John Maynard Keynes

1. John Maynard Keynes Born: 5 June 1883 in Cambridge, Cambridge shire, England Died: 21 April 1946 in Firle, Sussex, England

2. John Maynard Keynes • John Maynard Keynes was probably the most influential economist of the first half of the twentieth century. • The son of a professor of economics, john Neville Keynes, and destined by family connection to be influential in the narrow British university world.  • He studied at Cambridge

3. Member of the "Bloomsbury Group” That glittering group of bohemian thinkers and doers who revolted against the manners and morals of Victorian England included the great economist john Maynard Keynes; Virginia Woolf and her husband, Leonard, a famed British civil servant; The novelist E.M. Forester; And any number of poets, philosophers, artists and titled eccentrics. They flaunted convention, scoffed at religion, and had mad affairs with one another, writing down every wordin diaries and letters in the secure belief history would want to know.

4. Quotes by Keynes: • I do not know which makes a man more conservative --to know nothing but the present, or nothing but the past. • The day isn't far off when the economic problem will take the back seat where it belongs, and the heart and head will be occupied or reoccupied, by our real problems of life and of human relations, of creation and behavior and religion. • It is ideas, not vested interests, which are dangerous for good or evil.

5. Quotes by Keynes (cont): • The difficulty lies, not in the new ideas, but in escaping from the old ones which ramify . . . into every corner of our minds. • Most men love money and security more, and creation and construction less, as they get older.

6. Quotes by Keynes (cont): • Keynes was on the staff of the British delegation that negotiated peace after World War I, but he regarded the terms as the seeds of disaster, resigned in protest, and wrote his criticisms in The Economic Consequences of the Peace (1919), "...bursting" (as Schumpeter wrote) "into international fame when men of equal insight but less courage and men of equal courage but less insight kept silent."

7. Between the Wars • Between the wars he worked with the British treasury and increase the wealth of the treasury by performing brilliant international transactions. • He was an economist who made important contributions to probability theory and mathematical economics. He became a lecturer in economics at Cambridge, where he was educated, until the start of World War I when he worked for the government.

8. Probability • In 1921 his Treatise on Probability was published although it had been completed 10 years earlier. It was an attempt to put probability on a firm mathematical basis. • Russell said: • The mathematical calculus is astonishingly powerful ... the book is one which it is impossible to praise too highly .

9. General Theory • Keynes became editor of the Economic Journal, certainly one of the most important of journals of professional work and research in economics then as now. After the disaster of the Great Depression, Keynes was the leading figure in a group of (mostly) younger and very creative economists who attempted to understand and explain the disaster. Borrowing freely from their ideas, Keynes published The General Theory of Employment, Interest and Money,

10. GENERAL THEORY (CONT) • which (again quoting Schumpeter) "was a similar feat of leadership. It taught England, in the form of an apparently general analysis, his own personal view of her social and economic situation and also his own personal view of 'what should be done about it.'"

11. GENERAL THEORY (CONT) • The General Theory, as it is known, also founded modern macroeconomics, and virtually all of the work in that field emerges from Keynes' work, if not positively as extensions and adaptations then negatively as criticism or the extension of criticism of it.

12. GENERAL THEORY (CONT) • CONCEPTS • Consumption Function

13. GENERAL THEORY (CONT) • CONCEPTS (continuation) • Consumption Function (continuation) • With the Use of The Hicks-Hansen graphs C YD

14. GENERAL THEORY (CONT) • CONCEPTS • Marginal Propensity to Consume • Additional Consumption based on additional Disposable Income • Greater than zero but less than 1

15. GENERAL THEORY (CONT) • CONCEPTS (continuation) • Consumption Function (continuation) C C CO YD YD

16. GENERAL THEORY (CONT) • CONCEPTS • Marginal Propensity to Save • Additional Consumption based on additional Disposable Income • Greater than zero but less than 1 • Also, marginal propensity to consume and marginal propensity to save should add up to 1

17. GENERAL THEORY (CONT) • CONCEPTS (continuation) • Savings Function (continuation) S S YD YD SO

18. GENERAL THEORY (CONT) • CONCEPTS (continuation) • Relation between Interest and Interest Rate is negative • Marginal Efficiency of Capital • Opportunity cost of placing money into Investment

19. GENERAL THEORY (CONT) • CONCEPTS (continuation) • Relation between Interest and Interest Rate (=return to investment) 1 r 2 Divides those projects worth from those not worth it 3 I

20. GENERAL THEORY (CONT) • CONCEPTS • Aggregate Demand • AD = C + I + G • C = consumption • I = Investment • G = Government Expenditures

21. GENERAL THEORY (CONT) • CONCEPTS • Aggregate Supply • Keynes has aggregate supply adjusting to aggregate demand so Hicks-Hansen use the 450 line 450

22. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Price of Bonds and Interest • Keynes recognized the concept of opportunity cost as consequently concluded that interest rates and the price of bonds were inversely related • Based on the fact that as at high interest rates bonds become a “good deal” • At low interest rates, bonds become to expensive and individuals would rather hold cash then bonds

23. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Money Demand • Individuals held money for: • To purchase goods (function of income) • For a rainy day (function of Income) • Speculative purposes (function of interest rates)

24. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Liquidity Trap • In the case of holding money for speculative purposes. Bonds may be so high that speculators feel the price must first go down • Since Bonds an interest rates vary inversely

25. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Liquidity Trap (Continuation) • Speculators will not purchase bonds and thus interest rates will now longer decrease

26. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Monetary Policy • Because of the “liquidity trap” it is possible that increase in money supply that is intended to decrease the interest rates will not do so

27. Monetary Policy Liquidity Trap r M0 P0 M1 P1 M2 P2 M3 P3 LS

28. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy • Multiplier Effect • Assume that Income Increases by some amount YD • From the Consumption function we know Personal Consumption will increase by C = b* YD where b is the marginal propensity to consume

29. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Multiplier Effect (continuation) • Assume that Income Increases by some amount YD • From the Consumption function we know Personal Consumption will increase by C = b* YD where b is the marginal propensity to consume

30. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Multiplier Effect (continuation) • Or C /YD = b • So that for the first new dollar in income the new Cnew is now equal to the old Cold + b. However, that additional b expenditures become income to someone else • This other person now has the ability to spend additional b2

31. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Multiplier Effect (continuation) • But this additional consumption of b2 becomes additional income to someone who now, with the same MPC will now spend an additional b3 • So the next person spends now b4 • And so on and on

32. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Multiplier Effect (continuation) • So the additional income generated by an additional dollar of income increases total consumption by • b + b2 + b3 + b3 + b4 + b5 +………

33. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • b + b2 + b3 + b3 + b4 + b5 +……… • However, because if the change comes from an increase in an autonomous expenditure, for instance government expenditures then Aggregate income will increase by the dollar plus the infinite series b + b2 + b3 + b3 + b4 + b5 +……… • Or (1 + b + b2 + b3 + b3 + b4 + b5 +………)

34. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Solving for the infinite series • (1 + 1*b + 1* b2 + 1*b3 + 1*b3 + 1*b4 + 1*b5 +………) • Is equal to 1/ ( 1 – b ) • Consequently a one dollar increase in Government expenditures will increase Income by 1 * 1/( 1 – b )

35. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Solving for the infinite series • ( 1*b + 1* b2 + 1*b3 + 1*b3 + 1*b4 + 1*b5 +………) • Let sn = 1*b + 1* b2 + 1*b3 + 1*b3 + 1*b4 + 1*b5 +…..+ 1*bn-1

36. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Let sr = 1 + 1*b + 1* b2 + 1*b3 + 1*b4 + 1*b5 + 1*b6 +…..+ 1*br-1 • Or bsr = b + 1* b1+ 1*b2 + 1*b3 + 1*b4 + 1*b5 +…..+ 1*br • Or by subtracting the two we get

37. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • ( 1 – b)sr = 1 * (1 – br) • sr = (1 – br) / (1 – b) • Since 0 < b < 1 then • The limit of (1 – br) as r increases to infinity is • 1

38. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • So that • sr = 1 / (1 – b) • Now Assume that the change comes from a 100 million increases in Government expenditures

39. GENERAL THEORY (CONT) • CONCEPTS (Continuation) • Fiscal Policy (continuation) • Thus Government expenditures increase by 100 million and • Consumption increases by 100 million times • sr = 1 / (1 – b) • And if b=.75 then sr = 4 • So aggregate demand will increase by 400 million dollars (100 million from government expenditures and 300 from additional consumption)

40. Fiscal Policy C+I+G C + I + G YD YE YF

41. Fiscal Policy • A significant contribution of Keynes is clearly that an economy can be at equilibrium while not at full employment • And that if the economy is 400 million from being at full employment and MPC = .75 that all it would take is an increase in autonomous expenditure of 100 million • Since we can not legislate increase autonomous Consumption or autonomous Investment then the only alternative is Government expenditures

42. Fiscal Policy • He was not particular either of the type of expenditure the government did • For instance, • He has the example of hiring individuals one day to dig a hole and place bottles in that hole. • The next day hire same or other individuals to dig and bottles out • The next day bury them again, etc.

43. GENERAL THEORY (CONT) • He was the British representative in 1944 at Brenton Wood Conference that set up the International Monetary Fund and the World Bank.