Opinion: Labour isn’t Keynesian – that’s why Liberal Democrats had to be


When Labour bailed out the financial system, it misapplied Keynesian economics. Keynes writes that stimulus should be used to stimulate a depressed economy that isn’t at full employment: what Labour did was use the stimulus money to stabilise a system that was falling apart under the weight of its own contradictions.

The instant they did that, it committed the UK to paying back the money it had borrowed: it transferred the debt that would have been wiped out by private sector bankruptcy to the state.

While this reduced the loss of value in the economy (public sector debt has prevented private sector bankruptcy to accumulate a negative multiplier effect: the cost of propping up one domino has prevented the others from falling), it means that regardless of who is in charge we need to reduce the deficit to maintain the creditability of the state by which the rest of our economy is guarantored.

Had the banks fallen, while the unemployment and the loss of value in commodities like housing would be (extremely) painful: while that would have had many implications for the quality of many peoples lives the stimulus money could have been spent on a New Deal style infrastructure package out of which a new economy could have been born (high speed rail, new schools, green energy). The cuts would come later, at a period of economic growth when we were able to sustain front line spending.

But now we’re here: our government is securing its credit rating while the private sector untangles the contradictions which would have killed it. A crash would have wiped out all that wasted effort in an instant: now were all stuck in non jobs (how can our work mean anything when failure means nothing changes? Like a placebo, we think it’s working so long as we’re in pain) without even the solace of rapid economic growth, or the consolation prize of solid social democracy.

Labour spent the stimulus money to prop up the banks: now we’re paying to prop up a broken economy, one that already collapsed under its own contradictions and can’t grow until they’re untangled, by making cuts to our public services. For thirteen years labour let them run without even a modicum of regulation: and when Brown bailed them out he knew the next step was deficit cutting in a period of full employment (as Keynes implies in his general theory: further stimulus at a period of full employment produces true inflation, regardless of what the public sector might require. Ed Balls strangely never mentions this when discussing New Labour).

Austerity is the direct result of Labour’s economic policy. They are as responsible for austerity as the Tories are: the Liberal Democrats are trying to force the pair of them to do it fairly, and to finally give up the choke hold they’ve had on our democracy. And if Labour criticise this government for the scale of these cuts, just remind them that this is what Alister Darling promised they’d do next. What Ed Balls promises today, Osborne does tomorrow: how is that for consumer choice?

At the next crisis of capital we can avoid repeating this mistake. But in the meantime, let’s see if we can’t topple the big two and fix the real democratic deficit and put structural changes in place to prioritise the environment and education: the economy of tomorrow. The Liberal Democrats are the only party with both the principles and the power.

* Toby MacDonnell is a Lib Dem member. He is a graduate in history from Sussex university reading Keynes and Baudrillard in preparation for postgraduate studies.

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  • You criticise Labour for propping up the banks; but the Lib Dem response at the time was that Brown was not going far enough and that full nationalisation of troubled banks was the answer. So I’m not sure how you arrive at the conclusion that the Lib Dems would have done things so differently in the way that you suggest.

  • Had the banks fallen, while the unemployment and the loss of value in commodities like housing would be (extremely) painful?????????????????????????

    Everyone who had money/morgages in bank would have lost it, businesses, savers, etc… If you think the economy ‘collapsed’; Try your scenario….

  • I agree and said so at the time. This was not Keynesian. It was private profit, public loss. A new deal type solution would have put the money to better use and although the fallout would have been bad, the housing market would have readjusted to a more realistic level. As it stands we are still lumbered with a reliance on a bubble of debt fuelled growth and poor productivity.

  • Conor McGovern 4th May '15 - 1:39pm

    Agree with the main points of this article. Had the government been bold enough, they could have ventured to build a greener, more liberal economy rather than propping up the failures of the old.

  • Bit confused here fellah, We didn’t just give the banks this money, much as popular culture seems to think we did. The Bank Of England propped up the Banks mainly with QE fueled asset purchases and extra lending, something that’s lost on most people. We of course have shares in RBS and others, but we’ll hopefully be getting our money back on these over the coming years.

    If we’d allowed the banks to fail the subsequent collapse on such a massive scale would have seen plummeting tax revenues and soaring benefit claims. We’d be in a much worse place. Although it would have sent a clear message to UK banks. ‘don’t get in a mess, we wont bail you out’. Which would have probably caused a mass capital exodus from the UK…

  • The Conservative view of Keynes was that cutting taxes was the best way to stimulate the economy and this the Labour government did by cutting VAT by 2.5% and having an investment programme. The idea that the government could have let most of the banks go bankrupt and then stimulated the economy to restore the situation is completely wrong. The losses to savers would not have been restored and there would have been a total collapse of business investment. Nationalising the banks instead of rescuing them might well have been better.

    The coalition cut investment in its first budget, which is clearly not Keynesian. It took a while for plan A to be discarded, but instead of a programme of council house building the coalition gave help to buyers and so pushed up the price of houses. Again not a Keynesian solution. The increase in the monetary supply has been used mainly to restructure bank financing and not to fund government investment. Another failure of the Lib Dems in coalition.

