May 29, 2014
The Trouble with Progressive Economics
Beyond Keynesianism and Neoliberalism
The difficulty lies, not in the new ideas, but in escaping from the old ones, which ramify, for those brought up as most of us have been, into every corner of our minds.
-- John Maynard Keynes
When American progressives consider economic policy these days, the term that perhaps best describes their mood is "flummoxed." Most can't fathom why the neoclassical economic consensus shows no sign of being overthrown despite its role in causing the greatest economic crisis since the Great Depression. Compounding their befuddlement is the fact that the era of bipartisan Keynesianism (mid-1940s to mid-1970s) out-performed the era of bipartisan neoliberalism (mid-1970s to today) along virtually every metric, including unemployment rates, GDP growth, income equality, and the trade deficit. In the face of such overwhelming repudiation by reality, how can neoclassical economics remain the north star of most economic policy makers, including many in the Obama administration, they ask?
While many progressives blame corporate political donations and right-wing media outlets, in truth the persistence of neoclassical ideology owes as much to the failings of the Left as it does to the successes of the Right. What passes for progressive economic doctrine today is a haphazardly updated version of mid-century Keynesianism that has largely failed to come to terms with the realities of the globalized, innovation-powered, 21st century economy in which we live. Just as classical liberal economics was unable to respond to the challenges of the Great Depression, and Keynesianism was unable to respond to stagflation in the 1970s, neither anti-government neoliberalism, nor anti-corporate Keynesianism are fit to deal with America's present economic predicament.
As the hope that the financial crisis would vanquish neoclassical economics recedes further into the distance, liberals face a fundamental choice. They can hold on to the hope that some combination of tinkering around the edges of neo-Keynesian economic thought, future economic crises, and better messaging will eventually allow them to win the day. Or they can acknowledge that contemporary progressive economics no longer offers a credible way forward for US economic policy without substantial revision. In order to stand a chance at overthrowing the sclerotic neoclassical doctrine and its accompanying policies, progressives must develop a new economic doctrine with a coherent theory of how to drive sustained growth, productivity, and innovation in an increasingly competitive global economy.
To understand why progressive economics is failing liberals today, one needs to understand why it served us so well in the beginning. John Maynard Keynes's 1936 magnum opus, The General Theory of Employment, Interest and Money, written at the depths of the Great Depression, revolutionized economics and economic policy. Keynes demonstrated that the economy had changed in fundamental ways that made the classical economic model, which had prevailed throughout the 19th and early 20th century, anachronistic. The exhaustion of the old, mechanics-based, factory economy in the late 1920s sparked the Great Depression and coupled with the rise of the new mass-production, managerial, corporate economy after World War II, exposed the fundamental limitations of classical economics.
Classical economics held that individual pursuit of self-interest leads to the public interest and therefore, individuals should be free to make the legal decisions they want without distortion by government. But Keynes argued that individuals, particularly during economic downturns, do not behave in economically rational ways and that markets, particularly during the panics that frequently ensue, do not expeditiously self-correct. What results is the destruction of enormous amounts of societal wealth, an outcome that clearly does not serve the public interest. Keynes went on to argue that during downturns the government has to "prime the pump," ideally by temporarily boosting public spending in order to compensate for the steep decline in private consumer demand.
Keynesianism gave a resurgent Democratic Left an economic rationale for increasing the size and scope of government and, once the Depression ended, for boosting taxes. According to this new doctrine, government wasn't the necessary evil that classicists conceived it to be, but a key player in ensuring that the economy stayed on an even keel and kept growing. As a result, the implications of Keynes's work went far beyond helping to end the Depression: they fundamentally changed the way we think about the role of government in the economy and society. For the first time, thanks to Keynesianism, workers' wages and government spending, not private savings and investor profits, were the central focus of American economic policy.
