Question

After defining what is the "Keynesian revolution" and the contributions of "The general theory of employment, interest and money" by Keynes, you will explain how this revolution gave rise to "Keynesianism" and to "the new Keynesian macroeconomics" by explaining the continuities and discontinuities.

Important: During your dissertation you will also explain in what context these theories have evolved in view of the economic situation and economic history. You will mention the main authors and concepts.

You will make a plan (introduction, development, conclusion) by explicitly putting the titles of the parts and the sub-parts.

Answer 1

لر (1936) advocates use . AD. . 02 • John Maynard Keynes: "The Geurial Theory of Employment, interest and money Keynesion revolution unemp is a result of deficient aggregate demand Keynes of fiscal I monetary policies to regulate At As pee classicals like Maushall, the care knowledge would ? the skills of 2 firms would take better pudh decisious → I in unemp. [ But nothing concide in classical's reasoning? * As per ©, fiscal policy didn't affect AD- • Keynes among " heities" to © Undercup. is the capitalist economy theory. was the a normal feature of short un income l'output : Simple Keynesian . asumu +9] Closed eco CE Y Model: Detamination of eap. Y = AD (output equal to AD) (40p) consumption demand business investment demand Y = AD = 'C+I+ gout. sector demand ceri condition aggigate Prece level closed economy is fixed Assu sumptions Depreciation is also real neglected G all variables are real & changes in feines C+ s +T y = includes taxes 2 = C+5+T у AL const savings paici Using o !, = AD = C+I+G S&T = It al-( leakages ( deakages & injections) Circular flow of income i Neational income (4) Households (Business secta Consumption() Savings financial Met! Investment (1) Tamu (T) spending Govi [Gout sector 79) CS Scanned with CamScanner

AD : Hansen: Cons: 6 Keynes to tonomic where bi abordute . income Components of AD epoch mal Theory (1) Consumption (G) :: indered epp. of AD ie defendent on y. largest component of AD Keynes believed that level of consumer exp was a stable f of disparable to Yo - Ý - law Theory of cons" by Keynes is also known as psychological of C hypothesis , absolute Y theory of c. * expeers c-y relationship it is the curent level anong income that determine of 'consumption of an individual - ie absolute size of camenty 675,cy According to law, as Y i, ca but not as musch 7 in Y ie OCHRE consumption of C= a + b Yo when a so ob</ all the factors the b-MPC - AC AY . 2 autonomous с MPC/slobe 10 Cronby ** 90-Y a o s strings at zur level of у Sbbel-b Stan+11-6% APC falls A as S=0 at higher و با ۷ The C tung also explains the saving income relationship as Y=c+s . what is not consumed i saved. :, having function is expirned as S = -a +(l-by MPS i Slobe of AS ду os écrasepti income 'Yo al rises iec does not have prop (while ApS reses with tiny.) relationship with Y. (rich saver more APC is always > MPC at different APC CA y levels. a+by, Yo + MPC, ;., APC >MPC [MPLIMP -1] Consumption = f (You x,,F2, % - Xm) where x, X2 In are objective and subjective factors which are contant in short un. * Objective factors = (1) size 1 stack of wealth - greater the wealth - greate the (6) in Pain level / Rul Balena (2) Nature of wealth monetary and Het was puthasing power higher be higher (3) Rete interest (High (1) Mondiay Fairy vedit conchitigno, ir low savings mouc Consumu indebtedness i (4) Distübution wealth & Y ( equal APC will be high) ...de with (5) Gaul fiscal Policy: taxes You ct. scanner a+b a APC will woul of MPcs) Ceasy cuda of increases in mertninition

