THE ROLE OF THE STATE IN KEYNES' OWN WORKS

Introduction

John Maynard Keynes (1883-1946) was the most influential economist of his time. Since
Keynes’ death, his works have led to controversy in the economic literature in terms of
theory and policymaking. From the end of the Second World War until the Oil Crises,
the policies proposed by Keynes and the Keynesians were hailed and practiced
worldwide. This period, dubbed the ‘golden era of capitalism’, is also referred to as
‘Keynes’ era’. Some scholars blamed Keynes and the economic policies that he advised
for the emergence of the crises in the 1970s, arguing that the dominant role of the state
in the economy had been the driving factor behind these crises. Whether his ideas are
accepted or criticised, Keynes maintains his significance in the economic literature
today, so much so that the government interventions of the 2008 Global Financial Crisis
continue to be identified with reference to his name.

In the context of these developments, it is important to examine why, under what

conditions and to what extent Keynes deemed state intervention necessary in capitalist
economies. The purpose of this study is to discuss Keynes' views on the role of the state
within the framework of his own writings. Before going further, it should be emphasised
that the views of Keynes and Keynesian economists are not to be confused. The scope of
this study is limited to Keynes' own work and direct references to his works on the role
of the state in the economy. We will not discuss the ideas of Keynesian economists in this
study. However, as Gamble (1993: 42) and Chandavarkar (1993: 130) have stated
individually, Keynes did not publish an exclusive article or book explaining his opinion
on the role of the state and evaluating the optimal level of state intervention in the
economy.

The main body of this paper consists of two major sections. The first section is dedicated
to Keynes’ remarks on the laissez-faire principle, with the aim of presenting a
background to his point of view on the role of the state. In the second section, we review
the economic policies that Keynes proposed in relation to state intervention. We discuss
these policies under three sub-headings: 1. Keynes and corporatism, 2. Keynes' fiscal
policy recommendations for maintaining full employment and fair income distribution
and 3. Keynes' views on planning.

1
 1. Keynes’ Remarks on the Laissez-Faire Principle

The flaws of the laissez-faire or the ‘let them do it’ principle, which is an essential
concept in classical and neoclassical thought, lie at the heart of Keynes' views on the role
of the state. Therefore, an analysis of his criticisms of laissez-faire is crucial if we are to
understand the economic policies that he advocated. Keynes' most cited works on the
subject are ‘The End of Laissez-Faire1’ and ‘Am I a Liberal?2’ from Volume IX of the
Collected Writings. In the former article, Keynes discussed when and how laissez-faire
emerged:

‘The individualism of the political philosophers pointed to laissez-faire. The divine

or scientific harmony (as the case might be) between private interest and public
advantage pointed to laissez-faire. But above all, the ineptitude of public
administrators strongly prejudiced the practical man in favour of laissez-faire—a
sentiment which has by no means disappeared. Almost everything which the State
did in the eighteenth century in excess of its minimum functions was, or seemed,
injurious or unsuccessful. On the other hand, material progress between 1750 and
1850 came from individual initiative, and owed almost nothing to the directive
influence of organised society as a whole. (…) Thus the ground was fertile for a
doctrine that, whether on divine, natural, or scientific grounds, state action should
be narrowly confined and economic life left, unregulated so far as may be, to the
skill and good sense of individual citizens actuated by the admirable motive of
trying to get on in the world. (…) The economists were teaching that wealth,
commerce, and machinery were the children of free competition—that free
competition built London. But the Darwinians could go one better than that —free
competition had built man. The human eye was no longer the demonstration of
design, miraculously contriving all tilings for the best; it was the supreme
achievement of chance, operating under conditions of free competition and laissez-
faire. The principle of the survival of the fittest could be regarded as a vast
generalisation of the Ricardian economics.’
(CW: IX, 275-2763)
1
This article was published in 1926 based on Keynes' speeches at Oxford in 1924 and at the University of Berlin
in 1926.
2
This article was published in 1925 based on Keynes' speech at the Liberal Party Summer School in Cambridge
in 1925.
3
In this study, all references to J. M. Keynes' Collected Writings, consisting of thirty volumes and compiled by
the Royal Economic Society, are presented in line with the general form in the relevant literature. Accordingly, a

2
Keynes suggested that laissez-faire, which emerged under these circumstances, led many
scholars to make the following unrealistic assumptions. Firstly, individuals could make
the ideal distribution of productive resources through trial and error, independently of
each other. Secondly, the pursuit of individual interests would always result in
favourable outcomes for societies. According to orthodox economics, individuals who
moved in the ‘right direction’ in this trial-and-error process would eliminate those who
moved in the ‘wrong direction’ with the help of competition. Therefore, the social
consequences of this brutal competition were ignored, and only the most efficient
employees and the most profitable companies were rewarded. On the other hand, the
costs of this struggle for survival to individuals, firms and broader society were not
taken into account. Keynes summarised the working of laissez-faire as follows:

