An Introduction to Keynesian Economics

Published in 2021

Introduction

This short paper engages in a discussion on Post Keynesian economics, with particular regard to the experiences of the writer during his stint as part-time investment advisor at a well known London headquartered financial institution.

Experience in Investment Banking

I have, in my assignment with a London based investment bank, spent time in the investment banking division of the organisation. The bank provides several investment products, including traditional equity and bond funds, hedge funds and commercial real estate investment opportunities for its clients. My job entailed the understanding of these investment opportunities and assisting my seniors in helping our clients with their investment decisions.

We discussed with our clients about their investment priorities, helping them thereafter to choose the investments that matched their needs and in planning their investment strategies. Some investments, for example, provided regular returns and suited income-seeking investors, whereas others appreciated in value over time and were suitable for clients who desired to increase their overall wealth. We also used to differentiate investments on the basis of risk, often counselling clients to select the investment that had low risks but still offered potentially higher returns than were available in ordinary deposit accounts, our bank by and large provided clients with help in choosing investments for four types of objectives, namely income, growth, security and retirement.

My experiences in the bank helped me to combine my academic knowledge with actual implementation of investment options and assisted in the achievement of a more comprehensive understanding of diverse economic concepts, including Keynesian, New Keynesian and Post Keynesian economics. This short study focuses on the importance of Post Keynesian economics in the contemporary environment.

Post Keynesian Economics

Any discussion of Post Keynesian economics should start with a brief summarisation of Keynesian thought (Fletcher, 1989). John Keynes (1883-1946) and his followers developed a school of economic tho0ught that led to a paradigm shift in economics, replacing the study of the economic behaviour of companies and individuals, i.e. microeconomics, with the investigation of the behaviour of the economy in totality, namely macroeconomics (Fletcher, 1989). The keynesian economic theory stated that the economy was driven by the aggregate demand created by businesses, households and the government and not by free-market dynamics (Akerlof, 2007). It argued that free markets were devoid of self-balancing mechanisms that could result in full employment and that the government should engage in economic intervention through appropriate public policies to bring about full employment (Blinder, 2008). These ideas have been adopted in significant measures by governments across the world, which have attempted to generate larger or full employment through the stimulation of demand with measures like deficit spending (Blinder, 2008). Keynesian economics and its various adaptations have, however, been subjected to criticism by experts who felt that it “looked like a cookbook where you change a tax policy here, a monetary policy there and presto! — As quick as logical speed can take us, we’re back to full- employment.” (Holt, 2005, p 2).

Post-Keynesian economics, an element of heterodox economics, on the other hand, comprises various schools of thought within the broad area of macroeconomics, which aim to go back to the basics of the ideas of Keynesian economics and separate them from neoclassical New Keynesian models (Wolfson, 1996). Post Keynesians focus on macro effects and acknowledge the government to be the sovereign issuer of money (Wolfson, 1996). The basic foundation of Post Keynesian economics rests upon the principle of effective demand, which asserts that demand matters and is relevant in both the long and the short run, which implies that a competitive market economy does not have an automatic or natural tendency towards full employment (Seccareccia, 1996).

The post-Keynesian theory has, in fact, moved beyond concepts of aggregate employment to other theories concerning the distribution of income, trade, growth and development, where the demand for money plays an important role (Minsky, 1993). These approaches differ from neoclassical economics, where they are influenced by the real forces of technology, endowment and preferences (Minsky, 1993). Post-Keynesian economics, in fact, has taken the lead in emphasising that the money supply actually responds to the demand for bank credit. Central banks, in such circumstances, cannot control the quantum of money (Lavoie, 1992). They can only manage interest rates through adjustment in the quantum of monetary reserves (Lavoie, 1992). It is of interest to note that this perspective has been significantly incorporated into monetary policy, which instead of targeting the quantity of money, focuses upon the interest rate for driving demand and employment (Sharpe & Watts, 2013).

Post Keynesians thus support governmental policies that focus upon providing full employment through various measures, including job guarantees or hiring of unemployed workers through private contracting (Lavoie, 2009). Not believing in the ability of the market economy to self-balance and bring about full employment, Post Keynesian economists like Marc Lavoie (2009) advocate strictness in financial regulations, low taxes, limitations on private debt and restructuring of debt and credit markets.

Consumers, as per post-Keynesian economists, follow simple rules, see what others are doing and make the decision upon the basis of restricted choice sets (Holt, 2005). Their consumption is by and large simplistic and routine bound in nature and does not involve the making of decisions in the neoclassical sense of the word (Holt, 2005). My experiences with our banking clients also reinforced this perspective comprehensively. The overwhelming majority of investors adopted a hierarchical approach towards investment, first focusing upon satisfying their security needs with the help of low risk and optimal return investments, and thereafter using their surplus funds, if available, for investing in speculative instruments that provided higher return but entailed greater risk (Rochon, 1999).
Such hierarchical ordering of preferences implied that income effects dominated substitution effects and that income was the important determinant of both the level and type of demand rather than relative prices (Holt, 2005). This was consistent with post-Keynesian macroeconomics concepts, which stipulated that the economy was by and large driven by demand and wages were a key component of this demand (Holt, 2005). Contemporary media reports also inform that the Bank of England is now veering towards the adoption of post-Keynesian thinking in its macroeconomics policy of targeting of interest, rather than overall money supply (Sharpe & Watts, 2013).

Conclusions

This short study engages in a discussion of my stint with a London based banking and investment firm and the assistance it provided in my understanding of post-Keynesian macroeconomic theory. Whilst my academic exposure to economic theory helped me in understanding basic economic concepts and in instilling curiosity about the subject, my practical experience assisted in relating economic theory to its actual manifestation at the ground level by individuals, as well as the opportunities it opened to banks and investment companies.

References

Akerlof, G.A., 2007, “The Missing Motivation in Macroeconomics”, American Economic Review, Vol. 97, No (1): pp. 5–36. 

Blinder, A. S., 2008, “Keynesian Economics”, In David R. Henderson, (ed.), Concise Encyclopedia of Economics, 2nd edition, Indianapolis: Library of Economics and Liberty.

Fletcher, G., 1989, The Keynesian Revolution and Its Critics: Issues of Theory and Policy for the Monetary Production Economy, NY: Palgrave MacMillan.

Holt, R., 2005, “Post-Keynesian Economics and Sustainable Development”, International Journal of Environment, Workplace and Employment, Vol. 1, No (2): pp. 174–186.

Lavoie, M., 2009, Introduction to Post-Keynesian Economics, NY: Palgrave Macmillan.

Lavoie, M., 1992, Foundations of Post-Keynesian Economic Analysis, Aldershot: Edward Elgar.

Minsky, H.P., 1993, “The Essential Characteristics of Post-Keynesian Economics”, Hyman P. Minsky Archive, Paper 19, Available at: http://digitalcommons.bard.edu/hm_archive/19 (accessed August 01, 2014).

Rochon, L.-P., 1999, Credit, Money and Production: An Alternative Post-Keynesian Approach, Cheltenham: Edward Elgar.

Seccareccia, M., 1996, “Post Keynesian fundism and monetary circulation”, in: G. Deleplace & E. J. Nell (Eds) Money in Motion: The Post Keynesian and Circulation Approaches, London: Macmillan.

Sharpe, T., & Watts, M., 2013, “Unconventional Monetary Policy in the UK: A Modern Money Critique”, Economic Issues, Vol. 18, No (2): pp. 41-64.

Wolfson, M. H., 1996, “A Post Keynesian theory of credit rationing”, Journal of Post Keynesian Economics, Vol. 18, pp. 443–470.