I constant » Ingrid > Instinct > > 4.65 Co by > queu Subjective fay friers, ? Propensity of precaution of independence & power Instinct of far-sightedness of impurement > Instinct % calculation Instinct of pride > Instinct of enterprise Instinct miseliness. Consumption 64 puzzle :: by APC empirical study of long term time series data of us eco for the period 1869-1 by Kuznets estimated a cons" th which contredicted Keynes cons 6 » Kuznets found though the y Ped atleast 4 times but APC remains fair constant i stable which is against of keynes as Consumption të puzzle > Kuquets $1: C = by ( no intercepta) estimated MPC = 0.9 as Yn. > APC remars constant as Y T O MPC <1 > APC = MPC APC MPC > no autonomous con" > based on cross sectionale cyclical data > MPC is > shart un contoh > based on secular time suces déta, > There exists autonomous connä long un cont the idea of ting APC known Раг 7 to > APC falls A > compacitively higher > for income I (2) Investment Demand (I) autonomous exp of aggregate demand ie independent of y. & unstable fn. Keynes believed that I is the most highly variable of the autonometu components of AD ( independent of y) which is the reason instability. f ( MEG, rate of interest) where MEC = expected rate of/ state business expectations to I in short mun] a given investment. Inv. is inversely related to noi similar to the views of 0. uncertain knowledge The expectations about it au based on These expectations with time I hence inu demand is 'unst may change because rate of int does not change much in SR. Pe sticky. • MEC = rate of discount which will equate the sum discounted pre (net) values expected stundannuuties, prospective yield from given investment to its supply puce over the life of a machine Supply price Discounted prospective yields S R + R₂ + R₂ Ry where r = nat ith (Ita)2 (1+) (1+ija + Line, i render the annual prospective yield equal to supply perce it the presents the MEC of of a disc Cs awet, scanner

Interest ie the mou the elasticity general form of the marginal efficiency of that an Marginal efficiency of repital investment ( mers is At a particular time in econony particular capital asset which yields the greatest rate of profit. → Downward sloping MEC clave shows ins. demand cause. • Ea level of inu will be established where As investment in MEC falls : > MEC/ naked intal MEC = given cunosis 1 note interest. ?TIN of . MET > role ) of in I. I in involwels. S. Cudit. for an inv. to be profitable of inu demand about large changes cuve the A in n.o i will being DMEL shifts Invaun Changes in MEC & shifts in inv. demand clave : la in MEC due to a in expectations about prospective yield; optimistic epp shifts MEC rightward at the same to.it e opposite for pessimista expectations. Keynes tumed it animal spirits' Expected demand for product or cons? exp. 1 in C expected in future a in demand for products 3. level of income (cument I future income) 4. Technology & Innovations. Usee cost of k: low use cost meaus high expected return from inv. 6. Availability of cuda [ * Investment detamines y which then determines savings - (3) Gout spending & Taxes : gout spending controlled by policy maker of does not depend on Y - autines expenditure of aggregade Lenard a policy variable controlled by policy maker. -vary with Y of equilibrium income: (11 Asary * At y level less than eqode say shortfall as desired inu will exceed 3174 output to rise. dency of my fiscal Paling • T. * Determination G Y equilibuum AD=C+I+G AD > Y E unintended inventary -Cearby actual invol hence, tenden sy Ý = / autonomous autonomo = injections) S+T Cleakages → 1 (0-bT +1+4) GYI 24 |-b HG →y y C5 Seanned with CamScanne

Keynes Theory of Employment : Principle of Effective Demand: • AD 1 As determine ea level of emp. Aggugati Supply 67 shores relationship b/w number of workers employed and the aggregate supply pure at different levels of weld employment As depends upon - physical & technical conditions of production (ie stock of Capital, state of tech, nature of prod" 6") which remains constant in SR. • As slopes upward - assumed constant by Keynes When Yf is achieved & every p in AD causes causes just p in P & non in eup, As should be increased by improving the physical & technical condition :. As shifts right a erflationary gap can be connected As becomes veutical at Yp of kood" CS Scanned with Cam Scanner

AS demand (aggi patt Demand 67 f (c, I,4, TX-M)) Ea ak E where there is effection demand pria E is under cup ea, AD, fin I AD to AD, NE Reuilles ugg supply peice) DD, deficiency of a enempi a) Unemp . then . Thuet reasons why wages au to have stable valen Okun: Lakt. functious by the invisible handshake more than the invisible hand. Money-Wage Rigidity :(labau mkt. does not clear in shot wn) -results in inud is downward inflexibility of money wages rigid / sticky :-( downward rigidlity) (0) Money illusion : workers fall to realise that value of money, ie the purchasing power in tens of goods, changes when puce rise- egoud worly to workers will resist a reduction in money wages why money illusion exists? > workers consides rise in pece as a result of large economic for interactions and comfortable in falling seal wages vis-a-vis fall in money wage. > Each waber usually considers his y relative to other workey working in diff. Industics us, they oppose fall in money in real wages wages they feel that happers so no problem (b.) wage fixation through contracts by firms laws. (C) Minimum wage (d) Efficiency wages are maintated by employees. despite the excess supply of waga maintained higher but fall for others as wel in market au to mkt. wag 1 Prill AS lobor unub E. P wo .ADO demored lobou Y % ani ) Keynes accepted © view that en=f(u) Initially, eq. output oyo , eq pulu opo & in laba mibt eq. emp: Ono rate waze Duuntod nimilou Be -> VI I AD to AD, OY to Oy, Pyto op, WA too CamScanner : Wo Po Р