In the decades following World War II, the Keynesian economic consensus held sway among liberals and many conservatives, too. High levels of postwar spending funded by high marginal tax rates were accompanied by high levels of wage and economic growth and low levels of unemployment. President Richard Nixon famously pronounced his own conversion, telling ABC News anchor Howard K. Smith in 1971, "I am now a Keynesian in economics."
Yet, just a few years later, the Keynesian "fine tuning" of the economy no longer seemed to work. As the postwar, mass-production, corporate economy began to exhaust itself, productivity growth stalled. Stagnant productivity, combined with excessive government spending on the Vietnam War and two oil shocks resulted in stagflation (high unemployment alongside high inflation) -- something that was not supposed to be possible in the Keynesian world. Moreover, US economic competitiveness began to weaken as Europe and Japan challenged America in a host of industries, in part by offering strong policies to support manufacturing. These factors created an opening for a fundamental critique of progressive demand-side economic doctrine. As conservative economist Henry Hazlitt stated in 1979, "Keynesians and New Dealers seem to be in slow retreat. Conservatives, libertarians, and other defenders of free enterprise are becoming more outspoken and more articulate. And there are many more of them."1
What became the neoclassical economics movement filled the void created by the retreating Keynesians. As Martin Feldstein, President Ronald Reagan's chairman of the Council of Economic Advisors wrote, "Much of our 'supply-side economics' was a return to basic ideas about creating capacity and removing government impediments to individual initiative that were central in Adam Smith's Wealth of Nations and in the writings of the classical economists of the nineteenth century."2
Since then, neoclassical economic doctrine has come to dominate the economic policymaking of both national parties. While Republicans look to an updated, laissez-faire version of classical economics for guidance, Democrats, starting with former President Jimmy Carter, have mostly been guided by a liberal version of neoclassicism that embraces the fundamental tenets of the primacy of markets, but is tempered by a concern for fairness. This "neoclassical economics with a heart" -- sometimes called "Rubinomics" -- is the chosen economic doctrine of Obama-ites like Tim Geithner, Austan Goolsbee, Peter Orszag, and Larry Summers.
While much of official Washington, including Democratic Washington, has remained in the grip of neoclassical theory, most progressives maintain a distinctly different doctrine: "progressive economics." With institutional homes at think tanks like the Center for American Progress, the Center on Budget and Policy Priorities, the Center for Economic and Policy Research, Demos, the Economic Policy Institute, the Levy Economics Institute, and at various economics departments, contemporary progressive economics absorbed many of the lessons of the 1970s, including the need to keep a leash (however loose) on inflation. But beyond these concessions to Keynesianism's 1970s-era failures, the basic corpus of progressive economic doctrine has remained strongly defined by mid-century Keynesian theory.
As such, virtually all contemporary progressive economic thought begins with the premise that demand for goods and services -- whether from business investment, government spending, or consumer spending -- drives economic growth.3 In this view, a dollar spent by government is as good as a dollar spent by consumers or businesses, maybe even better. Keynesians further presume that since demand drives growth, and since consumer, business, and government spending are equally capable of stimulating demand, the most reliable way that policy makers can perpetuate growth is to maintain robust levels of government spending while enacting policies that support those with the highest propensity to spend (e.g., low- and moderate-income households). As John Kenneth Galbraith once argued, "If the state is effectively to manage demand, the public sector of the economy must be relatively large."4 And as former Economic Policy Institute President Jeff Faux writes, according to progressive economic doctrine, a key role of the federal government is "to jump-start consumer demand and through its spending keep it up."5
At the macroeconomic level, the primary purpose of Keynesian demand-side policies is to maintain short-term growth through the business cycle. In this regard, progressive economic doctrine and neoclassical doctrine largely agree. According to both, markets drive long-term economic growth and productivity; the role of the state is to manage the business cycle and to intervene when slack demand threatens an economic downturn. Where they differ is on the question of how the government should intervene. While neoclassicists prefer monetary policy and tax cuts, particularly on business and the wealthy, progressives prefer government spending and tax cuts on low-income households.
