Note well: the economy will not manage itself, at least not in a good way.
As John Maynard Keynes shrilly stated back in 1926:
Let us clear… the ground…. It is not true that individuals possess a prescriptive 'natural liberty' in their economic activities. There is no 'compact' conferring perpetual rights on those who Have or on those who Acquire. The world is not so governed from above that private and social interest always coincide. It is not so managed here below that in practice they coincide. It is not a correct deduction from the principles of economics that enlightened self-interest always operates in the public interest. Nor is it true that self-interest generally is enlightened… individuals… promot[ing] their own ends are too ignorant or too weak to attain even these. Experience does not show that… social unit[s] are always less clear-sighted than [individuals] act[ing] separately. We [must] therefore settle… on its merits… "determin[ing] what the State ought to take upon itself to direct by the public wisdom, and what it ought to leave, with as little interference as possible, to individual exertion".
The management of economies by governments in the twentieth century was at best inept. And, as we have seen since 2007, little if anything has been durably learned about how to regulate the un-self-regulating market in order to maintain prosperity, or ensure opportunity, or produce substantial equality.
Before the start of the nineteenth century, there were markets but there was not really a market economy—and the peculiar dysfunctions that we have seen the market economy generate through its macroeconomic functioning were, if not absent, at least rare and in the background of attention. Wars, famines, government defaults were threats to life and livelihood. The idea that Alice might be poor and hungry because Bob would not buy stuff from her because Bob was unemployed because Carl wanted to deleverage because Dana was no longer a good credit risk because Alice had stopped paying rent to Dana--that and similar macroeconomic processes are a post-1800 phenomenon.
The problems of economic policy in the modern age are, speaking very broadly, threefold: first, the problem of attempts to replace the market with central planning--which is, for reasons well-outlined by the brilliant Friedrich von Hayek, a subclass of the problem of twentieth-century totalitarian tyranny--second, the problem of managing what Karl Polanyi called "fictitious commodities"; and, third, the problem of managing aggregate demand.
Leave the first problem to the side: we are already depressed enough by the little time we spent on it above. Turn to the second problem, to Karl Polanyi's "fictitious commodities". We--we East African Plains Apes--are gift-exchange animals. We seek reciprocity: neither to give so much that we feel exploited by those who give too little back in return, nor to give so little as to unbalance the scales and leave us doomed to submission, but rather to fairly balance the scales. On top of this propensity in human nature to truck, barter, and exchange we have built our market economy. This means that market exchanges have to fulfill five distinct social roles: (1) The prices at which commodities are exchanged survey as signals and incentives to direct and coordinate the human division of labor. (2) The fact of trade and exchange cements social bonds--Albert Hirshman's "doux commerce" idea. (3) Present generosity--giving more than you receive right now, whether explicitly a loan or not--creates a status hierarchy that distributes social decision-making power. (4) The unlucky benefit from a modicum of social insurance by implicitly trading away some decision-making autonomy for current resources. And (5) the prices the market attaches to the resources at one's hand make some rich and others poor: "We know these matters:/How the poor debtors/Still sell their daughters./How in the drought/Men still grow fat…"
But the logic of the competitive market economy focuses on fulfilling (1) and only (1) of these distinct roles, leaving the other four hanging--and that will not be good. A self-regulating competitive market economy will not seek to cement social bonds, or to establish a functional and effective status hierarchy for collective decision making, or provide a modicum of social insurance, or produce a sane balance between rich and poor. It will only produce prices that serve as guides to direct and coordinate the human division of labor. And, in the presence of significant externalities or significant market power, it will not even do that.
Karl Polanyi summarized all this by stating that the self-regulating market economy turns the stuff of people's lives--where they live, what they work on, and what promises and obligations they have for the future--into the fictitious commodities of land, labor, and capital and then deals with them as it deals with other commodities. And that, Polanyi correctly said, is not good. The problem is that governments, even democratic governments, do less to properly regulate the market in the interest of achieving these other four social roles besides that of setting prices to serve as incentives and signals.
Turn now to the third of the problems of economic policy, the problem of managing aggregate demand to avoid either mass unemployment or excessive and destructive inflation. These evils are avoided by having the government adjust its spending programs and modify the supply of the money and debt it issues in order to make Say's Law--the principle that everybody's production becomes their income which is somebody else's spending demand, and all three of these quantities match--true in practice even though it is not true in theory. Phrased this way, the conceptual problem is easy: match aggregate demand to full-employment aggregate supply or productive potential.
The global Lesser Depression starting in 2007 is proof that even after two centuries of dealing with disturbances to aggregate demand that the world's governments cannot manage these grand mal seizures of the market economy. Little, it turns out, was known in 2007 about how to manage a market economy under circumstances of large shocks to demand. Lessons learned from experience were often forgotten quickly. There was an extraordinary disjunction between the power of twentieth-century economies as social-calculating and behavior-conditioning mechanisms and the ineptness with which these economies were managed.
Some of it is because twentieth century economists did not know what to prescribe: the history of economic policy reads like alchemy, not chemistry. Often proposed remedies made economic problems worse. Many times one current generation’s proposed solutions to the problems of how to manage domestic and international macroeconomic policy turn out to lay the groundwork for the next generation’s problems of macroeconomic management. And it is not always the case that larger problems are replaced by smaller ones over time. As the salience of different problems—inflation, unemployment, unstable capital flows, unstable exchange rates, the sacrifice of domestic to international interests, the focus on domestic interests which means that the international system is left ungoverned and unmanaged—has changed over time, the movement of economic policy has looked less progressive and more circular. Theoretical doctrines like the Keynesian “liquidity trap” that were last applied to the U.S. in the 1930s, and thereafter dismissed as theoretical curios of no practical importance, are dusted-off and revived for the analysis of Japanese stagnation in the 1990s. When Argentinian technocrat Domingo Cavallo reassumes the post of Minister of Finance in early 2001, some of the policy proposals that he advances to deal with Argentina’s then-macroeconomic problems appeared remarkably similar to policy proposals that John Maynard Keynes had advanced at the end of the 1920s to deal with Great Britain’s similar macroeconomic problems.
Some of it is that politicians did not like to follow their economists’ advice, or at least sought for a more complaisant set of economists who would give advice that would be more politically pleasing and palatable to follow. And some of it is simply that while it may be true that those who do not remember the past are condemned to repeat it, this aphorism does not stress the fact that that means that the rest of us are condemned to repeat it with them.
The twentieth century economy has been a tremendously powerful, efficient, and productive social mechanism—the market system. Yet few, or few of those in power, have known how to operate or fix it. Moreover, learning does not appear to take place—or if it does take place, it does not take place at more than a glacial pace. The inescapable image is of an ocean liner crewed and steered by chimpanzees. The failures and half-successes of economic policy together make up another key facet of twentieth century economic history: how governments have managed or mismanaged their economies, and how knowledge of how the economic system works has been painfully gained and then painfully lost.