I am confused about something Paul Krugman wrote today in his post Dare to be Silly. What he wrote seems… silly.
“Before I turn to Syll’s critique, let me summarize my understanding of one of the great turning points in the practice of economics – the turn away from institutional economics in the 1940s and 1950s… Why did this happen?… No, what happened was the Great Depression… American Keynesians said, “We have inadequate demand. Increase government spending!”… And the Keynesians were right, confirming the sense that they had something useful to offer, while the institutional tradition came up short.”
The Institutional tradition came up short??? That statement does not make sense. The Institutional tradition gave us the New Deal. Keynes’s great book came in 1936.
Let’s go back in time a bit… a century ago in the United States, Institutional economics was centered in the Wisconsin School.
“The Wisconsin school in economics was based at the University of Wisconsin–Madison, and played a prominent role in American economics in the first half of the 20th century. The Wisconsin school was central to institutionalism in the United States, and also played a prominent role in labor economics and in the development of the policy ideas associated with the New Deal. The central figures in the Wisconsin school were Richard T. Ely and his student John R. Commons. Notable students of Commons included Edwin E. Witte, largely responsible for the drafting of the Social Security Act.”
We then remember that Keynes himself wrote a letter to John Commons in 1927, showing his appreciation of Mr. Commons…
“There seems to me to be no other economist with whose general way of thinking I feel myself in such genuine accord.”
This quote appears at the start of a paper of the talk Hyman Minsky gave as he accepted the Veblen-Commons award. (source) He went on to say…
“Keynes’s letter to John R. Commons illustrates the affinity between the economics of Keynes and the American institutionalists.“
“In today’s terminology, Keynes’s “beliefs” are mental models that lead to propositions about the behavior of the “real world” economy. This approach makes “real world” outcomes dependent upon institutions. It sanctions state interventions to create institutions that lead to an economy with desirable properties. The last act of Keynes’s life was his deep involvement in the creation of the World Bank and the International Monetary Fund. Much earlier he proposed institutions that would create what today we might call “capitalism with a human face”, which obviously was the aim of the great institutionalists.”
So as Mr. Krugman writes about the usefulness of the IS-LM model, he downplays the Institutional approach to theory, which formed the basis of the New Deal. Beatriz Webb, who spear-headed the Institutionalist movement in England, did develop theoretical models. Bruce Kaufman writes…
Maybe Mr. Krugman is referring to a claim that the Institutionalists did not have models and theories. Maybe that is why he says they came up short. But it is not fair to say that. As I see it, Keynes and the Institutionalists were working toward the same goals. To separate out the Institutionalists from that effort, like Mr. Krugman seems to be implying, would simply not be right.