The Tale of the Dueling Economists

By NANCY F. KOEHN

JOHN MAYNARD KEYNES and Friedrich Hayek. The names conjure opposing poles of thought about making economic policy: Keynes is often held up as the flag bearer of vigorous government intervention in the markets, while Hayek is regarded as the champion of laissez-faire capitalism. 

Patricia Wall/The New York Times

What these men actually thought — about the economy and each other — is more complicated, as Nicholas Wapshott demonstrates in “Keynes Hayek: The Clash That Defined Modern Economics” (W. W. Norton, $28.95). This lively book explores one of the most pressing economic questions of our time: To what extent should government intervene in markets? And in that search, it traces the interaction of the two men most responsible for the way we approach this question: the British economist Keynes and the Austrian economist Hayek.

Both men came of intellectual age in the aftermath of World War I. They lived through the boom of the 1920s and through the Great Depression and arrived at radically different views of the wisdom of letting free-market capitalism run its course.

Keynes concluded that markets would not automatically provide full employment and that during downturns there could be long periods of large-scale unemployment. He argued that it was the government’s duty to relieve the plight of the jobless by increasing aggregate demand for goods and services.

Mr. Wapshott, a Reuters contributing columnist and a former senior editor at The Times of London, skillfully reconstructs the context in which Keynes formulated his theory. During the 1920s, Britain endured persistently high unemployment. Successive policy makers, worried about rising expenditures and falling tax revenue, ignored Keynes’s calls for public spending, setting off what he called a “vicious circle.”

“We do nothing because we have not the money,” Keynes said in 1930 to a government committee investigating the causes of the economic crisis. “But it is precisely because we do not do anything that we have not the money.” With the unemployment rate now at 9.1 percent, I gulped long and hard as I read these pages.

Hayek came to a very different conclusion. After serving in World War I, he found his beloved Vienna “devastated and its people’s confidence broken,” Mr. Wapshott writes. During the ensuing decade, hyperinflation pummeled the Austrian economy, melting away the savings of millions of people.

This experience, Mr. Wapshott argues, hardened Hayek “against those who advocated inflation as a cure for a broken economy.” And he came to believe “that those who advocated large-scale public spending programs to cure unemployment were inviting not just uncontrollable inflation but political tyranny.”

Thus, the author writes, the battle lines between Keynes and Hayek were drawn. Yet it was a duel characterized by mutual respect. Keynes, for example, shared Hayek’s distrust of socialism, while Hayek conceded that in the case of chronic unemployment, planning might play a role without leading to oppression.

But it was still a duel. In 1936, Keynes published “The General Theory of Employment, Interest and Money,” which took on classical economics and people like Hayek who subscribed to its tenets. Keynes’s targets included several long-accepted ideas: that employment levels are determined by the price of labor, that supply creates its own demand and that savings automatically translate into investment.

Keynes didn’t expect that his findings would lead to an infringement of personal liberty. Instead, the author writes, Keynes believed “that a prosperous society in which everyone is employed was the surest way of maintaining the independence of thought and action he considered the guarantor of true democracy.”

Hayek did not publicly detail any criticisms of “The General Theory.” But in 1944, he brought out “The Road to Serfdom,” which has become a libertarian classic. Hayek aimed to expose socialism and fascism as twin evils, warning of the potential dangers of central economic planning in the aftermath of World War II.

“It is Germany whose fate we are in some danger of repeating,” Hayek wrote.

Keynes was swift to respond, reminding Hayek that the rise of National Socialism was fueled not by big government but by mass unemployment and a failure of capitalism. 

The last third of the book focuses on the economists’ legacies. Keynesian ideas were ascendant in the postwar era, but by the mid-1970s, with the onset of low economic growth and inflation — a combination previously deemed impossible — Mr. Wapshott says it seemed that “the Age of Keynes was in its death throes.”

For the next few decades, Hayek’s ideas and proponents like Milton Friedman, who argued that monetary and not fiscal policy was the major tool for managing the economy, gained steady influence. In the author’s view, Hayek’s influence was seen in the 1994 “Contract With America,” the Republican pledge to shrink big government; in the later balanced-budget legislation of President Bill Clinton; and in the operations of the Federal Reserve under Alan Greenspan.

In 2007, the subprime mortgage market began to implode, suggesting that “the decades-long experiment in allowing barely restrained markets to generate growth and prosperity had failed,” Mr. Wapshott writes. A rapid return to Keynesian prescriptions occurred in the next two years, culminating in President Obama’s $787 billion recovery program in early 2009.

By then, however, the old ideological struggle had re-emerged. “Not a single Republican voted for the stimulus,” the book notes. “And with barely a semi-quaver rest, the old Keynes-Hayek arguments broke out again. It was as if the intervening 80 years had not taken place.”

Mr. Wapshott has written an important book. It is compelling not only as a history of two distinctive thinkers and their influence, but also as a narrative of political decision-making and its underlying priorities. At times, it seems that the author is as much under Keynes’s charismatic thrall as some of his disciples; it would have been even stronger with more attention to Hayek and the evolution of his thought.

But these are quibbles. Underlying Mr. Wapshott’s analysis are vital questions for this moment in American history: What kind of society do we want? How much faith do we have in individual agency? And what do we owe to our fellow citizens and our collective future? As Mr. Wapshott writes, these very questions animated Keynes and Hayek during a time when the stakes were also very high.