theu occus Investment is is not much interes elastic liquidity hap- ndovet polic Mal suflety elastic you can to As = Y AD AS AD 9 AD world won' P L full empeq. Income As pu ©, there is self couecting mechanism by which inflation > Problema due to fall in AD 1 flexible prices invel- unemp. in I mb money wages fixed at wo. Keynes relied on fiscal policy & considered monetary policy less impa -ful@ time of depression Imp. rguments money does not matter? against monetary bring have to water but cannot make it dink] regardi Keynes principle of effective demand : ED = that AD at which it is equal > determines eq. emp.d income in sr. . CONCEPTS of Inflatimany t Deflationary Cabs! inflationay Only use in nominal GDP due to Pin Prices I real 4DP remains the sam, explained by Keynes during Trud inflationary gap implies heu demar fell inflation! "Output/ YE "There is too much demand chasing Nominal app by multiple times too little supply." Demand-pull inflation : Kexplained by ®) Priced • Upto Yfi As is horizontal Any equality of AD- As after if PL means p in Prices only As becomes vertical ut You Rise of P to op Demand pull inflation When AD be cured Tin P Purchasing act II ADI I hence exus demand get eliminated l again stable prices achieved in © view as. Real dalanu effect. not so sheng reduu AD C Č is too weak to climbinats • How to eliminate inflatiemary Gap? leads to wage puce speral. ib gapi Redere. As by, cuting down gespecially, now - blamed estou, -planned exps., imposing texes infoscal deficit (ault-Inflationary AS En → O P = Po- AD2 ADO ADI = AS 2 Income 0 to

é Tinc • light monetary policy Reflationary gap? deficient AD » © believed that vin pe wages - Pin De but Keynes proposed augument of money wages rigidity iu downw and →l in cost of due to low hiring wakes diuction and pece . in AD Imp. Go Keynes theory of money & prices: AMS > AP via A in nate of int. There is no direct a peopectional relationship blw quantity of money level BM broit TI » TADB> lt Paice (.:, relation is indiret) Change peice is mediated through only. saw the integrated diagram of goods 1 money mkt + the diagram bel Iup.* Rise in P due to a in AD depends upon the nature of As cive M, (supply of money) ng to M₂ >ry I - ADTH A-D2 → Output y, Price 1 AS AD, PR3 (13) ADIM) tontinues O Keynes view What causes Depussion & involuntary unemployment ? • New: Piguo : Go or unemp. is due to the high wage rates kept by trade unions l gost. I suggested all could cut in wages to a emp. & fremove ab. explained the reason I suggested effective policy measures in his book. Acc to him, cause of depression / unemp. = shaupt in puvate I due to adverse business expectations about hiss um an - les tuan Y Cbasically due to deficient AD) Animal spirits of pessimism & optimism about to making causing fluctuel & I - AD to AD's y by solution fiscal Policy PMP s ineffectiv spiut during depression in Id waves in AD. As 1 due to multiple times AD AD animel AI I, Tour.. F matte" you can money does not being house • wew; challenged by book - " A Monetary Mastery of us", 19 63. Reason for depression & lack Meesanreation of 90. of mp. money alone matley Conclusion: FP & MP au complementary to each other, balancing act should be done. CS CamScanner

AD There is line Classical new utilized by - This was metcio им NEW KE Y AVESTAN ECONOMICS Keynesian Are todo en lasly ® : wagest prices do not change in short vin due to AB wage - peine stickiness SRAs auve is housental ©t saying that it is not based on strong foundations.je on national er maximising principle > New Ⓡ attempted to explain the reason behind price stickiness in short. with the help of mico economic theory -giving a fim theoretic base. Kaynesian New ®^ is based on imperfect competition unlike traditional ® which assumed perfect comp in haijoutal Door AR. Keynesian New ® vomodels based on optimal behavice of firms working rationally Keynesian Keynesian → Common elements in all New ® models : i assumption of imperfect comp. 2) focus is on pece stickiness as well as wage Ngidity 3) assumes stickiness of real variables like real . wages, relative puce levels in the face of change in AD 4) Output is demand determined. 5) wage rigidity unemployment real AD, real wa AB I empt of if wage rate is rigid vulp? more. > Maukin's New ® model :-). E Sticky wage model) imperfect coup like oligopoly, fiems teual to keep price constant even of changes. AR is 'chiruward sloping may by charging eame price whene Add but not all of them. why firms do not reduce peices when AD ? Mene costs have to be incurred to make adjustment in prices eg pinting catalogues, pure lists etc. Pice adjustments would occu only when gains > costs cutieged on there minimal effect Maukiu consider these as significant enough Demand externality : it occurs in the form of inweased demand for other flans when one firm reduces its peru. This reads to i in rating aggregate y by shifting LM rightwood benefit other firms. making cut prices even though socially desirable. . nd depends on caus when fum looses custome AD the new . Mene costs au On an ew level but Aggregate aug price level finns iguou this extunality while it is decisions and decides not to Scanned with CamScanner

