Keynesian Economics in One Lesson
Expect inflation to head skywards in the UK.
Do you want to know how I know? It’s no secret. In fact, the decision to inflate was made by Alistair Darling when he revealed the Labour government’s plans to spend its way out of the current recession.
Under Keynes’ own framework, the economy is not self-correcting and can languish for years in what is termed “underemployment equilibrium”. The economy can be “in equilibrium” with high levels of unemployment. As such, a government stimulus of sorts is needed to jump-start the economy – much like a doctor defibrulating a patient.
I won’t bother dismissing these Keynesian assertions here (I’ll leave that to the pros). I will focus on the fact that even within the Keynesian framework, Darling’s move will be inflationary.
What Darling hopes to do is stimulate spending, which will increase aggeregate demand. This is illustrated by the rightward shift of the AD curve (below). The new equilibrium will occur at a higher output (GDP) and at a higher price level (P).
So when Mr. Darling revealed his massive spending spree he announced that Britons will not only be paying off UK government borrowing, but also paying an inflation tax in the near future.
So the lesson is… when prices in Britain begin to creep upwards, it’s because of government policy, not because of anything OPEC does in the next few days.