‘The object of life being to crop the leaves off the branches up to the greatest
possible height, the likeliest way of achieving this end is to leave the giraffes with
the longest necks to starve out those whose necks are shorter.’
(CW: IX, 283)

In Keynes’ view, it was unrealistic to assume that the combined pursuit of individual
interests would contribute to the interests of broader society. Indeed, leaving the
direction of the economy to the initiatives of individuals and to unregulated competition
may not always return favourable results. As such, it is inevitable that the state should
have a role in the economy. While explaining the role that the state should adopt,
Keynes referred to Bentham’s argument and emphasised that one of the main tasks of
economists in the 1920s was the determination of Agenda and Non-Agenda issues.
According to Keynes, the activities to be considered under the Agenda should be carried
out by the state. As to the scope of the Agenda, Keynes suggested that the state should
not completely eliminate or seek to replace the market mechanism. In his view, the state
should carry out activities which could not be performed by unassisted individuals (CW:
IX, 288-291). One example of such an activity is data collection on a variety of economic
and social indicators. As Chandavarkar (1993) notes, Keynes stressed the significance of
timely and adequate data collection and analysis of key economic indicators, such as
national income, money supply, foreign trade, harvest estimates, production and prices.
Keynes argued that the private sector had no direct interest in collecting macroeconomic
data, and that even if it had, it did not have the capacity to carry out such a function.

reference such as ‘CW: IX, 275’ refers to ‘Collected Writings, Volume IX, page 275’.

3
In his article entitled ‘Am I a Liberal?’ Keynes stated that individualism and laissez-
faire, which were recognised throughout the nineteenth century, made a great
contribution to the progress at that time. However, he also argued that those concepts
had lost their applicability in the 1920s. Keynes expressed his support for Commons’
historical analysis, which involved dividing history into three epochs. The first of these is
the ‘Era of Scarcity’, which lasted in the sixteenth century, when individual liberty was
at a minimum while state control was at the highest possible level. The second epoch
(between the seventeenth and nineteenth centuries) was called the ‘Era of Abundance’.
This period included the struggle for greater liberty and individual rights, as a result of
which laissez-faire and liberalism prevailed. According to Commons, the third epoch,
which he called the ‘Era of Stabilisation’, began in the twentieth century. Within this
period, individual liberty would decrease, and the state, trade unions and various
professional organisations would become prominent actors in the economy (Keynes,
CW: IX, 304-305; Commons, 1925). Keynes stated that historical events had vindicated
Commons and drew the following conclusion:

‘We have to invent new wisdom for a new age. And in the meantime we must, if we
are to do any good, appear unorthodox, troublesome, dangerous, disobedient to
them that begat us.’
(CW: IX, 306)

It may not be correct to conclude from the above statements that Commons and Keynes
were clearly seeking an alternative economic system to capitalism. Atkinson and Oleson
(1998) argue that both economists criticised orthodox economic theory but never
intended to replace the capitalist system with an alternative. In their view, the events of
the early twentieth century stimulated Commons’ and Keynes’ interest in the
development of new institutions to maintain the capitalist system.

Keynes' view that laissez-faire was incapable of regulating the economy did not change
in the 1930s. His speech entitled ‘Poverty in Plenty: Self-Adjusting? 4’ might stand as a
representative example on the issue. Within this speech, Keynes split economists into
two groups. The first group included those who believed that the economy would adjust
itself and reach equilibrium in the long run, while the second group included those who
rejected the idea of a self-adjusting mechanism. According to the latter group, effective
demand did not automatically adjust to the total supply. Keynes considered himself a

4
The transcript of this speech, which Keynes delivered on the radio in 1934, was later published in the
21.11.1934 issue of The Listener.

4
part of the second group (also known as the heretics) who opposed the liberal doctrine
(CW: XIII, 486-489).

In his most popular work, The General Theory of Employment, Interest and Money
(published in 1936) Keynes explained The Postulates of the Classical Economics,
referring to the law known today as Say’s Law:

‘From the time of Say and Ricardo the classical economists have taught that
supply creates its own demand; (…) The doctrine is never stated to-day in this
crude form. Nevertheless it still underlies the whole classical theory, which
would collapse without it.’
(Keynes, 1936: 26-27)

Thus, Keynes also opposed the validity of Say's Law as well as laissez-faire, which he
regarded as the core of the Classical Theory 5. The reason why The General Theory was
considered to be so important in the economic literature was that it criticised the idea of
capitalism as a self-adjusting system in which total demand automatically adjusted itself
with respect to total supply. Keynes realised that full employment was a sine qua non
condition for the survival of capitalism under a democratic regime (Cornwall, 1993).

