1. Presented by :
Ajinkya Badwe PH 0901
Alok Kalgi PH 0902
Amit Palande PH 0903
Aniket Kulkarni PH 0904
Anoop Kr. Singh PH 0905
Tushar Paul PH 0949

2. Introduction
 Keynesian Economics is a macroeconomic theory based on
the ideas of the 20th century economist John Maynard
Keynes
 He provided the framework for synthesizing a host of
economic ideas present between 1900 and 1940
 The theories forming the basis of Keynesian Economics
were first presented in “The General Theory of
Employment, Interest and Money”, in 1936

3. Advocacies
 Keynesian Economics advocates a mixed economy –
predominantly private sector, but with a large role of the
government and the public sector
 It argues that private sector decisions, sometimes, lead to
inefficient macroeconomic outcomes
 Therefore, the Government and the Central Bank must
exercise control with effective monetary and fiscal policies

4. Milestones
 Keynesian Economics served as the economic model
during the latter part of the Great Depression, at the end of
World War II, and during Capitalism (1945 – 1973)
 This theory is somewhat of a middle way between laissez-
faire, capitalism and socialism
 During the recent economic crisis, this theory provided the
underpinnings for the plans to rescue the world economy

5. Overview
 In Keynes’ theory, some micro-level actions of individuals
and firms can lead to aggregate macroeconomic outcomes,
where the economy operates below its potential output and
growth
 Keynes contented that the aggregate demand for goods
might be insufficient during economic downturns
 This may lead to unnecessarily high unemployment and
loss of potential output

6. Solution
 According to Keynes, the solution to depression is to
stimulate the economy
 Induce investments through a reduction in interest rates
and government investment in infrastructure
 These steps would, in general, result in more liquidity in
the system, leading to increased demand and production
( the initial investment leads to a cascade effect )

7. Neo-Keynesian Economics
 Neo-classical theory supports that the two main costs that
determine the demand and supply are – labour and money
 Through the distribution of monetary policy, demand and
supply can be adjusted
 If labour is more than the demand, then wages would fall
until hiring began again
 If there is too much saving, then the interest rates would
fall until people cut their savings rate or started borrowing

8. Wages and Spending
 The high unemployment during the Great Depression was
due to high and rigid real wages
 Keynes argued that – it is the nominal wages that are
negotiated between the employers and employees
 People will resist any nominal wage reductions, until they
see other wages falling and a general reduction in prices

9. Wages and Spending
 Real wages can be reduced in two ways :
- Nominal wages can be reduced
- Price level can rise
 However, reduced wages can lead to reduced aggregate
demand, making the situation worse
 Similarly, when prices are falling, people would expect
them to fall further

10. Say’s Law
 If the expansion of
aggregate demand leads to P
AD AS
higher employment, then
prior to the expansion
involuntary
unemployment must have
prevailed.
yf y
 This amounts to a
refutation of Say’s Law
based on asymmetry of
wage and price responses.

11. Some Accounting
Assume a closed economy:
• Output = Aggregate Expenditure = National Product
Y = E = C + I + G = C + Ir + G
• But Y is also income, and from income we purchase
consumer goods (C), save (S), or pay taxes (T), so
Y=C+S+T
• So that
C+S+T=C+I+G
Or
S+T=I+G
• Which means that saving and taxes paid by the public
must finance investment and government spending.

12. Is Consumption related to
Income?
7000
6000
Consumption
5000
4000
3000
2000
1000
0
0 2000 4000 6000 8000 10000
Real GDP
U.S. Annual Data, 1929 - 2001

13. Excessive Saving
 Excessive savings (i.e.. savings beyond planned
investments), could encourage recession
 Excessive savings are the result of falling investments, over
investments in earlier years, or pessimistic business
expectations
 If savings did not fall immediately in step, then the
economy would decline

14. Explanation
Assume that fixed investment falls :
i. Saving does not fall as much as the interest rates fall
ii. Planned fixed investments are made on long-term
expectations, spending does not rise as much as the
interest rates fall
iii. The supply of and demand for the money determines the
interest rates, in the short run
iv. Excessive saving corresponds to unwanted accumulation
of inventories, called “ general glut “

15. Fiscal Policy
 Keynes’ theory suggested that active government policy
could be effective in managing the economy
 He advocated countercyclical fiscal policy – deficit
spending (fiscal stimulus) when the nation’s economy is in
recession
 The argument is that the government should solve
problems in the short run

16. Plus Points
 This response should be adopted only when the
unemployment rate is persistently high
 Here, “crowding out” is minimal, raising the business
output, cash flow, profitability and business optimism
 Government spending on infrastructure would be
beneficial in the long term

17. Multiplier effect
 Exogenous increase in spending, such as an increase in
government outlays, increases total spending by a multiple of
that increase
 Government could stimulate a great deal of new production if-
i. The people who receive this money spend most on
consumption, and save the rest
ii. This extra spending allows businesses to hire more people, in
turn increase consumer spending

18. Result
 This process is continuous
 At each step the increase in spending is smaller than in the
previous step, thus reaching equilibrium
 The rise in imports and tax payments at each step reduces
the amount of induced consumer spending and the size of
the multiplier effect

19. Interest rates
 By this theory, the amount of investments was determined
by long-term profit expectations, and less by the interest
rates
 This facilitates the regulation of the economy through the
monetary policy
 This approach would be effective during normal times to
stimulate the economy

20. Main Theories
The two key theories of mainstream Keynesian economics are
:
I. The “ IS – LM Model “ of John Hicks
II. The “ Phillips Curve “

21. IS – LM Model
 It was with John Hicks, that Keynesian Economics
produced a clear model to determine policy and economic
education
 Aggregate demand and employment are related to three
exogenous quantities :
i. The amount of money in circulation
ii. The government budget
iii. The state of business expectations

22. Phillips Curve
 Phillips curve indicated that decreased unemployment
implied increased inflation
 Keynes had predicted that falling unemployment would
cause a higher price, not a higher inflation rate
 The economist could use the IS-LM model to predict that
an increase in money supply would raise output and
employment
 Then use the Phillips curve to predict an increase in
inflation

23. - John Maynard Keynes

24. Thank You