From Book on Keynes

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Admittedly, ...system-wide responsiveness depended on economic agents having perfect information about the future. This is manifestly absurd. Nevertheless, most mainstream economists believed that economic actors possess enough information to lend their theorizing a sufficient dose of reality. This so-called "efficient market theory," should have been blown sky-high by last autumn's financial breakdown. But I doubt that it has been. Seventy years ago, John Maynard Keynes pointed out its fallacy. When shocks to the system occur, agents do not know what will happen next. In the face of this uncertainty, they do not readjust their spending; instead, they refrain from spending until the mists clear, sending the economy into a tailspin.
It is the shock, not the adjustments to it, that spreads throughout the system. The inescapable information deficit obstructs all those smoothly working adjustment mechanisms — i.e., flexible wages and flexible interest rates — posited by mainstream economic theory. An economy hit by a shock does not maintain its buoyancy; rather, it becomes a leaky balloon. Hence Keynes gave governments two tasks: to pump up the economy with air when it starts to deflate, and to minimize the chances of serious shocks happening in the first place.
Today, the first lesson appears to have sunk in: various bailout and stimulus packages have stimulated depressed economies sufficiently to give us a reasonable expectation that the worst of the slump is over. But, judging from recent proposals in the United States, the United Kingdom, and the European Union to reform the financial system, it is far from clear that the second lesson has been learned. A few cosmetic reforms, it now seems to be agreed, are all that is needed. This is to set the scene for the next crisis.
For thirty years or so after the Second World War, Keynesian economics ruled the roost, at least in the sense that Keynesian policy — trying to keep economies fully employed and growing on an even keel — was part of the normal toolkit of governments. Then it was thrown out, as economics reverted to its older doctrine that market economies were internally self-correcting and that it was government intervention which made them behave badly. The free-market era of Reagan and Thatcher dawned.
The story of the decline and fall of the Keynesian revolution, and what has happened to economics generally, is a fascinating intellectual detective story in its own right, which charts the trajectory from President Nixon's 'We are all Keynesians now' in 1971 to Robert Lucas's 2009 remark 'I guess everyone is a Keynesian in the foxhole.'
The decline of Keynesianism is a key theme of this book, because I believe with Keynes that ideas matter profoundly, 'indeed the world is ruled by little else'.2 I therefore believe that the root cause of the present crisis lies in the intellectual failure of economics. It was the wrong ideas of economists which legitimized the deregulation of finance, and it was the deregulation of finance which led to the credit explosion which collapsed into the credit crunch. It is hard to convey the harm done by the recently dominant school of New Classical economics. Rarely in history can such powerful minds have devoted themselves to such strange ideas. The maddest of these is the proposition that market participants have correct beliefs on average about what will happen to prices over an infinite future. I am naturally much less critical of the New Keynesian school, which disputes the terrain of macroeconomics with the New Classicals, but I am still quite critical, because I believe that in accepting the theory of rational expectations, which revives in mathematical form the classical theory which Keynes rejected, they have sold the pass to the New Classicals. Having swallowed the elephant of rational expectations, they strained at the gnat of the continuous full employment implied by it, and developed theories of market failure to allow a role for government.
The centrepiece of Keynes's theory is the existence of inescapable uncertainty about the future. Taking uncertainty seriously — which few economists today do — has profound implications not just for how one does economics and how one applies it, but for one's understanding of practically all aspects of human activity. It helps explain the rules and conventions by which people live. I lay particular emphasis on its implications for how the social sciences should use language.Keynes always tried to present his essential thoughts — which he called 'simple and . . . obvious' — in what may loosely be called high-class ordinary language. This was not just to amplify his persuasive appeal, but because he thought that economics should be intuitive, not counter-intuitive: it should present the world in a language which most people understand. This is one reason why he opposed the excessive mathematicization of economics, which separated it from ordinary understanding. He would have been very hostile to the linguistic imperialism of economics, which appropriates important words in the common lexicon, like 'rational', and gives them technical meanings which over time change their ordinary meanings and the understandings which they express. The economists' definition of rational behaviour as behaviour consistent with their own models, with all other behaviour dubbed irrational, amounts to a huge project to reshape humanity into people who believe the things economists believe about them. It was consistent with Keynes's attitude to language to prefer simple to complex financial systems. He would have been utterly opposed to financial innovation beyond the bounds of ordinary understanding, and therefore control. Complexity for its own sake had no appeal for him.
From the book "Keynes" by Robert Skidelsky. Reprinted by arrangement with PublicAffairs (www.publicaffairsbooks.com), a member of the Perseus Books Group. Copyright (c) 2009.