In sum, we can roughly infer that although Keynes did not find it satisfactory to
consider laissez-faire the leading principle for the capitalist economies by the twentieth
century, he did not try to replace the capitalist system either. Consequently, he
advocated several economic policies (all of which were extraordinary for his time)
designed to improve the existing system. As examples of such policies, we present
Keynes' recommendations regarding the excess productive capacity problem in the
cotton industry and the regulation of raw material storage in the UK.

5
Jonsson (1995) states that Keynes' interpretation of Say’s Law (in which ‘supply creates its own demand’; a
common interpretation of Say which is still taught today) was in fact wrong. According to Jonsson, Say was
aware that effective demand deficiency was the result of a coordination problem in the economy. Jonsson, who
referred to Say's ‘Letters to Malthus’ (published in 1821) explained deficient demand as follows: ‘I have
advanced that whenever there is a glut, a superabundance, of several sorts of merchandize, it is because other
articles are not produced in sufficient quantities to be exchanged for the former; and if those who produce the
latter could provide more of them, or of other goods, the former would then find the vent which they required: in
short, that the superabundance of goods of one description arises from the deficiency of goods of another
description.’ Therefore, it should be kept in mind that trade is bilateral and coordination failures may always
emerge in the market. According to Jonsson, Say believed that the coordination problem could seriously slow
down the circulation of money and goods in the economy, which could then lead to depression. Hence, Say
actually meant that the supply levels in various branches of the economy should be compatible with each other,
rather than that ‘supply created its own demand’.

5
1.1. Keynes’ views Regarding the British Cotton Industry in the 1920s

Keynes is generally known for his macro-level economic analyses. However, he also
published industry-level assessments regarding the textile industry in Lancashire in The
Nation and Athenaeum (the Liberal Party’s periodical) between 1926 and 1929. Keynes
explained the causes of the depression that the cotton industry in Lancashire had
experienced throughout the 1920s and recommended remedial policies (CW: XIX: 590-
598). His suggestions included several measures that the state should take to eliminate
the disequilibrium in the industry.

The cotton industry played a major role in the industrialisation of the UK in the
nineteenth century and became the largest manufacturing and export sector following
the First World War. By the mid-1920s, the industry in Lancashire faced a serious
crisis, and the export volume declined significantly. Keynes identified two main reasons
for the sudden decline in the exports of textile products. The first was the import
substitution strategy implemented by the least developed countries, and the second was
the loss of the foreign markets. These markets, with their demand for low-quality textile
products, had once been dominated by British exporters. However, in the face of
aggressive competition from manufacturers in countries like Japan and India (where
wages were lower than those in the UK), British manufacturers lost their foreign
markets (CW: XIX). As a result of these developments, the surplus capacity in
Lancashire led to a long-term disequilibrium in the sector. According to Keynes, this
disequilibrium was ‘not necessarily permanent, but at least prolonged and with no end
in sight’ (Marchionatti, 1995). Consequently, the industry underwent an inevitable
curtailment in productive capacity. The standard remedy of orthodox economic
theorists for this situation was to stick with the laissez-faire principle, allowing the firms
that could not survive in a competitive environment to go bankrupt. According to this
approach, bankruptcy would drive technically inefficient firms out of the industry
(Marchionatti, 1995: 427-431).

Crotty (1999) draws attention to the financial fragility or indebtedness problem in the
industry. In his view, the contraction of demand for textile products troubled the
companies with higher levels of debt and even led some of them to bankruptcy.
However, under normal circumstances, innovative and aggressive firms tend to borrow
more than those that rely on older technology. For this reason, it may not be fair to

6
conclude that the firms dragged into bankruptcy as a result of debt were those operating
with the lowest levels of efficiency. On the other hand, to ensure minimum capacity
utilisation, firms had to set their sale prices well below their average costs in the short
term. Such cut-throat price competition adversely affected the firms with high
indebtedness. Keynes argued that ‘if this [price war] goes on for long, the mills which
are financially weaker, though not perhaps technically inefficient, will become
bankrupt’ (CW: XIX). Although the firms suffered serious losses, the instinct to survive
led them to borrow even more to compensate for these losses, and eventually exhausted
all of their working capital (Crotty, 1999: 566-568). Having identified the situation in
this way, Crotty presents Keynes' suggestions as follows: the basic solution to the
surplus capacity problem was to make production more efficient by allowing cartels and
consolidation in the industry. To achieve this level of efficiency, the state would have to
help companies in the ‘anarchically’ competitive industries to join their forces,
coordinating and regulating their activities in line with national interests.

In summary, Keynes argued that the laissez-faire principle could lead to disruptions at
the sectoral level and identified an excess capacity emerged in the mid-1920s cotton
industry. He stated that if the solution of this problem were left to laissez-faire, many
companies would be dragged into bankruptcy even though they were running efficiently.
Furthermore, companies would have to engage in vicious and unsustainable price
competition in order to survive. Although Keynes' solutions to these problems did not
entail direct state intervention, they required the state to help the industry to recover
through various legal arrangements.

