Fundamental Differences between Keynes and Classical Economists

The main points of contrast between the Keynesian and Classical theories of Income and Employment are discussed in brief as under.

1. UNEMPLOYMENT:

The classical economists explained unemployment using traditional partial equilibrium supply and demand analysis. According to them unemployment results when there is an excess supply of labour at a particular higher wage level. By accepting lower wage, the unemployed workers will go back to their jobs and the equilibrium between demand for labour and supply of labour will be established in the labour market in the long period. This equilibrium in the economy is always associated with full employment level. According to classical economists unemployment results when the wage level of workers is above the equilibrium wage level and as a result there of, the quantity of labour supplied is higher than quantity of labour demanded. The difference between the two (supply and demand) is unemployment.

J. M Keynes and his followers, however reject the fundamental classical theory of full employment equilibrium in the economy, they consider it as unrealistic. According to them full employment is a rare phenomenon in the capitalistic economy. The unemployment occurs they say when the aggregate demand function intersects the aggregate supply function at a point of less than full employment level. Keynes suggested that in the short period, the government can raise aggregate demand in the economy through public investment programmes to reduce unemployment.

2. SAY’S LAW OF MARKET:

Say’s Law “Supply creates its own demand” is central to the classic vision of the economy. According to say the production of goods and services generates expenditure sufficient to ensure that they are sold in the market. There is no deficiency of demand for goods and hence no need to unemploy workers. According to him full employment is a normal condition of market economy.

J. M Keynes has strongly refuted. Say’s Law of Market with the help of effective demand. Effective demand is the level of aggregate demand which is equal to aggregate supply. Whenever there is efficiency in aggregate demand a part of the goods produced remain unsold in the market which lead to general over production of goods and services in the market. When all the goods produced in the market are not sold, the firms lay off workers. The deficiency in demand for goods creates unemployment in the economy.

3. Equality between saving and investment:

Classical economists are of the view that saving and investment are equal at the full employment level. If at any time flow of savings is greater than flow of investment, then the rate of interest declines in the money market this leads to an increase in investment. The process continues till the flow of investment equals the flow of saving. Thus according to the classical economists, the quality between saving and investment is brought about through mechanism of rate of interest.

J.M.Keynes is however of the view that equality between saving and investment is brought about through changes income rather than the changes in interest rate.

4. Money and prices

The classical economists are of the opinion that price level varies in response to changes in the quantity of money. The quantity theory of money seeks to explain the value of money in terms of changes in its quantity. J.M.Keynes has rejected the simple quantity theory of money. According to him if there is recession in the economy and the resources are lying idle and unutilized an increased spending of money lead to substantial increase in real output and employment without affectively price level.