Keynesian and Heterodox Theories of Financial Crises

Abstract

The scholarship of John Maynard Keynes marks a revolutionary turn in the 20^th century development of economic theory. His macroeconomics of effective demand became an alternative to micro-level economics of the individual and his preferences, and facilitated a policy reform that helped the USA and Western Europe recover from the Great Depression. A major part of Keynes’ political economy was his vision of finance and investment. Being aware of the in-built volatility and speculative drive of financial markets, Keynes believed in strong, pro-active governmental policy of regulation and control over financial markets, investment flows, and international monetary affairs. His design for the Bretton Woods regime of international economic cooperation included a world central bank (ICU — International Clearing Union) and a global neutral currency (bancor). These institutional mechanisms were supposed to alleviate current account imbalances, and promote global distribution of savings and investment in accordance with the flows of trade and services. Although Keynes’ vision of the Bretton Woods system was never implemented due to the opposition of the US side, his conceptual insights into the nature of finance, speculation and monetary and fiscal policies continue to shape alternative approaches to finance and financial crises to this day.

There exist quite different versions of the ‘Keynesian’ tradition in current macroeconomics. They range from more mainstream-oriented new Keynesians to post-Keynesians, who reject the basic assumptions of monetarism and neoclassical economic theory. But they would probably all agree on the fact that money (and financial structures) matter too much to be assumed neutral given the actual functioning of capitalism. Moreover, the difference between financial and real transactions is much more emphasised in Keynesian framework than in the neoclassical perspective (Binswanger 1999: 7).