In 1971, President Richard Nixon supposedly told an ABC News reporter that he was "now a Keynesian in economics."
Nixon’s statement was an acknowledgment that he agreed with the ideas put forward by John Maynard Keynes. In his 1936 book The General Theory of Employment, Interest, and Money, Keynes recommended higher government spending and tax cuts to stimulate demand to help pull the global economy out of the Great Depression. He believed that business cycles — periods of expansion followed by recessions — were the inevitable consequence of capitalism and that deficit spending during economic downturns was essential for recovery to occur.
Nixon’s endorsement of Keynesian economics was shocking. At the time, he was widely viewed as endorsing the views of free-market economists who believed governments should not intervene in business cycles. They believed Keynesian economics was dangerously close to socialism or even communism.
A few months after Nixon’s remark, he ordered Treasury Secretary Connally to end foreign central banks’ ability to exchange US dollars into gold. Keynes would no doubt have approved of Nixon’s actions, because he considered the gold standard to be a “barbarous relic.” Since the gold standard hampered the ability of governments to borrow money, Keynes thought it should be abolished.
Still, Keynes never suggested that governments should engage in unlimited deficit spending. In times of economic prosperity, he and his followers suggested that governments should accumulate surpluses to help pay for interventionist measures in recession.
But today, governments feel no need to bother with balanced budgets, much less surpluses, in times of prosperity. For instance, the US economy boomed from mid-2009 until early 2020 when the COVID-19 recession hit. But the national debt more than doubled during that time: from $10.6 trillion in 2009 to $22.8 trillion at the end of the 2019 fiscal year.
Then came COVID-19. By the end of the 2020 fiscal year, the national debt had climbed by another $4.2 trillion to $26.9 trillion, primarily due to the government’s response to the pandemic. And the borrowing was a bipartisan affair: Congress passed the $2.2 trillion COVID relief package March 31 on a near-unanimous voice vote in the House and 96-0 in the Senate.
While we may have all been Keynesians in 1971 when Nixon ended the gold standard, we’re hyper-Keynesians now. With federal debt this high, we are truly in uncharted territory. And remarkably, mainstream economists aren’t that concerned about it. A typical example is Nobel laureate Esther Duflo who says, “That is not something that the general public should be worried about for the time being at all.”
And it’s understandable why they’re not worried. Skyrocketing debt hasn’t led to the disastrous outcome economic conservatives fear, at least so far. For instance, we haven’t experienced runaway inflation, although inflation is significantly higher than official statistics indicate. That’s also been the case in Japan, where the debt-to-GDP ratio now exceeds 250% — by far the world’s highest level.
On the other hand, the debt rampage the United States, Japan, and other countries have undertaken has seriously eroded the value of their respective currencies relative to gold. Since the gold standard ended in 1971, the values of the US dollar and British pound have fallen more than 98%. The Japanese yen fell a bit less at 93%. Even the mighty Swiss franc has lost more than 90% of its value relative to gold since 1971.
Another consequence of the world’s love affair with soaring debt is “financial repression” by central banks in the form of zero or even negative interest rates. Even if inflation rekindles, it may be impossible for central banks to raise interest rates since doing so would lead to even more erosion in currency values.
A free lunch is a wonderful thing for everyone if no one ever has to pick up the tab. If you agree with mainstream economists that deficits don’t matter, hold on to your dollars at zero interest rates and wait for the post-COVID economic boom. But if you don’t agree, buy gold.