due to pele ut. thames lead to higher pela cals by Other reasons for sticky peices: 1) Potential loss of consumer goodwill du 2) It may ivals - peiu wau every form - oligopolies mapaly oligopolis magly, high interdependence + no pelud If perces do not adjust do not adjust in response to Ain AD, the fluctuatious in deme cause business cycles in recessions, booms in the econoney Mathematical form: Yi = facing pic elastici demand When Ya = each firm o Y eyl (P) = relative price jea of demand Y = AD. Y=M M it AD is determined by real money supply ::, Y, Cb?() - . no Price Adjustment de Coordination failures : & in AD I not adjusting peli levels recession. • coadination in real world is often difficult because of frems setting prices is lage - leads to stickiness of prices of fims. There is uncutainity a fines auticipate the perce of other fines while own peice a wordination failure. selting 2. Efficiency wage model: au models in which labor productivity depends are the real wage that workers are paid. The real woge laba fe & set to maximize the efficiency of exp., not to clear tebal market. au mits of e= fleet real wage (worker efficiency) Yaf ( R, en) 0% o in ) o are set where % Aine (W) = 1 • optimum efficiency wages Rationale for offering officiency wages : (0) Shirking model with eff wages > than market devel-inceutive for waker not to shrik while in job. (6) Tinovu cost model: finnis can reduce quit rates this training co) Gift exchange improves morale, waipus put nie effort, Camsgift in tunes of high wage reciprocated by wabees by high Lost ） models: ) productie

due to pele ut. thames lead to higher pela cals by Other reasons for sticky peices: 1) Potential loss of consumer goodwill du 2) It may ivals - peiu wau every form - oligopolies mapaly oligopolis magly, high interdependence + no pelud If perces do not adjust do not adjust in response to Ain AD, the fluctuatious in deme cause business cycles in recessions, booms in the econoney Mathematical form: Yi = facing pic elastici demand When Ya = each firm o Y eyl (P) = relative price jea of demand Y = AD. Y=M M it AD is determined by real money supply ::, Y, Cb?() - . no Price Adjustment de Coordination failures : & in AD I not adjusting peli levels recession. • coadination in real world is often difficult because of frems setting prices is lage - leads to stickiness of prices of fims. There is uncutainity a fines auticipate the perce of other fines while own peice a wordination failure. selting 2. Efficiency wage model: au models in which labor productivity depends are the real wage that workers are paid. The real woge laba fe & set to maximize the efficiency of exp., not to clear tebal market. au mits of e= fleet real wage (worker efficiency) Yaf ( R, en) 0% o in ) o are set where % Aine (W) = 1 • optimum efficiency wages Rationale for offering officiency wages : (0) Shirking model with eff wages > than market devel-inceutive for waker not to shrik while in job. (6) Tinovu cost model: finnis can reduce quit rates this training co) Gift exchange improves morale, waipus put nie effort, Camsgift in tunes of high wage reciprocated by wabees by high Lost ） models: ) productie

o away value 3. Inside Outside Models & Hysteresis : - tem to describe situation of unemployment trap initial A variable exhibits hesterests of the when shocked from it showg no tendency to return even tendency to return even when the shock is over. Inside-outsider model provides one explanation of hysteresis in went insidey ( union membes) au only group that affects outsides ( who want job) do not Recessions cause insides to become outsides & after recession, with wage ises i unemployment pusists Cos Past uneup caus causes cement unieup by turning insiders into outsidey. CamScanner the real wage bougai D few insides the real

nominal wages au Sticky wage : all rigid due to Staggered contracts" which wage contracts that have different expiration dates for different groups of firms ie no e no synchronization of contracts. th) Sticky nominal prices au explained by nene costs Sticky real wages asymmeture into model simplicit contact theory, d.) Coordination failures у inside . ژی outside theay, efficiency wage theories SRAS SRAS Output somné