    I am surprised that someone who has studied Keynes believes that there is full employment when more than 10% of the working population is not in work. In fact I can’t remember when we last had full employment. Maybe it was in the 1960’s.

    The next crisis for capitalism will be its failure to address the growing inequalities in society.

  • The idea that we should have let the banks collapse is nonsensical. It would have been complete chaos.

    It is widely accepted that, regardless of their actions before, Labour dealt very well with the financial crisis.

  • A lot of this assumes that the entire Banking system would have collapsed. Lehman Brothers went and no one misses it. The bad banks would have gone and there would have been a panic, but self preservation would have kicked in. Most of these guys we’re not going to accept having no money and if the entire banking system had collapsed any assets they had would have been worthless. IMO it was not going to happen. Instead what happened was an attempt to avoid a depression, but the reality is they would still have recovered and at least with Keynesian stimulus we would have had better infrastructure. As it stands all the fault lines are still in place and it will happen again.

  • Brown and Labour abandoned Keynesianism when Brown pronounced “no more boom and bust”. This was the green light to fail to save during the good times. Keynes advocates saving during the ‘boom’ and spending during the ‘bust’. If you reject that there are cycles of ‘boom and bust’ then you have rejected Keynes.

  • Jenny Barnes 4th May '15 - 3:21pm

    This crisis of capitalism was the final death throes of the long American century, and the confirmation that we are embarked on a long century of Chinese/ SE asian capitalist hegemony. Unfortunately, by the end of the a century of that, the planet will be trashed, and there will be no large pool of cheap workers for global capitalism to go off and exploit when the Chinese/S.Asian people start to want some sort of contribution to the reproduction of society. There’s a spectre that we should worry about how our grandchildren will deal with, not some nonsense about the national debt.

  • Eddie Sammon 4th May '15 - 4:30pm

    I just feel people are oblivious to the problems in the current economy. It is hard to know where to start when people blame the last crisis on either Labour or the bankers and think it is time to start focusing on nice things like democracy, the environment and education.

    We’ve got a £90 billion deficit and it isn’t going to go away by itself just through some Keynesian stimulus.

  • Eddie Sammon 4th May '15 - 5:00pm

    By the way, I know the author doesn’t suggest getting rid of the deficit simply through a Keynesian injection, but I just think from the off the analysis is to blame the banks and think as long as the financial market is reduced then the rest of the problems can be solved with a bit of Keynesian spending.

    The economy is already in a crisis. People aren’t buying assets so much because of their merits, but because the central banks are running asset purchase programs. It is a massive economic and social failure.

  • Hi guys, really pleased to see this has sparked a debate.

    I’m no professional Keynesian yet: these were thoughts that have struck me during my studies, and I’m sure there are a lot of people out there better qualified to diagnose the economy than me!

    I make a number of assumptions and inferences. For example, Keynes writes that any asset scarce enough can become de facto money if it is used to store value. This appears to me to be at the heart of the crisis: that what a lot of people thought were asset-backed de facto currency weren’t, because what they were backed by was the faith of the banking system.

    Quantitative easing is, in this reading, a way of buying the rich out of assets which begin to stabilise at an inflated value as they become more scarce. So long as the former owners hoard the cash they get from the process, the pound remains strong even as assets increase in value relative to the pound. This accounts for how inflation has lowered the real value of wages, how the pound hasn’t devalued significantly enough for an export recovery, and how asset bubbles have failed to burst in spite of the creation of so much new money.

    Keynes writes nothing in his general theory about arresting crises: he writes about recovery, not damage limitation.

    Of course, I don’t claim infallibility, and I expect I’ll change my mind at one point or another; the thing that struck me about the reading was that a stagnating economy could be a misdiagnosis of an undead economy. One that stumbles on in the same direction without realising its run out of road, for want of an impetus to change course. Keynes would still recommend that when unemployment is low, spending should be proportionally low, regardless of other concerns: therefore, the route labour took painted our political establishment into the box of deficit reduction at a time of confused growth.

    I’ll leave it to you to decide if the Tories are exploiting this to enact state withdrawal from areas of social and workers welfare for ideological reasons.

  • Eddie Sammon 4th May '15 - 11:19pm

    Thanks Toby. You make some good points. Sorry if I was a bit harsh – I think it is a reflection of general despair about current economic debate than a reflection of your article.

    Best regards

  • @ Toby
    “Keynes would still recommend that when unemployment is low, spending should be proportionally low, regardless of other concerns: therefore, the route labour took painted our political establishment into the box of deficit reduction at a time of confused growth.”

    Are you saying that with about 1 million unemployed and over another 2 million being long term sick or disabled we had low unemployed under the last Labour government? The Labour government not only cut VAT by 2.5% but also spent £20bn on stimulating the economy. This is generally seen as a return to Keynesian economics. However it was George Osborne who rejected Keynesian economics in 2010. I don’t believe if Keynes were alive today he would say we should have been doing deficit reduction after 2010. Our National Debt as measured by GDP was lower in 2010 than it was in 1933 or 1936.

