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Keynesian Economics

Reviewed by Annapoorna | Updated on Sep 30, 2020

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What is Keynesian Economics?

Keynesian economics is an economic theory of the economy's total spending and its effects on productivity and inflation. In the 1930s, John Maynard Keynes, a British economist, developed Keynesian economics in an attempt to understand the 'Great Depression'.

Keynes supported higher government spending and lower taxes to raise competition, and bring the global economy out of the crisis. Keynesian economics was subsequently used to refer to the idea of achieving maximum economic performance and avoiding economic slumps through manipulating aggregate demand by activist stabilization and economic intervention policies.

Keynesian economics is often referred to as "depression economics," since Keynes's general theory was formulated during a period of deep depression not only in his United Kingdom native land but worldwide. The famous book of 1936 was convinced by clearly observable economic anomalies that occurred during the Great Depression, which the classical economic theory could not understand.

Understanding Keynesian Economics

Keynesian economics offered a new approach to investment, production, and inflation. Classical economic theory previously held that cyclical fluctuations in jobs and economic output would be moderate and self-adjustable.

According to this ancient theory, if aggregate demand in the economy drops, a fall in prices and wages would precipitate the ensuing collapse in production and employment.

A lower level of inflation and wages will encourage employers to invest in resources and employ more people, stimulate job creation and restore growth. Nevertheless, this theory has been seriously checked by the magnitude and severity of the Great Depression.

In his popular book, 'The General Theory of Jobs, Interest, and Money and Other Works', Keynes has put across an argument. He states that structural rigidness and certain features of market economies would intensify economic instability during recessions and cause aggregate demand to plunge further.

Keynesian economics, for example, rejects some economists' notion that lower wages will restore full employment. It is done by claiming that employers will not motivate workers to produce goods that cannot be sold as demand is weak.

Likewise, poor business conditions will result in businesses cutting investment in resources rather than using lower prices to put money into new plants and equipment. That would also have the effect of reducing overall spending and employment.

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