1.2. The Significance of Regulating Raw Material Stocks and Keynes’ Policy
Recommendations

Before and during World War II, Keynes was interested in tackling the negative effects
of business cycles on raw material prices. He argued that laissez-faire was incapable of
encouraging private enterprises to keep extra raw material stocks for the purpose of
maintaining production during fluctuations in demand. Keynes discussed this issue in an
article entitled ‘The Policy of Government Storage of Food-Stuffs and Raw Materials’,
which outlined both general and UK-specific characteristics, and suggested that the state
should play an active role in regulation.

7
While explaining the general characteristics of the current economic system, Keynes
argued that keeping surplus stocks of raw materials was very costly, especially for
enterprises with limited storage space. Moreover, there was great uncertainty
concerning the ultimate price of such materials, as well as how long the additional raw
materials should be stored. Therefore, private enterprises were reluctant to stock more
raw materials than they needed for immediate use (Keynes, 1938: 449).

On the other hand, ebbs and flows in demand were an important characteristic of the
existing economic system. According to Keynes, fluctuations in demand for many
consumer goods were inevitable over time because of changing preferences and fashions,
which also implied fluctuations in raw material prices. To stabilise prices, additional
stocks of some raw materials should be accumulated, especially those that would not
deteriorate when stored for lengthy periods of time. Due to a long-term commitment to
laissez-faire and unregulated competition, no significant measures were taken to remedy
this deficiency. However, Keynes argued that many countries attempted to solve this
problem using various methods during the 1930s (Keynes, 1938: 451-452).

Keynes suggested that the most important initiative to remedy this problem was the
Essential Commodities Reserves Act, which came into force in Britain in the 1930s and
aimed at stocking raw materials for use in times of war. Keynes considered the Act an
important step towards solving the problem:

‘If only we could tackle the problems of peace with the same energy and whole-
heartedness as we tackle those of war!’
(Keynes, 1938:
454)

This Act authorised the Board of Trade to collect and publish data on raw materials. In
this way, the government could monitor increases and decreases in stocks. Through this
regulation, government obtained the capacity to monitor business cycles more closely
and take necessary measures with better timing.

Using the same Act, the Board of Trade undertook the difficult task of regulating raw
material stocks for use in wartime. Keynes suggested that the potential measures which
the Board of Trade could take to fulfil this task fell into two groups. The first group
involved the direct purchase of raw materials by the state, while the second group

8
included measures aimed at increasing raw material stocks which were held in the UK
but not owned by the state. All measures to be taken in this context required close
cooperation with all raw material producers across the British Empire. Keynes, who was
more interested in the second group, stated that those measures could be used not only
in wartime but also in peacetime, in order to regulate stocks of raw materials and tackle
price fluctuations (Keynes, 1938: 454-455).

In summary, Keynes asserted that laissez-faire was incapable of restraining the impact
of business cycles on the prices of raw materials. Furthermore, he argued that it was
incapable of stimulating manufacturers and traders to store up additional raw materials
in order to prevent price fluctuation (or in situations where national security was
threatened). Keynes, who advocated direct and extensive state intervention on this issue,
estimated that the annual cost of such intervention would be around £20 million for
England by the 1930s. In his opinion, such a cost was acceptable and could bring about
several advantages, such as securing the continued supply of raw materials, allowing the
government more control over business cycles and providing assurance against paying
excessive prices to buy additional raw materials when needed (Keynes, 1938: 458).

2. Economic Policies that Keynes Recommended for Implementation by the State

In the previous section, we explained Keynes' criticism of laissez-faire, as well as his

criticisms of individualism and Say's Law in order to provide a background to his
suggestions on the role of the state. In this section, we discuss three groups of economic
policies that Keynes proposed with reference to the related literature, namely
corporatism, fiscal policy and planning.

2.1. Keynes and Corporatism

When reviewing the literature on Keynes' approach to the role of the state in the
economy, it is almost impossible to avoid the term ‘corporatism’ (Crabtree and
Thirlwall, 1993). We discuss the parallels between Keynes' views and those of the
corporatists below. However, before outlining these parallels, we first need to provide a
general definition of corporatism and explain its characteristics.

9
Almodovar and Cardoso (2005) argue that corporatism emerged from criticisms against
the excessive individualism, abstraction, materialism and liberalism inherent in
capitalism. They also refer to the Italian philosopher Ugo Spirito (a well-known
advocate of corporatism) who turned his criticism towards homo ecomonicus, a concept
which he considered to be shallow. According to Spirito, the notion of homo economicus,
based on the idea that humans are selfishly individualistic, should be replaced with a
notion of humans as homo corporativus”. This notion would be able to fill the big value
gap between individual motivations and the goals of the state, as well as involving more
social responsibility. Thus, self-interest of the representative economic agent should be
replaced by national and common interests and objectives.