  • Hi Michael.

    What is considered by the media to be Keynesian economics is a far cry from what Keynes has written. What Keynesian seems to mean is that an economy should be run for the benefit of a state’s clients or stakeholders: hence the emphasis on results, rather than processes

    I would not presume to know what Keynes would say today, but given what he’s left behind I think this is a valid reading among many: he asserts that full employment has a corresponding amount of structural unemployment which is determined by the wage preference of a society.

    This wage preference is, according to Keynes, a compromise reached between business and trade unions: that is to say, wage preferences, and therefore full employment, are variable, cultural-economic factors rather than purely economic ones.

    This has implications for how we read Tory economic policy as well: the adjustments which have been made to the welfare state and worker’s rights are a reflection of changing wage preferences (forcibly, I think), and therefore levels of full employment. This is why so many of us find the Tories so upsetting to our cultural sensibilities.

    My idea is that Labour unwitting arrested a crisis which would have re-oriented our economy from its present trajectory: not that crash is the best way to achieve economic growth, but that economic recovery belies economic rigidity (this is what makes the economy undead: its capacity to resist rigor mortis).

    That our system, by being bailed out, has become so stable as to become incontrovertible so long as it is understood after the crisis on the terms it was understood before the crisis. This has profound implications for our conception of economic freedom and the interventionist role of the state: as both Marx and Heyek infer, the danger posed to our freedom come not from the state or from capital, but from the collusion of one with the other.

    I’m sorry this idea was difficult to surmise in a five hundred word limit.

  • John Minard 5th May '15 - 8:55pm

    Labour’s big, nay gargantuan, mistake was to indulge in a cruel and unnecessary preferential war in Iraq which was unfunded. The money could have cut borrowing in the, so called, good times before the credit crunch to alleviate the recession afterwards. Remember the good times: http://news.bbc.co.uk/1/hi/health/4938542.stm

  • @ Toby
    Thank you for your post most of which I found difficult to comprehend. What 500 word limit?

    In the golden age of Keynesianism total unemployment was low. I am not convinced that the majority of the 3 million not in work are structurally unemployed. Some of the one million unemployed are those who employers don’t wish to employ because they can employ someone else. Most of the 2 million disabled and long term sick are also not employed for similar reasons. Therefore pursuing Keynesian economic policies would increase the pressure on employers to employ these people. However the government might wish to aid the employers by giving them tax breaks to employ those unemployed or to force large employers to employ the disabled and the long term sick.

    What is Keynesian wage preference?

    Are you talking about voluntary unemployment where the wages are too low for some people to choose to work? If this is the case then you might classify some of the unemployed not on benefits into this group, but I would not be happy in classify the majority of these people as voluntary unemployed because the labour market is not as it was in the golden age of Keynesian economies.

    I can agree that the Tory method of making work pay by cutting benefits assumes that this would decrease someone’s acceptable wage. But it doesn’t recognise the cost to an individual of working and that they may choose benefits rather than a wage level above benefits which increases the amount of debt they generate each fortnight or month. This is why I feel happier with the idea of reducing the welfare bill by increasing wages.

    I don’t believe that the majority of people would prefer an unstable to a stable economic system.

  • The wage preference is an essential part of Keynes’s theory: the idea is that wages can always rise, but they don’t fall because people become attached to “sticky” wages. That is o say, when a trade union has bargained for higher wags it is difficult t lower them again. Economic stimulus has the effect of increasing inflation by injecting new money created b deficit spending: this devalues wages without adjusting wage levels, which makes labour cheaper and lowers the real wage preference without adjusting anyone’s actual wage.

    Like all policies based on giving people what they want, this is a trick designed to restore confidence to the economy without undermining its commitment to greater wealth for all, even if it does for a moment.

    Keynes explicitly defines structural unemployment as involuntary: so long as capital cannot invest in any more positions at the level of a wage preference, there will be a corresponding level of involuntary unemployment, as a higher wage preference corresponds to a higher level of structural unemployment.

    I think Keynes misses the role of inequality in defining a wage preference: so long as the people at the top are demanding disproportionately higher wages to those at the bottom, aggregate will be drained by individuals whose proposity to save will deprive the economy of the benefit of their consumption.

    No one I have read recommends depriving disabled people of the means of their care as an economic inducement to work. Deficit reduction has been indiscriminate in its quest to guarantor private profit at public expense, is a part of my argument: I would prefer a stable welfare state to a stable economy, as I believe the state can stabilise the economy but that an economy cannot stabilise a state except by the increased taxes due to a multiplier effect (which is begun by state stimulus to begin with).

    The only recommendation I can make to you if my work is difficult to understand is to read Keynes’s General Theory first hand.

    Submissions here should be around 500 words, it says in the guidelines.

  • With “sticky” wages it makes sense that Keynes didn’t dislike inflation.

    I don’t think income inequality was so great in the 1930’s as it is now. You are right that when total income is limited those who have a huge income spend less of it than those with small incomes and this reduces aggregate demand.

    I thought you were saying there was a 500 word limit for comments.

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