Keynesian economics

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Keynesian economics

An economic theory of British economist, John Maynard Keynes that active government intervention is necessary to ensure economic growth and stability.
Copyright © 2012, Campbell R. Harvey. All Rights Reserved.

Keynesian Economics

A theory stating that government intervention is necessary to ensure an active and vibrant economy. According to this theory, government should stimulate demand for goods and services in order to encourage economic growth. It thus recommends tax cuts and increased government spending during recessions to reinvigorate growth; likewise, it recommends tax increases and spending cuts during economic expansion in order to combat inflation. Many economists believe that Keynesian economic theory is more efficient than supply-side economics, though critics point to the theory's inability to explain stagflation in the United States during the 1970s.
Farlex Financial Dictionary. © 2012 Farlex, Inc. All Rights Reserved


The view held by KEYNES of the way in which the aggregate economy works, subsequently refined and developed by his successors.

Much of what is today called Keynesian economics originated from Keynes’ book The General Theory of Employment, Interest and Money (1936). Keynes gave economics a new direction and an explanation of the phenomenon of mass unemployment so prevalent in the 1930s. Economic doctrine before Keynes was based primarily upon what is now termed MICROECONOMICS. Keynes switched from the classical concentration on individual prices and markets and individual demand functions to aggregate analysis, introducing new concepts such as the CONSUMPTION FUNCTION.

The classical economists argued (and were officially supported by the monetary authorities, up to the time of accepting Keynes’ arguments) that FULL EMPLOYMENT is the result of a smooth-working PRIVATE-ENTERPRISE ECONOMY. If UNEMPLOYMENT occurred, then WAGES would fall (because of competition in labour markets) to such an extent that unemployed labour would be re-employed (the neoclassical analysis that marginal productivity of labour would now exceed or equal its marginal cost). Keynes introduced the possibility of ‘rigid wages’ in an attempt to explain what was inconceivable to classical and neoclassical economists, general equilibrium within the economy at less than full employment.

Keynes argued that INCOME depends upon the volume of employment. The relationship between income and CONSUMPTION is defined by the PROPENSITY TO CONSUME.

Consumption, therefore, is dependent upon the interrelated functions of income and employment. Anticipated expenditure on consumption and INVESTMENT is termed AGGREGATE DEMAND and, in a situation of equilibrium, equals AGGREGATE SUPPLY. Keynes is of the opinion that, in a state of equilibrium, the volume of employment was dependent upon the aggregate-supply function, the propensity to consume and the amount of investment. The level of employment would therefore increase if either the propensity to consume increased or the level of investment increased, i.e. greater demand for consumer and producer goods leads to an increase in supply. Increasing supply tends to lead to higher levels of employment.

The difficulty of reducing wages (because of trade union pressure to maintain living standards) means that ‘rigidity of wages’, or WAGE STICKINESS, may lead to a situation of equilibrium at less than full employment. Where this occurs, the government, as a buyer of both consumer and producer goods, can influence the level of aggregate demand in the economy. Aggregate demand may be increased by FISCAL POLICY or MONETARY POLICY. Keynes placed the emphasis on fiscal policy whereby the government spends more on investment projects than it collects from taxes. This is known as DEFICIT FINANCING and stimulates aggregate demand when the economy finds itself in a condition of DEPRESSION. Through the MULTIPLIER effect, the stimulus to aggregate demand is a number of times larger than the initial investment. The effect is to move the economy towards a situation of full employment.

Certain Western countries began to question Keynesian economic ideas in the 1970s as they embraced MONETARISM and began to revert to the classical economic idea that government intervention is unnecessary and that markets can ensure prosperity, provided that market rigidities are removed. See EQUILIBRIUM LEVEL OF NATIONAL INCOME, BUSINESS CYCLE, CIRCULAR FLOW OF NATIONAL INCOME, CLASSICAL ECONOMICS, DEFLATIONARY GAP, MONEY SUPPLY/ SPENDING LINKAGES, QUANTITY THEORY OF MONEY, I-S/L-M MODEL, SAY'S LAW, INFLATIONARY GAP, SUPPLY-SIDE ECONOMICS.

Collins Dictionary of Economics, 4th ed. © C. Pass, B. Lowes, L. Davies 2005
References in periodicals archive ?
A succinct synopsis of fiscalism comes from Chang Fang-p'ing, finance commissioner between 1034 and 1038, whom Hartwell quotes: "If food and money are governed by the use of exchange values (ch "ing-chung), then the needs of the people will be satisfied, the requirements of the government supplied.
Using the notion of fiscalism we should also include all kinds of social insurance contributions and their derivatives in our research, as they also burden personal incomes and determine labor costs for employers (12).
Many politicians, he observed, were inclined to replace the old dogma of budget balance with a new one of spendthrift fiscalism. "IT]he long view tells me that while this may not be the road to ruin," Viner warned, "it at least blazes a trail to it." Id.
Fiscalism: A Reconciliatory Approach', The Indian Economic Journal, Vol.
Analyzing views on economic life--private and public property, free competition and central planning, fiscalism, accents on production and distribution--it is easy to note (particularly if we add the teachings of Pius XII and Gaudium et Spes and Octogesima Adveniens to our analysis) a shift away from recognizing the solutions and institutions traditionally connected with a capitalist economy, toward solutions connected with socialism.
(3) Or he may represent, as Walter Cohen has remarked, a "quasifeudal fiscalism," which would make him more a "figure from the past: marginal, diabolical, irrational, archaic, medieval," "an old man with obsolete values trying to arrest the course of history." Antonio, by contrast, emerges "as a special instance of bourgeois mercantilism, a harbinger of modem capitalism." (4) In any case, in The Merchant of Venice, Shylock, Jew, and usurer emerge as synonymous opprobrious terms.
Like Keynesianism, fiscalism, or the "Treasury view," the particular set of propositions called monetarism does not fully describe the body of thought accepted by a loosely knit group of practicing economists any more than terms like Chicago, Cambridge or Austrian School describe the thought of all to whom the terms are applied.
(3.) Ellis's work (for example Ellis 1951) consistently indicates that he believed fiscalism had dominated Keynesian economics in the United States during the 1940s.
After the collapse of Keynsian fiscalism, caused by active state intervention, inefficiency, and corruption of the governments, the initial paradigm, of demand-and-supply-based market equilibrium has now been resurrected.
Peter Taylor's book examines the social ramifications of Hessian "military fiscalism" and the "tyranny" it imposed on some Germans for the sake of English "liberty." As Taylor rightly argues, foreign military subsidies from 1689 on made the Hessian princes largely independent of their parliament, while England used Hessian subsidy troops to spare herself a standing army which would have threatened the parliamentary liberties achieved in 1688.
Fiscalism was the third of the economic policies adopted.