Raging Economic Debate

Greg Mankiw has produced a nice understandable summary of Keynesian theory regarding economic downturns. In a nutshell, Keynes thought that economic downturns were the result of insufficient spending. The cure is to induce more spending by having the government incur debt and spend more.

But what triggers “insufficient spending” in the first place?

An alternate view is that “insufficient spending” is the consequence of excessive spending fueled by debt. Debt, as we all know, is an agreement to have less in the future in return for having more now. If aggregate debt gets “too high”, then aggregate spending must decline in the future. Some think that today is the future: after a long period of growing government and consumer debt, we must now reduce our spending until the debt is no longer “too high”.

If the “debt cycle” view is correct, then policy makers are doing exactly the wrong things and the economic downturn will last much longer than most people expect.

This debate is raging in economic circles, blogs, and the editorial pages.

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