Beyond fetishizing spending and demand, progressive economics challenges the neoclassical assumption that markets, left to their own devices, will produce a good society or equitable economic outcomes. Progressives believe the government must ensure that capitalism's excesses are managed and its limitations addressed. The government's responsibility is to regulate corporations by enacting labor, environmental, and product safety laws and to ensure a social safety net by providing, among other things, unemployment insurance, retirement security, and health care. For progressives, the pantheon of progressive economics' accomplishments -- Medicare, Medicaid, the war on poverty, environmental laws, federal support for education in low-income schools, and consumer protection laws -- are all steps to address the abuses of markets.6
In this regard, progressive economics has typically focused less on promoting growth and more on fairly distributing its fruits. As a result, what passes for a progressive growth agenda mostly remains a redistribution agenda. For example, the Economic Policy Institute recently began to develop an "agenda for shared prosperity," a laudable goal. Yet the announcement of this new agenda notes, "We are inheritors of a tradition that believes government has an important role to play in stimulating economic growth, lessening inequalities and economic insecurities, providing affordable and accessible health care, ensuring retirement income security, respecting the rights of working people to organize to improve their condition, and helping families balance work and family life."7 Economic growth is mentioned in passing, but the other measures are all designed to create a fairer and better society, not a richer one. In a similar vein, MIT economist Frank Levy argues: "We cannot legislate the rate of productivity growth ... That is why equalizing institutions are so important."8
But redistributive policies do not constitute a growth agenda even if a growth label is slapped on them. Today, progressive economics is mainly concerned with social policy, not economic policy, which is why it has persistently failed to be adopted as a guide to economic policy making. In the past 10 years, some progressives acknowledged this failing and tried to update Keynesian growth theory. But this updated version of Keynesianism hardly constitutes a serious rethinking. Instead, progressives have merely fussed a bit around the edges, claiming a tenuous link between higher consumer demand and greater business investment, which they argue drives growth.9 As such, the progressive canon still lacks a coherent or credible theory for how to spur productivity, innovation, and competitiveness. Little wonder that many voters find the neoclassical story, flawed as it is, more appealing: it at least claims to produce a larger pie.
The economist Joel Slemrod observed that the conceit that economics is a hard science is belied by the reality that "our values about equity end up being so correlated with our beliefs about what kind of fiscal, or tax, policy works best for the economy."10 While contemporary economics wraps itself in supply curves and "mathiness," the truth is that economic doctrines are not and should not be adopted based on complex math formulas. Instead, the criteria for choosing an economic doctrine should be based upon how well the doctrine is suited to the economic realities of the time.
One can make the case that Keynesian economics was in fact suited to the realities of the postwar American economy. During the postwar era, economic growth generally took care of itself. As such, mid-century Keynesianism was never forced to address the question of how to ensure long-term growth. Because US business establishments faced little international competition during this period, mid-century Keynesianism could also afford to be indifferent to the fate of business establishments, and indeed, to go so far as to pressure them through high taxes and regulation. Today, we don't have the luxury of indifference toward these issues. Any economic doctrine that seeks dominance must be able to provide a compelling narrative and policy framework for how to drive growth; spur, not retard, innovation; support the global competitiveness of US establishments; and create a new kind of globalization. And yet, to date, progressive economics has provided no such framework. It is this core weakness that makes progressive economics, at least in its current state, a doctrine unfit to guide 21st century US economic policy making.
Developing a credible growth agenda will require progressives to fully embrace efforts to accelerate technological innovation and productivity growth. The best scholarship today identifies knowledge, technology, entrepreneurship, and innovation as the primary drivers of long-term economic growth. Over the long-term, innovation (the development of new products, services, processes, and business models) creates jobs11 and enables higher wages and lower prices. Moreover, sustained increases in rates of innovation and productivity growth likely represent the only long-term path to equitable growth and a sustained social welfare state in an increasingly competitive and globalized economy.
