WASHINGTON, March 6 (UPI) -- This review of "Fighting for Freedom," the third volume of Robert Skidelsky's biography of John Maynard Keynes (Viking, 2001, $34.95) is divided into two parts. In the first part, published Tuesday, I examined Keynes' non-economic activities, and the role he played in British war mobilization. In this second part I examine his role in wartime negotiations with the U.S. and in the postwar settlement, and look at his economic legacy.
From mid-1941 onward, Keynes' focus was on Britain's relations with the United States, on securing adequate resources to fight the war and survive the peace, and later on designing the post-war financial order.
In these endeavors his principal U.S. counterpart was Assistant Treasury Secretary Harry Dexter White. White, now known to have been a Soviet spy throughout World War II, was not in fact particularly anti-British, except where British interests conflicted with Soviet ones. Skidelsky does however point out one or two anomalies in the U.S. negotiating position that White caused, including the eccentric "Morgenthau Plan" (put forward by White's nominal boss, treasury secretary Henry Morgenthau) which would have deprived Germany of industry and made it a purely pastoral country -- apparently this was White's idea; he wanted a nice clear run for the Soviet tanks to the Channel ports.
Keynes' negotiation of lend-lease terms in the summer of 1941 was an unquestioned success, no doubt helped by the fact Hitler had attacked the Soviet Union on 22 June, bringing White's patrons into the war. In the 1943-44 negotiations about the postwar economic order, Keynes was rightly concerned by the need to secure adequate liquidity for countries other than the U.S. Unlike the American negotiators, who favored some form of Gold Standard, Keynes was vehemently opposed to it, and was backed by Churchill (the burned child no doubt dreading the fire.) Keynes' solution to the liquidity problem was to invent a new currency, "bancor" to be issued by what effectively became the International Monetary Fund. The United States, however, was having none of this, since they rightly suspected that bancor would become a mechanism for foreigners to acquire U.S. exports without paying for them; hence the eventual solution of a fund with cash capital subscriptions and a borrowing facility for each country that was only modestly in excess of the subscription.
Keynes thus failed in these negotiations to provide the liquidity that Britain would need. Believing as he did that not only exchange controls but import controls should remain after the war, that major commodities should be traded by government bodies, and that the price elasticity of traded goods was less than unity (thus making devaluation counterproductive), he neglected the exchange rate devaluation from the 1940-49 level of $4.03 to the pound that could solve Britain's economic problems. Britain could indeed have gone onto a gold standard after World War II, but it needed to do so at a gold price of around 12.50 pounds per ounce, equivalent with gold at $35 to the $2.80 exchange rate at which the pound was finally fixed after four years of trauma in 1949. Such an exchange rate, which on purchasing power parity represented about a 30 percent devaluation from the pound's 1913 level, would have allowed Britain to expand exports rapidly into the U.S. market, thus earning the dollars it needed to pay for raw materials and reconstruction.
To demonstrate this, using information that could have been available to Keynes, one can examine the case of Morris Motors, Britain's and after 1945 Europe's leading automobile manufacturer, whose founder William Morris, Lord Nuffield was still very much alive and active, which was examined by the U.S. magazine Fortune in July 1946. Morris Motors was only about a tenth the size of the 1946 General Motors, but still amply large enough to compete internationally. Its cars were very much smaller than U.S. models, most of them too small for the U.S. market, because of a bizarre British tax system, established in 1920, that taxed cars by their horsepower -- thus a standard 30 horsepower Chevrolet would cost a British owner about $130 per annum (equivalent to $1,200 per annum today.) Nevertheless, quality was according to Fortune at least as good as on cheap U.S. cars, and with larger models, equivalent to the smaller U.S. cars, on the drawing board, there was no reason that Morris could not sell into the U.S. market -- except price. British labor was cheap enough, but British steel was 30 percent more expensive than in the U.S., so British cars were about 25 percent more expensive than they needed to be to gain U.S. market share. Thus, even though Morris Motors was the world's largest automobile exporter, it was confined to British Empire and Commonwealth markets.
