by economic theory for its own sake”. Keynes confronted “real-life dilemmas”, whereas Hayek indulged in “pure theory”. Seems a little bit biased to me. There is also one curious omission: no mention of Hayek’s central emphasis on prices in providing information as well as incentives.

In conclusion, despite the little flaws, I like this book. The author has done his homework in getting on top of the vast literature about Keynes. For these are not dead and dusty debates among professional economists but ongoing skirmishes in an ideological struggle that started in the 1920s – an 80 years’ war with no final victory yet in sight.