Microeconomics after Keynes: Post Keynesian Economics and Public Policy

Introduction Post Keynesian economics is mainly a school of macroeconomic thought (see Davidson 2005; Holt and Pressman 2001; Lavoie 2006). It has focused on issues such as financial instability, exchange rate regimes, unemployment, trade deficits, and inflation, and it has made significant contributions to the policy debates in these areas. Unfortunately, Post Keynesians have virtually ignored microeconomic policy issues such as immigration, crime, and education. (1) Part of the problem likely stems from the quip (attributed to Gerald Shove) that Keynes never put in the half hour necessary to learn microeconomics. This has left Post Keynesian micro underdeveloped relative to the macro side. Another part of the problem is that Post Keynesian microeconomists tend to focus on methodological and theoretical debates and to provide empirical evidence for the Post Keynesian theory of pricing, ignoring the policy side of microeconomics. The goal of this paper is to help remedy this gap in Post Keynesian thought and get Post Keynesians to focus on microeconomic public policy issues. Toward this end, it outlines the fundamental principles of the Post Keynesian approach, explains how they can be applied to micro policy issues, and draws out some key policy conclusions that differ markedly from those of neoclassical theory on two issues-health care and productivity growth. The Post Keynesian Approach Five key notions distinguish Post Keynesian economics from neoclassical economics: (1) a recognition that the future is uncertain, rather than known with some probability distribution; (2) a view that individual decision making depends on social factors, such as habits and emulation, rather than on individual rational choice; (3) a belief that economic analysis should examine economies that move through historical time rather than economies that effortlessly reach some equilibrium; (4) a recognition that real world markets are not perfectly competitive; and (5) a focus on income effects rather than on substitution effects. Uncertainty Versus Risk One distinguishing characteristic of the Post Keynesian approach is its focus on uncertainty. Knight ([1921] 1971) argued that risk involved measurable probabilities while uncertainty involved unmeasurable and unknowable probabilities. We can know the chance that a 40-year-old man will die in the next year, and we can know the probability that a hurricane will hit land in Florida, because we have a good set of past observations about these events. For this reason private firms can insure against these catastrophes. However, past evidence is no guide when events happen infrequently or when dealing with situations that extend far into the future. Keynes ([1936] 1964: ch. 12) applied this distinction to investment decisions, claiming they do not depend on an objective assessment of probable outcomes and the expected profitability of each possible outcome. Rather, firms operate under uncertainty, and investment decisions must be based on "animal spirits" or the state of confidence of business executives. Rosser (2001) points out that Post Keynesians have two main arguments that many real world decisions require overcoming uncertainty. First, Loasby (1976) and Shackle (1955, 1972, 1974) claim that the world itself is unpredictable and constantly changing. So, we never know when things will change or how they will change. Important decisions are thus "experiments," to use Shackle's (1955: 63) evocative term. Davidson (1991, 1994, 1996) provides a more scientific defense of this view. Systems are ergodic if their structure remains stable over time. In this case, we can extrapolate from the past to the future. Non-ergodic systems experience structural change over time. It means that people cannot figure out what the future will be like. Second, Arestis (1996) and Carabelli (1988) see uncertainty arising because we do not know what others will do. …