The Historical Debate Between Hayek and Keynes

British economist John Maynard Keynes and Austrian economist Friedrich Hayek are two of the most renowned figures in the history of 20th-century economic thought. Their ideas not only had a profound impact on the past economic and social landscape, but they will continue to influence current and future economic and social development until a more convincing economic ideology takes hold. The debate between Keynes and Hayek is known as “the most classic and famous duel in economic history.” American journalist Nicholas Wapshott, who was a senior editor at The Times of London and The New York Sun, systematically examined this debate in his book Keynes Hayek: The Clash that Defined Modern Economics. As we revisit this classic academic feast, we also reflect on the serious economic question: “To what extent should the government intervene in the market?”

Today, people are already quite familiar with the starkly opposing economic views of Keynes and Hayek. Keynes believed that the root cause of an economic crisis is the lack of confidence among capitalists in investment prospects, leading to reduced investment, and thus advocated for effective government intervention and control over social economic activities. Hayek, on the other hand, believed that the root cause of economic crises was over-investment by capitalists and argued that government intervention would only damage the mechanisms of market development and functioning. Therefore, he firmly defended the idea of a free market order. Keynes argued that the government could expand public spending through fiscal deficits and national debt, increase state investment and consumption, and indirectly advocated for the "nationalization of currency." Hayek, by contrast, proposed that currency issuance should be handed over to private banks, which would provide sound and stable money based on their own interests, advocating for the "denationalization of currency."

Keynes supported inflationary policies to increase corporate profits, stimulate investment, expand employment, and achieve stable economic development. Hayek argued that inflation would widen the income gap, cause asset prices to soar, and eventually lead to greater unemployment and economic vicious cycles. He believed that business cycles would naturally return to full employment. Keynes argued for increased investment in public works, improving social welfare, and providing relief spending for those living below the poverty line. Hayek, however, believed that public goods do not directly satisfy any specific demand but provide certain conditions under which individuals and smaller groups can enjoy better opportunities to meet their respective needs.

The debate between Keynes and Hayek is characterized by a vast ideological chasm, and throughout their lives, they could never reconcile with each other’s viewpoints. Their debates were later carried on by their passionate disciples, such as John Kenneth Galbraith and Milton Friedman. In terms of personality, the two were also very different. Keynes was highly articulate and charismatic, often painting an optimistic vision of the world, which was embraced by an entire generation of politicians and economists on both sides of the Atlantic. In contrast, Hayek was meticulous and persistent, swimming against the tide, but found support among market advocates and libertarians. To this day, the two distinct schools of thought in economics continue their “battle.”

This economic battle has left government decision-makers oscillating between the two scholars' ideas, influencing the ups and downs of the world economy, affecting the lives and livelihoods of billions. The global economic crisis of 1929–1933 led to the widespread adoption of Keynesianism, represented by the "New Deal" of Franklin D. Roosevelt, and it seemed that Keynes had triumphed over Hayek. However, the oil crisis of the 1970s plunged the global economy into the dilemma of "stagflation," and the neoliberalism represented by the "Washington Consensus" became the dominant policy-making ideology, giving Hayek a comeback. By the end of the 20th century, the failure of neoliberal economic policies in Latin America, Russia, Southeast Asia, and Eastern Europe, coupled with the impact of the 2008 global financial crisis, suggested that Keynesianism might once again be on the rise.

In terms of policy practice, the struggle between Keynesianism and neoliberalism may continue, and it is still too early to conclude who will ultimately prevail. Interestingly, the Nobel Prize in Economics, which is seen as a "weather vane" for academic trends, has also been swayed by economic crises and shifts in government decision-making. Since the Nobel Prize in Economics was first awarded in 1968, Keynes, who had passed away by then, was naturally ineligible. Hayek, however, won the prize in 1974. During the 1970s and 1980s, when neoliberalism was on the rise, figures like Milton Friedman, Robert Lucas, Finn Kydland, and Edward Prescott also won the prize. Later, however, new Keynesians like Joseph Stiglitz and Peter Diamond, who carried on Keynes' legacy, were awarded the prize as well. In 2012, with the resurgence of neoliberalism, Alvin Roth and Lloyd Shapley took home the Nobel Prize in Economics.

In fact, despite their dramatic disagreements, Keynes and Hayek had similar aims. They both studied the same subject: the cycles of boom and bust in commercial activity that emerged from the ruins of World War I. Both sought to establish a theoretical framework that combined real and monetary phenomena to explain the dynamics of the economy, especially the business cycle. Their economic theories both originated from Knut Wicksell's theory of monetary equilibrium and the concept of "natural interest rates." Furthermore, they shared a deep commitment to the basic principles of a market economy governed by freedom, democracy, and the rule of law. If we look purely at logical reasoning, both of their theoretical conclusions and policy recommendations could explain the causes of economic recessions and offer solutions. The historical choices made by policymakers ultimately explain the root cause of their disagreements—it was a matter of experience and practical judgment.

It’s worth mentioning that although their debate was often heated, with sharp criticisms exchanged, the mutual respect they maintained beyond academia, and their personal friendship, is even more commendable. Although Hayek had differing views on credit from Keynes, he praised Keynes' A Treatise on Money as "an outstanding description and classification of different forms of money." Similarly, Keynes was deeply moved by Hayek's great work The Road to Serfdom. Keynes not only provided housing for Hayek when he first arrived in London, but in their debate letters, they openly discussed their friendship. Hayek once said, “Although I still disagreed with Keynes' views and had fierce debates with him, we maintained the best of personal friendships. And as a man, I held him in the highest esteem in many ways.”