But innovation does not simply materialize out of thin market air. In fact, sustained government investment was required to produce many of the big innovations we take for granted, from the steam engine to the Internet to the iPhone.12 Unfortunately, progressive Keynesians, like neoclassical economists and a large swath of the American political elite, tend to ignore the government's role in proactively spurring innovation. Neoclassical economists have an excuse: they believe the market drives innovation and that governments need not get involved since government interference in markets only makes matters worse.
Progressives have no such excuse, but they have long been ambivalent about innovation for other reasons. Indeed, many progressive economists have opposed economic policies that explicitly favor new technology -- particularly process (as opposed to product) technology -- for fear that such efforts will displace workers and threaten full employment.
Rather than fighting economic innovation, progressives need to embrace innovation policies while supporting policies that help workers navigate the tricky waters of the new knowledge economy. We should continue to fight for a more equitable distribution of wealth and a stronger social safety net in order to help workers manage the creative destruction that a vibrant, postindustrial, 21st century economy must strive for. But progressive opposition (and indifference) to innovation is profoundly misguided. Attempting to constrain innovation and productivity growth in order to avoid short-term economic disruptions and transitions is self-defeating, as declining rates of sustained economic growth are a vastly greater threat to the social safety net and economy-wide employment security than innovation or productivity.
Supporting innovation and productivity will, by necessity, require progressives to support corporations. The vast majority of jobs and economic activity are in the private sector. In fact, most small business jobs, especially the "Main Street" jobs progressives claim to love, are fundamentally dependent upon the health of corporate manufacturing and the technology sector. As such, improving the productivity and growth rate of the US economy requires helping private firms, including corporations, become more productive and innovative. Unfortunately, progressives today overwhelmingly view businesses, especially large multinational corporations, as part of the problem, not the solution. According to this view, multinational corporations are entities the government must temper with a strong hand and a short leash and economic policy unequivocally involves tradeoffs between big rapacious corporations on the one hand and weak, well-meaning consumers and workers on the other.
But helping companies does not mean helping the wealthy. We can and should raise taxes on the wealthy. But we should provide incentives for companies to train their workers and the government should invest in research and development (R&D) and new facilities in the United States. Doing so will drive higher productivity (and in turn higher wages), rapid innovation (so that consumers benefit from new products and services), and greater competitiveness (so that firms can grow and employ Americans here at home).
Finally, if it is ever to regain relevance on economic matters, contemporary progressivism must come to terms with globalization. By and large, progressives have viewed globalization as a threat, or something to be resisted. As Jeff Faux argues, we are "engaged in a desperate gamble that ill-prepared American workers cannot only survive but prevail in a brutal head to head competition in a world where the supply of productive labor is growing faster than the demand for that labor's production."13 According to this view, in a zero-sum global economy in which global production capacities far exceed global demand, American workers and businesses are simply not capable of competing with foreign competitors who are willing to cut corners on labor and environmental standards.
Convinced that American firms and workers are either unable to compete or that the global market place is inherently tilted against American interests, progressives propose imposing either trade barriers to limit foreign competition in domestic US markets, more stringent labor and environmental standards through trade agreements to raise the cost of production for competitors, or both. But knee-jerk mercantilism is not the answer. To be sure, there may be particular circumstances where it may be in our interest to use "buy American" and similar provisions selectively, particularly if there are significant national security implications, such as in Department of Defense procurement, or when we need to challenge nations that refuse to scale back their rampant mercantilist policies. But on a larger scale, we will be better served by getting tough on foreign mercantilism rather than copying it. This involves pushing back against currency manipulation, non-tariff trade barriers, and other mercantile policies that have undermined access to foreign markets for US firms, while simultaneously creating new free-trade blocs for countries and regions like the United States and Europe that largely play by the rules.
