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Economy: Europe Summary Reading 7-12
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Lecture 7: The Crisis of the 1970s: From Keynesianism toNeoliberalism
Readings:
Aldcroft chapter 7
Eichengreen chapter 9
Definitions du Jour
Globalization
o Neoliberal
o Free movement of capital (similar to EU).
o Free movement of labor (similar to EU).
o Free trade
o No trade restrictions; elimination of trade barriers.
o Effectively – no borders for people, goods, or products
o WTO (World Trade Organization) and EU, transnational organizations. 80s and 90s
begin of globalization. Hand in hand with free trade; neoliberalism. National states
which adopted autarky, seen as inefficient; anti-autarky.
Neoliberalism
o Supply side
o Small government (means little government intervention for, government
intervention leads to inefficiency).
o Anti-Keynesian
o Monetarist → caring about fighting inflation rather than unemployment. If inflation
rate stays low, this tends to protect people with capital.
o Pro-business
o Does not worry about full employment
o Is antithetical to unions
o Pro-globalization, because pro-efficiency
o Believes in fighting inflation rather than unemployment
o Is seen be the left as ‘cruel’ or heartless, by the right as efficient, realistic, promoting
maximum growth, and thus wealth for all.
o General focus on producers rather than consumers. Let the market allocate
resources, will be more efficient so don’t interfere.
Keynesianism
o Pro-government
o Countercyclical spending
o Stimulate the economy
o Spend us out of growth
o Concerned with full employment, less so about inflation
o Seen as ‘pro people, pro unions, pro jobs’
o Compatible with the Welfare State
o Has proven useful in recent crises (2008 in US, COVID around the world)
o Believes in multiplier effect.
o Growth = C + I + G + (X – M) → in an economic crisis in business cycle G(overnment)
is the only factor left to spend money.
Demand Side Economics
, o Another term for Keynesianism, because it focuses on the ‘demand side’ of the
macroeconomy.
o It is concerned with giving people money so they can spend, thus governments make
transfer payments during crises.
o This stimulates business and people to spend
o And to hire more people
o Which leads to more jobs
o Which fights unemployment
o And eventually ‘spends’ the economy out of a crisis.
Supply Side Economics
o Another term for Neoliberalism
o This is concerned with making sure that suppliers can do their jobs.
o They can efficiently bring maximum goods to the market.
o This means, they oppose government regulation.
o They oppose taxation.
o These things add cost to firms’ bottom lines
o And increase the cost of everything in society
o This can lead to inefficiency, and bloating, and low productivity
o And de-incentivizes entrepreneurialism
o It is concerned with keeping inflation low, because this is also a cost on business
o It is less concerned with unemployment, it is seen as ‘pro business’ policy
o Privatizes industries because convinced that it will make them more efficient.
o Money will ‘trickle down’.
The Subject of Today’s Lecture
Stagflation crisis of the 1970s. Stagflation means inflation without growth.
The shift from the Age of Keynesianism (roughly 1935-1980) towards the Age of
Neoliberalism (roughly 1980-2016?).
As background we revisit the ‘Golden Age’ of Capitalism in Europe (roughly 1950-1970s). This
happened when there was Keynesianism. This saw the rapid rise and solidification of the
European middle class.
But Keynesianism got stuck in the crisis of the 1970s and people thought that Neoliberalism
was the only way out of the crisis.
Since 1980s, Neoliberalism has gained increasing ground and economists believed that
Keynesianism would always lead to stagflation. So, Keynesianism was very out of fashion.
The problem is, inequality grew under Neoliberalism.
Globalization eroded middle-class security.
And so, by 2010, and especially by 2016, we see an increasing turn of working-class and
middle class voters away from mainstream political parties (which are mostly globalist and
neoliberal), toward fringe parties.
The Welfare State and Keynesianism
After WWII, most Western European countries adopted welfare states ‘cradle to grave’, after
Attlee.
They also embraced Keynesianism.
The main focus of their policy was to maintain full employment.
They nationalized many jobs, they provided free housing to all who needed/wanted it, they
gave massive power to unions to influence industrial policy.
, This helped create a ‘Golden Age’ of Capitalism, in which high growth accompanied the
growth of a strong middle class.
The Golden Age of Capitalism
The high growth rates of the 1950s and 60s are one aspect of the so-called ‘Golden Age’ of
capitalism.
The Welfare State ensured that growth was enjoyed by all, not just the rich. But, did
Keynesianism cause this growth? Probably not.
In some ways, this was a fluke. It was a time of unprecedented (and unrepeatable)
technological opportunities. Society became ‘electrified’; meaning that consumers switched
their homes to rely on electric appliances.
