1929 full employment. Accordingly, states should never

1929 economic crisis, which is
generally called as Great Depression, had upset the balance of world economic
order. Until the depression, classical liberal economic                                  theories were
dominating World order. Classical economics is a supply oriented theory,
claiming that whatever the level of supply, it is going to create its own
demand in the market. If the free market determines the levels of prices,
economy will always be in the situation of full employment. Accordingly, states
should never interfere in the market. Prices are flexible, which provides the
full employment balance. Increasing wages will lead demand for labor to fall, the falling
demands will cause wages to decrease again and it will cause increasing demand
for labor and employment automatically. Selfish behaviors of the actors in the
market will provide benefit to all people in the market.1

Classical theory had firstly faced
with a crisis that stated in 1870’s then it managed to survive by transforming
to neoclassical theory. In this way, it maintained its domination on the global
economic conjuncture until 1929 Great Depression. The crisis refuted a lot of
thesis of Classical Liberalism. Non-interference of states was creating so much
inequality. Banks were structured weakly, their capital and credit principles
were unclear. In USA where the depression broke out, banks could not recover
the credits they had lent. As a result of these conditions a lot of banks went
bankrupt, so many people become unemployed. Fail of classical liberals forced
states to get involved in ending Great Depression.2        

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In all these circumstances, new
economical approach of John Maynard Keynes appeared on the world stage with his
book The General Theory of Employment, Interest and Money. His suggestions for
world economic order is named as Keynesianism. Theory of Keynes mostly contains
short-run measures in order to overcome the crisis. Future vision of Keynes was
so similar to classical theory. But he generated a theory that concentrates on
solving issues of its period. He called himself a liberal democrat. He was
opposed to Soviet Regime that was affected from Great Depression least. We can
also accept that Keynes offered his theory related with his fear that the
people can shift to Nazism and Fascism during these drastic depression period.3  

 

Keynesianism

In contrast to Classical Theory,
Keynesianism is a demand-side economic theory. His observation on Great Depression
arose from the lack of ability to boost the aggregate demand. During the crisis
period, economy could not achieve full employment balance, the supply could not
create its own demand. At this point the main argument of Keynesian theory on
economic crises is that economical shrinkages are generally arisen from the
huge drops in the demand. Aggregate demand refers to sum of all consumptions,
investments and public expenditures.4 In his opinion, state should
increase the aggregate demand by applying some fiscal and monetary policies.
Decline in demand will naturally reduce the flow of resources to service and
production of goods, which may damage employment and increase inflation.
Natural changes in the prices, wages and interest rates cannot solve the
problems in the short run, then the harms which is occurred in the short run
can give a rise to bigger devastation in the long run. Keynes clarified his
pessimism for the future with these sentence ”In the long run, we are all
dead”5

According to Keynes, the reasons of
recession and unemployment are occasionally the measures that people take to
avoid them. If households want to save more than firms’ investment desires,
output and employment levels in the economy will decrease. Increasing savings
or declining spending can lead to unemployment. Nowadays we witness the same
circle since 2008 global crisis. Each crisis forced states to apply monetary
and fiscal policies as Keynes argued for state intervention. States manage
their monetary policies through central banks.6

Another factor that Keynes differs
from classical liberals that his thesis on price flexibility. Keynes claims
that prices and wages are sticky in the short-run. That means have resistance
to change, to scale up and down in accordance with the conditions of the
market. They can only become flexible in the long-run.7 An example can prove that assertion
of Keynes is right. For instance, a company’s incomes and costs can fluctuate day
by day. Although the fluctuation always exists, the companies do not change the
price of the products they sell or the wages of their employees. The wages are
adjusted annually in general, prices are not changed day by day. They are
generally adjusted once or a few times in a year. As the basic theory of
economy is that there are inverse proportion between money supply and interest
rates in the short run. Keynes suggests that states should manipulate the interest
rates and exchange rates in the short run for promoting economic growth and
beware of crises.

Central banks make effort to
determine the interest rates with open market operations, credit operations or
regulating required reserve ratio. Central banks influence exchange rates by
controlling money supply. Exchange rates are determined in the free market,
central banks can supply or accumulate liquidity to manipulate exchange and
interest rates.8 

 

Welfare State

Actually, Keynesianism and welfare
state notion can be identified with each other. Because welfare state concept
came into prominence with Great Depression, just like emergence of Keynesianism.
Welfare state can be defined as the concept of government policies that considers
some specific services like sheltering, health, education etc. as basic rights
of their citizens and provide these services without requiring any payments and
without any discrimination. Welfare state stands between free market capitalism
and socialism. One reason that welfarism was implemented is the concerns in
liberal states to experience a shift to communist Soviet ideology in their
population. Today welfare state regime is most successfully applied in
Scandinavian countries (Sweden, Norway) and some other states like Germany,
Canada.9

Keynes supported state participation
in the economy to increase the prosperity of the people. He claimed that
state’s assistance to the private sector causes recoveries in all components of
country. He explained this with ”multiplier effect”. According to Keynes, if
state supports companies by decreasing taxes, protecting domestic area with
custom tariffs, this will create good results for labor, customers and other
actors in economy.10

Bretton Woods System

The reason that Keynesianism has been still so
popular is Keynes is one of the founders of Bretton Woods, international
monetary system. In 1944, some international organizations such as IMF-International
Money Fund and World Bank was founded. Counterparty states agreed on common
monetary order, they accordingly indexed their currencies to US Dollar which
was indexed to gold. This agreement disbanded in 1971 due to devaluation of
Dollar, but the institutions (IMF, World Bank) still exist and effective on World
economy.11   