Similarly, there may be specific circumstances in which we should push for higher labor and environmental standards as we have rightly done in some recent bilateral trade agreements. But expecting developing economies like China, India, or, for that matter, Mexico, to require United Auto Workers wages for workers attempting to make the transition from brutal agrarian poverty to the modern wage economy is both absurd and practically unrealistic. We should be neither surprised nor outraged that developing economies have chosen to exploit their labor and other advantages to help drive economic development. As those nations develop and become more affluent, wages and environmental standards will slowly rise. But for the foreseeable future, they will likely have substantial cost advantages that are only slightly affected by the imposition of labor and environmental standards. Rather than fighting impossible battles over labor and environmental standards, we should fight currency manipulation, which prevents currency adjustments from automatically adjusting for these factors.
For progressives to confront the realities of globalization, they must abandon the belief that globalization is based on decisions individuals and organizations could make differently if they so chose. There are powerful social and economic forces driving globalization that cannot be resisted, only managed for better or worse. But while progressives must accept the reality of globalization, we need not accept all the effects as fait accompli. Instead, progressives must develop strategies to manage globalization. The notion that America cannot do anything to stay globally competitive due to high labor costs is a fallacy, and frankly, an excuse to avoid reconsidering long-held progressive dogma about the economy and growth. The United States is losing out, not only to low-wage economies such as China and Taiwan, but also to high-wage economies such as Germany and Japan, both of which enforce strong labor and environmental standards that in many cases exceed our own.
In the end, progressives can wait in vain in the hope that somehow their outmoded ideas about the economy will regain the relevance and acceptance that they enjoyed in the old, postwar, national, mass-production economy. Or they can do the hard intellectual work of revising their doctrine to fit with fundamentally new realities. This work includes embracing a much more robust innovation and competitiveness agenda, creating the incentives and support for American businesses necessary to promote sustained growth, and aggressively fighting to end foreign mercantilism, rather than reflexively supporting our own. The choice and opportunity is ours. /
1. Hazlitt, Henry. 1979. Economics in One Lesson. New York: Arlington House Publishers. (back)
2. Feldstein, Martin. 1986. "Supply Side Economics: Old Truths and New Claims" (working paper, National Bureau of Economic Research). (back)
3. Bernstein, Jared and Dean Baker. 2003. The Benefits of Full Employment: When Markets Work For People. Washington, DC: Economic Policy Institute (2). (back)
4. Galbraith, John Kenneth. 1968. The New Industrial State. New York: Signet (269). (back)
5. Faux, Jeff. 1997. "You Are Not Alone." In The New Majority, eds. Stanley Greenberg and Theda Skocpol. New Haven, CT: Yale University Press. (back)
6. Teixeira, Ruy and John Halpin. 2011. "The Origins and Evolution of Progressive Economics." Technical report, Center for American Progress. (back)
7. Eisenbrey, Ross, Mark Levinson and Lawrence Mishel. 2007. "The Agenda for Shared Prosperity: A New Policy to Address the Middle Class Squeeze." Economic Policy Institute Journal. Winter. (back)
8. Levy, Frank. 1998. The New Dollars and Dreams: American Incomes and Economic Change. New York: Russell Sage Foundation. (back)
9. See Bluestone, Barry and Bennett Harrison. 2000. Growing Prosperity: The Battle for Growth with Equity in the Twenty-first Century. Boston: Houghton Mifflin. (back)
10. Slemrod, Joel and Jon Bakija. 2004. Taxing Ourselves: A Citizen's Guide to the Debate Over Taxes. Cambridge, MA: MIT Press (141). (back)
11. See review of job creation and productivity in Castro, Daniel, Robert D. Atkinson and Stephen Ezell. 2010. "Embracing the Self-Service Economy." Washington, DC: Information Technology and Innovation Foundation. (back)
12. Hourihan, Matt and Robert D. Atkinson. 2011. "Inducing Innovation: What a Carbon Price Can and Can't Do." Technical report, Information Technology and Innovation Foundation. (back)
13. Faux, Jeff. 1997. "You Are Not Alone," (158). (back)