These labor saving devices had several effects. As ‘durable consumer goods’ they boosted
manufacturing sales throughout the period. They provided employment for many people
working in these sectors. They heralded the end of ‘classism’ because people did not need
servants (most ‘middle class’ people through the 1920s had servants). As wages increased,
servants became more expensive and even upper middle class wives began to do more
housework (30s, 40s, 50s).
Europe moved towards being a ‘one class’ society.
By the 1960s, home appliances freed women to join the workforce. The pill also heralded a
revolution in women’s ability to stay single for much longer, and marriage was increasingly
delayed. Women were admitted to university with a major crest in the 1970s.
Also, the culture of the 1960s, hippie culture – was a very middle class culture: why can’t we
all get along, be one big loving family, etc., reflecting the economics of class equality.
The other side of 1960s and 70s culture was an extension of family vacationing, where
increasing numbers of families went abroad via airplane or road trips to S. France, Greece,
etc. Dutch paychecks were structured around vacations.
Why did Europe become a ‘one class’ society, with most people being middle class, by the
1960s? In other words, how did the majority of households capture so much of the wealth?
There are several economic explanations for this:
o Neoclassical Economics: GDP growth was very high.
o Piketty: r > g and g > r. R = rate of return on capital investment, G = GDP growth. The
average person relies on GDP growth to the ability to raise their income. Around 1%
relies on incomes out of investment; live off investment. You need at least 2 million
to be able to do that. These are the people that benefit from r. ‘We got lucky’
because we saw a lot of growth during Golden Age.
o Keynesians: because of the New Deal and Welfare State.
o Some theorists: because of electrification or, because of war destruction or, because
of no Communist competition.
o Likely it was a combination of these factors.
The $100 Question
So the period from 1945-1980 was a period of massive growth, massive increase in
prosperity and unbridled Keynesianism.
Big question is: Why did the period of Keynesianism come to an end?
o Did it have to?
o What were possible alternatives?
The standard economic answer now is that too much Welfare State, too much Keynesianism.
This meant that there was too much inefficiency in the economy. People were not
, incentivized to work. Government jobs are done in a non-competitive environment. Worker
productivity is thought to have been low (though actually it was relatively high).
Was this actually the case? Or was it just a confluence of bad luck which sank Keynesianism
and the full Welfare State? These are very important questions for today.
End of Bretton Woods Currency Regime
By the later 1960s, there are signs of a general economic slowdown. In Europe, plants are at
capacity and there are no new markets.
The US experiences a stock market crash in late 1968 and, the USD begins sliding against
European currencies. It is the global reserve, and since European currencies are pinned to the
USD, if Europeans stay in the Bretton Woods system, they will have to ‘Import inflation’.
o All currencies tied together → lack of volatility .
What does this mean?
Nixon Shock
So in 1971, Germany decided to leave the Bretton Woods system (begin of volatility). The
alternative was to devalue the DM.
The Deutschmark began to appreciate against the USD and soon the US also left Bretton
Woods, meaning they allowed the dollar to float somewhat against gold and other
currencies. This is called the ‘Nixon Shock’.
The USD devalued. This was a spark which caused inflation. Also, with currencies allowed to
float, the tendency was to increase the money supply, and this happened across Europe.
Monetary Fluctuation
There were various attempts to try and keep global currencies aligned. There was a
Smithsonian Agreement in Dec. 1971, which was already attempting to keep currencies
within a band of 2.25% away from the USD.
By 1972, this was seen as unworkable, and the six + three members of the EEC decided to
align their curries in a more narrow ‘Snake in the Tunnel’. Meaning currency values would
fluctuate within a narrower band.
By 1973, the USD was allowed to float even more freely, and the Snake had to be
abandoned.
The recession of 74-5, delayed further action, until a 2nd recession in the later 1970s
resulted in a new European Monetary System being arranged in 1979.
Crisis of the 1970s
So although few analysts really focus on the destabilizing of the Bretton Woods currency
regime as a major factor precipitating the crisis of the 1970s, it was, I believe, perhaps the
most serious factor which led to the craziness about to ensure.
What was the Crisis of the 1970s?
Many people remember the 1970s as a turbulent decade. We think of punk rock; continuing
student riots. Urban unrest of various kinds. But at its base, was a sense that economic
opportunity was once again declining, in a way not seen since the 1930s.
So currency instability was bad.
But then came the exogenous negative supply shock brough about by the Yom Kippur War.
In 1973, Israel defeated several neighboring states who had attempted a coordinated attack,
and occupied some of their territory.
In retaliation, the newly formed Organization of Petroleum Exporting Countries (OPEC) acted
as a cartel, and decided to squeeze global petroleum production.
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