Alex Tabarrok makes an interesting point: recent experience seems to suggest that Keynesian policies, even if appropriate, turn out not to be politically feasible when you need them. I don’t think we need to take that as an immutable fact of life; but still, what are the alternatives?
Increased wage and price flexibility is NOT the answer: you need fiscal policy when you’re in a liquidity trap, and as some of us have tried to explain many times — apparently without getting through — those are the conditions under which falling wages and prices are likely to make things worse, not better.
Better regulation, so that crises don’t happen as often, would be good. So would stronger automatic stabilizers.
But what really stands out, if you assume that discretionary fiscal policy won’t be there when you need it, is that this makes the case for a higher inflation target. Olivier Blanchard, at the IMF, made just that case a year ago (pdf). If we’d come into this crisis with 4 or 5 percent inflation, not 2, there would have been more scope for conventional monetary policy to act before hitting the zero lower bound.
But the same people denouncing Keynesianism are also screaming about inflation, and would never countenance a higher inflation target. So what can we do if that, too, is ruled out?
Not much. If politics rules out all effective responses, there will be no effective responses. - Paul Krugman
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