1929 economic crisis, which is
generally called as Great Depression, had upset the balance of world economic
order. Until the depression, classical liberal economic                                  theories were
dominating World order. Classical economics is a supply oriented theory,
claiming that whatever the level of supply, it is going to create its own
demand in the market. If the free market determines the levels of prices,
economy will always be in the situation of full employment. Accordingly, states
should never interfere in the market. Prices are flexible, which provides the
full employment balance. Increasing wages will lead demand for labor to fall, the falling
demands will cause wages to decrease again and it will cause increasing demand
for labor and employment automatically. Selfish behaviors of the actors in the
market will provide benefit to all people in the market.1

Classical theory had firstly faced
with a crisis that stated in 1870’s then it managed to survive by transforming
to neoclassical theory. In this way, it maintained its domination on the global
economic conjuncture until 1929 Great Depression. The crisis refuted a lot of
thesis of Classical Liberalism. Non-interference of states was creating so much
inequality. Banks were structured weakly, their capital and credit principles
were unclear. In USA where the depression broke out, banks could not recover
the credits they had lent. As a result of these conditions a lot of banks went
bankrupt, so many people become unemployed. Fail of classical liberals forced
states to get involved in ending Great Depression.2        

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For You For Only $13.90/page!


order now

In all these circumstances, new
economical approach of John Maynard Keynes appeared on the world stage with his
book The General Theory of Employment, Interest and Money. His suggestions for
world economic order is named as Keynesianism. Theory of Keynes mostly contains
short-run measures in order to overcome the crisis. Future vision of Keynes was
so similar to classical theory. But he generated a theory that concentrates on
solving issues of its period. He called himself a liberal democrat. He was
opposed to Soviet Regime that was affected from Great Depression least. We can
also accept that Keynes offered his theory related with his fear that the
people can shift to Nazism and Fascism during these drastic depression period.3  

 

Keynesianism

In contrast to Classical Theory,
Keynesianism is a demand-side economic theory. His observation on Great Depression
arose from the lack of ability to boost the aggregate demand. During the crisis
period, economy could not achieve full employment balance, the supply could not
create its own demand. At this point the main argument of Keynesian theory on
economic crises is that economical shrinkages are generally arisen from the
huge drops in the demand. Aggregate demand refers to sum of all consumptions,
investments and public expenditures.4 In his opinion, state should
increase the aggregate demand by applying some fiscal and monetary policies.
Decline in demand will naturally reduce the flow of resources to service and
production of goods, which may damage employment and increase inflation.
Natural changes in the prices, wages and interest rates cannot solve the
problems in the short run, then the harms which is occurred in the short run
can give a rise to bigger devastation in the long run. Keynes clarified his
pessimism for the future with these sentence ”In the long run, we are all
dead”5

According to Keynes, the reasons of
recession and unemployment are occasionally the measures that people take to
avoid them. If households want to save more than firms’ investment desires,
output and employment levels in the economy will decrease. Increasing savings
or declining spending can lead to unemployment. Nowadays we witness the same
circle since 2008 global crisis. Each crisis forced states to apply monetary
and fiscal policies as Keynes argued for state intervention. States manage
their monetary policies through central banks.6

Another factor that Keynes differs
from classical liberals that his thesis on price flexibility. Keynes claims
that prices and wages are sticky in the short-run. That means have resistance
to change, to scale up and down in accordance with the conditions of the
market. They can only become flexible in the long-run.7 An example can prove that assertion
of Keynes is right. For instance, a company’s incomes and costs can fluctuate day
by day. Although the fluctuation always exists, the companies do not change the
price of the products they sell or the wages of their employees. The wages are
adjusted annually in general, prices are not changed day by day. They are
generally adjusted once or a few times in a year. As the basic theory of
economy is that there are inverse proportion between money supply and interest
rates in the short run. Keynes suggests that states should manipulate the interest
rates and exchange rates in the short run for promoting economic growth and
beware of crises.

Central banks make effort to
determine the interest rates with open market operations, credit operations or
regulating required reserve ratio. Central banks influence exchange rates by
controlling money supply. Exchange rates are determined in the free market,
central banks can supply or accumulate liquidity to manipulate exchange and
interest rates.8 

 

Welfare State

Actually, Keynesianism and welfare
state notion can be identified with each other. Because welfare state concept
came into prominence with Great Depression, just like emergence of Keynesianism.
Welfare state can be defined as the concept of government policies that considers
some specific services like sheltering, health, education etc. as basic rights
of their citizens and provide these services without requiring any payments and
without any discrimination. Welfare state stands between free market capitalism
and socialism. One reason that welfarism was implemented is the concerns in
liberal states to experience a shift to communist Soviet ideology in their
population. Today welfare state regime is most successfully applied in
Scandinavian countries (Sweden, Norway) and some other states like Germany,
Canada.9

Keynes supported state participation
in the economy to increase the prosperity of the people. He claimed that
state’s assistance to the private sector causes recoveries in all components of
country. He explained this with ”multiplier effect”. According to Keynes, if
state supports companies by decreasing taxes, protecting domestic area with
custom tariffs, this will create good results for labor, customers and other
actors in economy.10

Bretton Woods System

The reason that Keynesianism has been still so
popular is Keynes is one of the founders of Bretton Woods, international
monetary system. In 1944, some international organizations such as IMF-International
Money Fund and World Bank was founded. Counterparty states agreed on common
monetary order, they accordingly indexed their currencies to US Dollar which
was indexed to gold. This agreement disbanded in 1971 due to devaluation of
Dollar, but the institutions (IMF, World Bank) still exist and effective on World
economy.11   

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