The corporatists believed that a new economic and social order could be established.
Such an order would contain the social sensitivity that was missing in the capitalist
system, and would provide an alternative to socialism, which advocated the abolition of
private property. According to Filippo Carli, there was no doubt that private enterprise
was the most effective and useful instrument to achieve development and to gain
economic power. However, since private enterprises should also have a national aim,
entrepreneurs must realise that they are obliged to pursue national interests and
objectives. Carli was in favour of allowing individuals to pursue their economic interests
as long as they acted with a minimum level of social responsibility. During the
establishment of a corporatist economy, state intervention would be crucial. The aim of
the state would be to make the necessary arrangements to prevent the market
mechanism from creating undesirable consequences, such as inequitable income
distribution and wasted resources (Almodovar and Cardoso, 2005: 337-345; Carli 1929).

According to Gamble (1993), Winkler defines corporatism as a combination of private

ownership and state control. Although private ownership and individual enterprise
would not be prohibited under corporatism, the state would strongly control such an
economy. To implement economic policies effectively, the government would obtain
decision-making power over some companies. In a nutshell, corporatism would entail
state control of wages, prices and investments under an ideology that emphasises the
significance of national interests and the value of the collaboration of the state, capital
and labour (Gamble, 1993: 44).

These explanations illustrate the general characteristics of corporatism, but it is still

difficult to provide a single, clear definition of the philosophy. Nevertheless, it can be

10
roughly stated that corporatism is a system which requires extensive state intervention,
imposes restrictions on individualism and private property for the sake of the national
interest, and creates new organisational structures through a combination of private
enterprise and public ownership. Almodovar and Cardoso (2005), Gamble (1993) and
Crotty (1999), all of whom have analysed Keynes’ views on corporatism, largely refer to
the following passage in Keynes' ‘The End of Laissez-Faire’:

‘I believe that in many cases the ideal size for the unit of control and organisation
lies somewhere between the individual and the modern State. I suggest, therefore,
that progress lies in the growth and the recognition of semi-autonomous bodies
within the State—bodies whose criterion of action within their own field is solely
the public good as they understand it, and from whose deliberations motives of
private advantage are excluded, though some place it may still be necessary to
leave, until the ambit of men's altruism grows wider, to the separate advantage of
particular groups, classes, or faculties—bodies which in the ordinary course of
affairs are mainly autonomous within their prescribed limitations, but are subject
in the last resort to the sovereignty of the democracy expressed through
Parliament.
I propose a return, it may be said, towards medieval conceptions of separate
autonomies. But, in England at any rate, corporations are a mode of government
which has never ceased to be important and is sympathetic to our institutions. It is
easy to give examples, from what already exists, of separate autonomies which
have attained or are approaching the mode I designate—the universities, the
Bank of England, the Port of London Authority, even perhaps the railway
companies. In Germany there are doubtless analogous instances.
(…) It is true that many big undertakings, particularly public utility
enterprises and other business requiring a large fixed capital, still need to be semi-
socialised. But we must keep our minds flexible regarding the forms of this semi-
socialism. We must take full advantage of the natural tendencies of the day, and we
must probably prefer semi-autonomous corporations to organs of the central
government for which ministers of State are directly responsible.’

(CW: IX, 288-290)

This passage indicates some level of association between Keynes and the corporatists in
terms of mindset. The corporatists were often criticised for advocating the forgotten

11
institutions of the medieval period. Though implicit, Keynes’ support of one of the main
characteristics of a corporatist economic model was, we suppose, very important. Thus,
Keynes can be regarded as the first well-known economist associated with corporatism
to recognise that capitalism needed to be restructured according to the conditions of the
twentieth century (Almodovar and Cardoso, 2005). Nevertheless, as Gamble (1993: 50-
51) emphasises, Keynes did not promote corporatism directly, though he did propose
new forms of organisation to cope with the problems of industrial society in the 1920s.

Regarding the similarities of Keynes' views and those of the corporatists, Almodovar
and Cardoso (2005: 348) draw attention to the expressions that Keynes used in the
preface to the German edition of The General Theory. Keynes stated that his theory as a
whole could be easily adapted to a totalitarian regime, and consequently fuelled another
round of debate in the literature. Raico (2008), referring to the preface, argues that
Keynes cannot be regarded as strictly liberal, and that he might even have been warmly
welcomed by a totalitarian state. However, the general view is that Keynes was a liberal
who advocated state intervention, as he favoured maintaining capitalism under a
democratic regime6.

2.2. Keynes' Fiscal Policy Recommendations for Maintaining Full Employment and Fair
Income Distribution

Keynes’ most widely known policies involve state intervention and are associated with
fiscal policy. It should be clear to readers that addressing fiscal policy in all its
dimensions and assessing it within the framework of Keynes’ analyses requires a
comprehensive approach, as fiscal policy covers a wide range of research topics.
Therefore, in this study, we restrict our review to a general outline of the fiscal policy
measures which Keynes advocated. During our limited literature review, we observed
that Keynes' fiscal policy had two dimensions. The first was related to public
expenditures and investments directed towards achieving full employment equilibrium,
and the second involved regulating the distribution of income and wealth.
2.2.1. Policy recommendations on public expenditures

According to Crotty (1999), Keynes first argued that large-scale public investments were
necessary to ensure full employment in his article, ‘Does Unemployment Need a Drastic
Remedy?’, published in The Nation and Athenaeum in May 1924. Crotty suggests that
6
See, for example, Cornwall, 1993; Gamble, 1993; Atkinson and Oleson, 1998; Brittan, 2008.