A sterling devaluation to $2.80 in 1945, combined with a rationalization of the British tax system, would have made British steel competitive in cost to the U.S., and Morris Motors amply able to compete in the U.S. market. It is not at all unreasonable to suppose that, with Nuffield at the helm until his death in 1960 -- and in Britain producing the immensely successful Morris Minor (1948) and Mini (1959) -- Morris Motors would have been able in the years after 1945 to equal the success in the U.S. market later achieved by Volkswagen and Toyota, both of which for several years after 1945 were out of action.
Keynes, who appears never to have studied industry closely, was probably incapable of appreciating this missed opportunity. Bank of England governor (1920-44) Montagu Norman's epitaph on Keynes was "he must have been a great economist, but was a bad banker" -- he was doubtless an even worse industrialist.
Keynes' negotiation of the 1945 postwar U.S. loan to Britain was another missed opportunity. Again, the need was liquidity, and Keynes identified Britain's funds requirement at around $5 billion, even more than which appeared to be available from the U.S. when negotiations began in September 1945. However, instead of working to maximize Britain's liquid resources while the need was greatest, Keynes became obsessed by the need to pay interest on the loan, even at the highly concessionary rate of 2 percent per annum, and spent months negotiating complicated conditions under which interest would be postponed. Naturally the U.S. negotiators, who by now included several Truman-friendly bankers rather than the Roosevelt administration's academic economists, balked at Britain's reluctance to pay them for their money, and began to cut back the amount offered. The final deal was struck at $3.75 billion, with tight conditions on interest postponement and on resumption of sterling convertibility. Needless to say, when combined with an overvalued exchange rate and the new Labor government's desire to build the new Jerusalem, the amount proved hopelessly inadequate, and Britain suffered the rigors of economic austerity through the 1950s, with meat rationed until 1954.
Keynes' economic legacy was at best a mixed one. In Britain, his tolerance for import and exchange controls, and for heavy government spending, hobbled the economy until 1979 and prevented a "wirtschaftswunder" (economic miracle) such as occurred in Germany, Italy and later France. Keynesian deficit financing, which of course formed only one part of his stabilization program in "General Theory" has been used by politicians from then till now to justify increased government spending, and has done great economic and social damage thereby.
More damaging still has been his legacy, both direct and indirect, in the poorer countries of the world. Directly, his advocacy of import controls, contempt for the interest rate mechanism, and "Keynesian deficit financing" government spending policies have caused immense damage to emerging market economies, as they have attempted to produce prosperity by Keynesian (or, more often, sub-Keynesian) means. More damaging still has been his overthrow of classical economics by his "general" case, which greatly weakened, at least until the 1970's reforms in Chile, the intellectual force of economic orthodoxy, and allowed all kinds of bizarre Third World socialism to flourish in policy terms and impoverish in real terms. Latin America in particular, a wealthy region in 1945 because of its neutrality in World War II and huge 1945 foreign exchange reserves, can blame Keynes very largely for its failure to develop as everybody in 1945 expected, and take its place among the world's wealthy.
Since 1980, Keynes' intellectual influence has declined. No significant economic faction today believes that interest rates have no effect on saving and investment, nor that import and exchange controls are economically beneficial. On the other hand, Keynesian cyclical remedies are still practiced, at least in recessions -- they are after all highly attractive politically -- and Keynes' belief in the possibility of sub-optimal economic equilibrium, and his distaste for the gold standard, are still part of the accepted economic canon.
If the late 90's bubble does indeed produce a deep recession, it will be a further test of Keynes' theories. If Keynesian stimulus works -- and it clearly hasn't in Japan -- then his intellectual influence will be maintained. If, on the other hand, no doubt after trying Keynesian remedies, Neville Chamberlain's more orthodox economic policies are found to be more effective, then Keynes' intellectual influence will shrink still further.
By 2046, the centenary of his death, Keynes may therefore be of only historical interest -- or intellectually of the size in the last scenes of "The Incredible Shrinking Man," fighting life or death battles with a spider.
