Animal spirits

The BBC is running a three-part series on notable economists, starting with Keynes. There were a number of errors made, but I shall ignore those and address two Keynesian fallacies. The first was that Keynes correctly anticipated the economic and political consequences of the Versailles Treaty, which inflicted punitive reparations on Germany: this was true. It was bizarrely extrapolated to the current situation, concluding that Germany must reduce its prosperity and economic power to a level closer to that of the other Eurozone countries in the interests of economic balance.

The second point was that Keynes described unexpected changes in economic behaviour as “animal spirits”. Mervyn King, Governor of the Bank of England no less, said on the programme that it was the best explanation for the banking crisis five years ago. To describe such an event in those terms is not an explanation and exposes a yawning gap in King’s knowledge.

“Animal spirits” amount to the failure of Keynesians to explain a basic phenomenon of human action. The origin of the phrase, if the programme is to be believed, comes from Keynes’s unsuccessful attempts to predict stock market prices. We have all been there: we invent a fool-proof trading system only to see it fail in practice. “Animal spirits” is a substitute for understanding that it is impossible to predict tomorrow’s prices with certainty, whether they be of financial assets or of goods.

Prices change for one of two reasons. Either there is a change in the value of the goods being exchanged for money, or there is a change in the value of the money used. The banking crisis to which King referred was about a sudden change in the value of money.

Before the crisis, banks were willing to lend, and consumers were willing to borrow to buy. The prerequisite was continually expanding credit, a process that was bound to end sometime. And when it did, the consequence of a change in the availability of money was an increase in its value to the consumer, and the result was a fall in prices. “Animal spirits” is an attempt to summarise this effect without understanding it.

Left alone, prices would have adjusted to new lower levels. Government action was focused on stopping this happening, by introducing schemes such as car scrappage, or cash-for-clunkers, to encourage demand. At the same time central banks flooded the banking system with money to stop its value rising. Prices were therefore prevented from adjusting to the bursting of the credit bubble. This Keynesian solution has another fallacy at its heart, clearly stated by the experts, including King, on the programme. They believe that production has to be subsidised in order to keep unemployment down. If people remain employed, they will spend, and that gets the economy back on track. This analysis is incorrect: as we have seen, the problem is prices, not production.

The order of events does not start with production, it starts with consumption. If prices are too high, because of a change in the value of money, then they must fall if consumers are to be tempted. The fall in prices exposes over-valued productive capacity. It is an adjustment that must occur, and no amount of subsidy and money-printing to address “animal spirits” can change that. And the sooner it happens, the sooner an economy gets back on track.

The next programme is on Hayek, which should be less contentious, except to those academics who rely on an unquestioning belief in place of reasoned analysis.

This article was previously published at  Episode 1 of “Masters of Money” is available on iPlayer until the 8th of October. Episode 2 airs tonight at 9 o’clock on BBC 2.

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2 replies on “Animal spirits”
  1. says: Paul Marks

    To trot out “animal spirits” as an “explination” serves two functions.

    Generally it serves the objective of the collectivists of claiming that humans are not rational (i.e. that humans are not really “beings” at all) that we do not “really” think, reason, and CHOOSE.

    Ayn Rand mocked this tactic by making up (in her work “Atlas Shrugged”0 a book called “So You Think You Think” and having the collectivists push the book.

    Real life examples include “Freakonomics”, “Nudge” and “Fast and Slow Thinking” (if I remember the title correctly).

    The not so hidden agenda of these works is to convince people that most of the population are scum (not really human beings) and that only a wise elite (which includes the authors of these works – and those readers who accept their messages) are truly human, and that this wise elite should use the power of the state for general good (for the happiness of the nonhuman scum, ourselves, who they are kind enough to care about).

    There is nothing that would have surprised Keynes are his Apostles Club friends (or his Bloomsbury friends) – or even Plato and his associates thousands of years ago.

    The collectivists may say “we are all Homer Simpson sometimes” but what they mean is “YOU are Homer Simpson – which is why we must control your life”.

    However, there is also a specific economic theory purpose to the “Animal Spirits” nonsense.

    Partly this is just to cover up ignorance – as the self styled intellectual elite (including the late Lord Keynes) do not actually know basic economics – but are too arrogant to admit their ignorance.

    But they is also a rat like cunning at work here to. In the burned ashes of what used to be the souls of these people, the establishment elite suspect that their own previous policies (i.e. the “cheap money” policy of monetary “boom”) cause the later crash – they are too ignorant of basic ecnomics to understand HOW this happens, but they suspect that it does.

    They could admit their guilt (but thinking they will do that is thinking they are going to repent – not very likely), but that would mean that their authority would collapse the elite would not be the elite anymore (whether in academia, in the media, in politics, or anywhere else). They are not going to admit their guilt and repent – they are simply going to blame “Animal Spirits” or (if that fails) the Emperor Ming the Mercyless from the Planet Mongo (or anything).

    As for the BBC…..

    The Conservatives had 18 years (1979 to 1997) to get rid of the vile BBC, and did nothing.

    Revently, Mr Hunt, tben the minister for “Culture, Media and Sport” (a decent country would not have a government department covering these things) declared that the BBC was the “gold standard” of broadcastng.

    I despair of my “tribe” in politics.

  2. Conservatives could have also gotten rid of the Bank of England, Department of ‘Education’, Ministry of Fish and Agriculture etc. too but chose not. Thye are all Big Govt. Reagan, once grilled by McCarthyites for being a communist, expoused ‘Conservatisim’, doubled the size of Government, vetoed a return to the Gold Standard by installing anti gold commissioners – Ron Paul & one other were only pro gold standard/honest money on the commission – and worst of all Reagan got a dressing down from Mick Hucknall in ‘Moneys too tight to mention’! Well fallacious economic leftie pop singer (you wont get anywhere in pop unless you are a Socialist/Liberal, that’s why music is so boring these days, comedy too!) Hucknall, where did ‘loose’ money get us? Dawn on you that maybe bankers are happier with profits guaranteed by poor people via the Tax Payer promise? Try working that into a song…. Maybe cover “Honesty is such a lonely word”, “Sorry seems to be the hardest word”, “Pretty vacant” (like our High Streets), “Deeper and Down” “I fought the Banks and the Elite won” for starters. Please feel free to add your own suggestions for Mr Hucknall here. And whilst I am at it, where the hell is Mr Government Protester Bob Dylan these days? Presumably its all so perfect the last 45 years since we have the Government he was honking on about that there’s no point writing protest songs anymore (just pretend you were a folk singer and the protest part wasn’t really you – every socialist needs a ready made excuse so baby Please Stop Cryin’!

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