12
the article should be considered the beginning of the Keynesian revolution, as it argued
that the state should guide the economy through public investments. Keynes
recommended that the Treasury invest up to £100 million annually, or around 2.6% of
the national income registered in 1924. Keynes estimated that this large public
investment would help nearly 500,000 people find jobs, as a result of which the
unemployment rate would fall from 10.3% to 6%. According to Crotty, Keynes thought
that the conditions necessary for laissez-faire to succeed had disappeared by the 1920s.
As such, new economic conditions required the state to play a more active role in the
economy (Crotty, 1999: 555-557; CW: XIX).

According to Dillard (1946), the major political parties’ campaigns during the 1929 UK
general elections (i.e., those of the Liberal Party, the Conservative Party and the Labour
Party) all focused on fighting unemployment. Dillard stresses the significance of the
pamphlet entitled ‘Can Lloyd George Do it? An Examination of the Liberal Pledge’,
which was authored by Keynes and H.D. Henderson in support of Liberal Party leader
Lloyd George. Under the public investment program announced by Lloyd George in the
election campaign, there would be no rise in taxation to finance those investments.
Employment would increase thanks to public investments, and the tax base would
expand, giving rise to tax revenues. In addition, due to the increase in employment, the
funds allocated to pay unemployment relief would be directed to the financing of new
public investments. Keynes and Henderson, who supported this program, found these
promises appropriate and explained the relationship between the initial public
investments and the expected increase in national income in their pamphlet. According
to Dillard, this was the first time that the multiplier mechanism (the notion that public
spending would lead to an increase in the national income which was greater than the
original expenditure) was explained in an economy with idle resources 7. As the Liberal
Party came third in the 1929 elections, the applicability of Lloyd George's promises
could not be tested. The Great Depression began in 1929, and it affected Britain severely
over the following two years. Effective demand decreased considerably during this time,
but the Budget and Economy Act (a law which reflected the Treasury's point of view)
came into force in August 1931 (Dillard, 1946: 133-136; Keynes and Henderson, 1929).
Wage cuts, reductions in relief payments and curtailment of road building and housing
followed the approval of the Act. Keynes stated that these measures would further

7
Dillard (1946) states that Keynes acknowledged R.F. Kahn as the first scholar to propose the theory of
multiplier in The General Theory of Employment, Interest and Money, published in 1936. However, Dillard
emphasises that Kahn only formulated the multiplier mechanism, and that Keynes and Henderson explained the
operation of the multiplier before Kahn's 1931 article. For this reason, Dillard argues that Keynes and Henderson
were the first to explain the multiplier mechanism.

13
suppress the already-falling purchasing power and wrote, ‘If the theory which underlies
all this is to be accepted, the end will be that no one can be employed except those happy
few who grow their own potatoes’ (Dillard, 1946; Keynes, 1931: 329).

According to Brown-Collier and Collier (1995) Keynes' views on weak effective demand,
unemployment and the necessity of public investment were that the real national income
would increase as more and more capital accumulated in the economy. In turn, this
would lead to an increase in total savings and the average propensity to save. This
leakage would mean that, in order to maintain full employment, there would be a need
for increased injections of resources into the economy in the form of investments. Unless
such investments were made, unemployment would increase and economic growth
would slow down. The profit motive and the returns from capital ownership would not
be sufficient to realise an investment amount of such magnitude. Therefore, increasing
public investment would be a convenient way to achieve full employment (Brown-Collier
and Collier, 1995: 353-354; CW: XXVII).

Keynes also mentioned the importance of public spending for full employment in The
General Theory (1936). His most prominent explanations regarding public expenditures
can be found in Chapter 10 (‘The Marginal Propensity to Consume and the Multiplier’).
Although he considered public investment to be a preferable policy (Brown-Collier and
Collier, 1995) sometimes ‘wasteful’ public spending was ‘better than nothing’:

‘When involuntary unemployment exists, the marginal disutility of labour is

necessarily less than the utility of the marginal product. Indeed it may be much
less. For a man who has been long unemployed some measure of labour, instead
of involving disutility, may have a positive utility. If this is accepted, the above
reasoning shows how 'wasteful' loan expenditure may nevertheless enrich the
community on balance. Pyramid-building, earthquakes, even wars may serve to
increase wealth, if the education of our statesmen on the principles of the classical
economics stands in the way of anything better.
It is curious how common sense, wriggling for an escape from absurd
conclusions, has been apt to reach a preference for wholly 'wasteful' forms of loan
expenditure rather than for partly wasteful forms, which, because they are not
wholly wasteful, tend to be judged on strict 'business' principles. For example,
unemployment relief financed by loans is more readily accepted than the
financing of improvements at a charge below the current rate of interest; whilst

