J. Maynard Keynes Comments on the Current Crisis

Robert Waldmann

Non-Standard Monetary Policy

Robert Lucas on Non-Standard Monetary Policy 2008

A dead end? Not at all. The Fed can satisfy the demand for quality by using reserves — or “printing money” — to buy securities other than Treasury bills. This is the way the $600 billion got out into the private sector.

This expansion of Fed lending has not violated the constraint that “the” interest rate cannot be less than zero, nor will it do so in the future. There are thousands of different interest rates out there and the yield differences among them have grown dramatically in recent months. The yield on short-term governments is now about the same as the yield on cash: zero. But the spreads between governments and privately-issued bonds are large at all maturities. The flight to quality means exactly that many are eager to trade private paper for non-interest bearing (or low-interest bearing) reserves and with the Fed’s help they are doing so every day.

Maynard Keynes on Non Standard Monetary Policy 1937

If the monetary authority were prepared to deal both ways on specified terms in debts of all maturities, and even more so if it were prepared to deal in debts of varying degrees of risk, the relationship between the complex of rates of interest and the quantity of money would be direct. The complex of rates of interest would simply be an expression of the terms on which the banking system is prepared to acquire or part with debts; and the quantity of money would be the amount which can find a home in the possession of individuals who — after taking account of all relevant circumstances — prefer the control of liquid cash to parting with it in exchange for a debt on the terms indicated by the market rate of interest. Perhaps a complex offer by the central bank to buy and sell at stated prices gilt-edged bonds of all maturities, in place of the single bank rate for short-term bills, is the most important practical improvement which can be made in the technique of monetary management.

Ben Bernanke (2009) is following their advice.

I’d say that, when Robert Lucas and Maynard Keynes agree, they probably have a point.

Of course there is a counter-argument, based, in large part, on the key question of the Central Bank’s inability to pre-commit to the optimal policy rule (known as dynamic inconsistency)

The short-term rate of interest is easily controlled by the monetary authority, both because it is not difficult to produce a conviction that its policy will not greatly change in the very near future, and also because the possible loss is small compared with the running yield (unless it is approaching vanishing point). The the long-term rate may be more recalcitrant when once it has fallen to a level which, on the basis of past experience and present expectations of future monetary policy, is considered “unsafe” by representative opinion.


Thus a monetary policy which strikes public opinion as being experimental in character or easily liable to change may fail in its objective of greatly reducing the long-term rate of interest, because M2 [speculative demand for money not what we call M2] may tend to increase almost without limit in response to a reduction of r [the nominal interest rate] below a certain figure. The same policy, on the other hand, may prove easily successful if it appeals to public opinion as being reasonable and practicable and in the public interest, rooted in strong conviction, and promoted by an authority unlikely to be superseded.

J. Maynard Keynes 1937

And what does Prof. Lucas have to say to that ? A mere $ 1 trillion many not be enough to move long term interest rates below the rate which market participants consider normal. Lucas is making rapid progress, so he might catch up with Keynes 70 years ago some day.