I’m reading the introduction to Contra Keynes and Cambridge right now by Bruce Caldwell. I wondered what the Austrian response to this section by Caldwell would be:
Harry Johnson called the return to gold at $4.86 “an act of blind traditionalism”, and Churchill’s error was indeed a consequential one. Increased foreign competition had begun to undermine England’s industrial, manufacturing, and commercial sectors even before the war. The disruption of trade during the war years exacerbated longstanding problems. In the best of circumstances, the 1920s would have been a painful period of structural realignment for England. The upwards movement of the value of sterling towards prewar parity prior to 1925, and efforts to sustain that exchange rate afterwards, kept interest rates high, battered export industries, and held the unemployment rate in the 10 per cent range for the rest of the decade.
Even more crucial for our story is Keyne’s response to the stagnant economic conditions of the 1920s. Though he did not deny the effects of both structural changes and policy missteps, Keynes ultimately concluded that a more fundamental change had occurred, that the whole system of laissez faire capitalism required re-examination.
In Keyne’s colorful prose, the unemployment rate had become “stuck in a rut” at an unusually high level: something had caused the equilibration mechanism to stall. As noted above, one of the consequences of the return to gold was high interest rates. Such rates attracted savings. Unfortunately, the level of savings became too high; there were insufficient profitable domestic investment opportunities available. As a result, British funds were drawn to finance investments overseas. Looked at another way, British industry was no longer competitive.
Normally such a situation should not persist. High unemployment should cause British prices and costs to drop, and this should eventually restore a competitive edge. But it was here that an additional problem surfaced. Due to the growing political strength of Labour, it was more difficult to force wages, and hence costs, downwards. Nor was a cut in real wages via inflationary monetary policy an option, since inflation would only serve to exacerbate the exchange rate problem.
It was in considering this dismal situation that Keynes hit upon another solution, one that went beyond the nostrums of laissez faire, one that he himself thought constituted a “drastic” remedy. The state should coordinate savings and investment, undertaking an extensive program of public words (such as the construction of roads, housing, and electrical plants) that would create jobs to make use of the unemployed labour. This would reverse the flow of savings out of the country, would add to the domestic capital shock, and best of all, once such projects were under way, it would be discovered that “prosperity is cumulative.”
So I don’t really understand the last paragraph. And was the Labour Party really strong enough that it could prevent drops in wages like that? Were there really wage controls at the time? And why would the high savings not lead to high production? Were there still usury laws at the time?
Anyway, I just don’t know much about this economic history and I was hoping to learn more about it here.