14
 the form of digging holes in the ground known as gold-mining, which not only
adds nothing whatever to the real wealth of the world but involves the disutility of
labour, is the most acceptable of all solutions.
If the Treasury were to fill old bottles with banknotes, bury them at suitable
depths in disused coalmines which are then filled up to the surface with town
rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to
dig the notes up again (the right to do so being obtained, of course, by tendering
for leases of the note-bearing territory), there need be no more unemployment and,
with the help of the repercussions, the real income of the community, and its
capital wealth also, would probably become a good deal greater than it actually is.
It would, indeed, be more sensible to build houses and the like; but if there are
political and practical difficulties in the way of this, the above would be better than
nothing.’
(Keynes, 1936: 128-129)

The following quote from The General Theory summarises the substance of Keynes'
views on the role of public expenditure:

‘Whilst, therefore, the enlargement of the functions of government, involved in the

task of adjusting to one another the propensity to consume and the inducement to
invest, would seem to a nineteenth-century publicist or to a contemporary
American financier to be a terrific encroachment on individualism, I defend it, on
the contrary, both as the only practicable means of avoiding the destruction of
existing economic forms in their entirety and as the condition of the successful
functioning of individual initiative’
(Keynes, 1936:
380)

2.2.2. Recommendations on income distribution

Keynes' views on income distribution differed from those of orthodox economists.

Kirshner (1999) notes that Keynes considered a moderate level of inequality to be
necessary in order for a market economy to function, since such inequality provided
several incentives to individuals and firms. However, according to Kirshner, Keynes
suggested that major inequalities in income distribution should be prevented by state
intervention for three reasons. First, an increasingly inequitable income distribution

15
could lead to insufficient aggregate demand and, therefore, insufficient employment. For
instance, in Chapter 8 of The General Theory, Keynes (1936) argued that the
government could affect a society’s consumption tendency by intervening in the
distribution of income and wealth. Individuals' propensity to save depended on expected
returns, which could be influenced through fiscal policies and interest rates. If fiscal
policies were used to bring about more equitable distribution (for example, if taxes on
‘unearned’ incomes such as capital profits were increased), the tendency to save would
likely decrease and the propensity to consume would increase. Therefore, insufficient
aggregate demand could also be alleviated in this way.

Second, an unregulated market economy tended to lead to an arbitrary and unfair

distribution of income and wealth. In addition, the market mechanism rewarded those
who had the means to generate more income and wealth already. Finally, a perception of
injustice in society could cause political and, potentially, economic problems (Kirshner,
1999: 319). Peacock's (1993) study might provide a good example of second and third
factors for the necessity of state intervention in income distribution. Peacock’s report
seems to support that of Kirshner regarding Keynes’ viewpoint on income distribution.
Peacock believes that Keynes had a somewhat egalitarian view of income and wealth
distribution. Keynes supported the Beveridge Plan, which stipulated a once-and-for-all
wealth tax to punish those who made major gains during the war and to finance post-
war debt. In Keynes’ view, such a wealth tax could support the future national budget if
it were turned into a permanent measure (Peacock, 1993: 22).

2.3. Keynes' Views on Planning

Keynes explained his views on organised central planning in a speech entitled ‘State
Planning8’ in an organised fashion in 1932. He began his speech by evaluating the idea of
planning within the framework of political regimes. Keynes believed that planning could
be exercised without abandoning capitalism:

‘There is a new conception in the air today. (…) It is called planning—state

planning; something for which we had no accustomed English word even five years
ago. It is not Socialism; it is not Communism. We can accept the desirability and
even the necessity of planning without being a Communist, a Socialist or a Fascist.’

8
The full text of this speech is available in Volume XXI of Keynes' Collected Writings and is entitled ‘Activities
1931-1939: World Crises and Policies in Britain and America’.

16
 (CW: XXI, 84)

He asserted that government planning had grown due to the rise of Communist or
Fascist regimes (i.e., the national plans of Russia and Italy) since 1932. However, he also
pointed to other, less ideologically motivated reasons for the increasing popularity of
planning, such as the failure of economies that were not directed by the state in any way,
or economies in which state control was at the lowest level. He believed that the remedy
for such failures was planning. As for the scope of planning, Keynes adopted a similar
approach to the Agenda concept, which he used in ‘The End of Laissez-Faire’, to draw
the boundaries of the state's activities in the economy. He argued that planning activities
should not restrict the freedom of the individual, attempt to replace the activities
conducted by the individual, or abolish motivations for profit-making (CW: XXI, 85-88).

Having drawn the contours in this way, Keynes gave examples of what could be
considered suitable contexts for planning in economic and social life. Urban planning
and conservation of rural areas were appropriate areas for planning, although they
were only semi-economic in nature:

‘(…) Town planning and rural preservation is a good illustration, although it is

only of a semi-economic character. For it is a case both where it is impossible for
the individual to take the necessary action however much he may wish to do so,
and where the benefit cannot possibly accrue to the individual even if he were to
act. Yet it is a case where enormous benefits can accrue to the whole community
both now and hereafter, if strong powers of central direction are assumed and
employed.’
(CW: XXI, 89)

Moreover, Keynes suggested that the basic goal of planning was to avoid a crisis in the
manufacturing industry or help coming out of it throughout the world. As regards
slumps, he believed that there was nothing that the individual could do to avert such
occurrences on his own: ‘He is swept along, together with all his fellows, on a flood
which he cannot control or direct’ (CW: XXI, 89-90).

Although he expressed his views clearly, some scholars argue that Keynes was
completely opposed to planning. On reading Hayek’s The Road to Serfdom (published in
1944), in which Hayek explained his reasons for opposing planning, Keynes wrote to

17
Hayek and outlined his views. In The Road to Serfdom, Hayek argued that planning
could not improve the well-being of society, and that it also posed a major threat to
individual freedoms. The first paragraph of Keynes' letter to Hayek appeared on the
back cover of some editions of The Road to Serfdom. Christainsen (1993) mentions the
following quote from Keynes’ letter: ‘In my opinion it is a grand book. We all have the
greatest reason to be grateful to you for saying so well what needs to be so much to be
said. (…) Morally and philosophically I find myself in agreement with virtually the
whole of it”. However, Christainsen notes that there was a missing part in this
quotation, rendering it misleading9. He argues that Keynes’ viewpoint can be
interpreted as follows: if state planning is carried out by the right people, it will not pose
a threat to basic liberties. Furthermore, he argues that Keynes' letter accounted for
Hayek's assumptions that planning was not more efficient, whereas from a purely
economic point of view, it was possible for planning to be efficient (Christainsen, 1993:
50-51). Peacock (1993) also suggests that Keynes was not completely opposed to the
notion of planning. In his view, Keynes rejected Hayek's idea that national planning
entailed a step along a slippery path leading to a precipice (Peacock, 1993: 28).

To summarise, it is clear that Keynes was against the kind of extensive planning in
which all economic decisions are made according to a single plan. However, he
supported moderate planning rather than no planning at all, since he understood that
leaving all economic decisions to market forces would lead to failure, as he stated in
‘State Planning’.

Summary and Conclusion

In this study, we have sought to answer the questions as to why, under what conditions,
and to what extent Keynes considered state intervention a requirement of capitalist
economies. However, analysing Keynes' views on the role of the state in the economy in
all its dimensions poses a challenge, as he did not organise and publish his views on state
intervention within a single publication, and the volume of his Collected Writings is huge.

9
The complete passage in the letter is as follows: ‘In my opinion it is a grand book. We all have the greatest
reason to be grateful to you for saying so well what needs so much to be said. You will not expect me to accept
quite all the economic dicta in it. But morally and philosophically I find myself in agreement with virtually the
whole of it’. Therefore, Christainsen was right for stating that the quotation in question misled the reader, since
the third sentence was not included in the quote on the back cover of the book.

18
Therefore, we have attempted to assess the topic through a limited literature review and
within the scope of the subjects discussed in the related literature.

We reviewed Keynes' views and criticisms of laissez-faire, which is thought to constitute

the origin of his standpoint on the role of the state, in the first section. In the second
section, we discussed a few economic policies proposed by Keynes in relation to
government intervention. These policies covered three distinct aspects of the economy,
namely corporatism, fiscal policy and income distribution. Considering the different
characteristics of these aspects, one may feel puzzled and ask ‘What conclusions can we
draw from this review?’ One way to answer this question might be to investigate the
common features of the policies that Keynes advocated, taking into account his mindset
regarding the capitalist system of the 1920s and 1930s.

Keynes proposed the above policy measures when he realised that laissez-faire, the term
which he used to conceptualise liberalism and individualism, was insufficient as a means
of regulating the economy. Keynes opposed the orthodox economic theory, which
suggested that the state should have no role in the economy except to provide basic
services like national security and justice. However, it may not be appropriate to
conclude that Keynes was a Socialist, a Communist, a Fascist or a pro-totalitarian.
Conversely, Keynes considered that in order for a capitalist economy to survive under a
democratic regime, the state must involve itself in economic activities to some extent.
Thus, Keynes was a pragmatic economist. He proposed state intervention only in cases
where the economy moved away from the full employment equilibrium and laissez-faire
failed to regulate the economy. In his view, while capitalism was defective in many ways,
it could be turned into a more efficient system with the help of necessary measures.

19