Keynesian vs. Classical Theories
Keynesian theory undoubtedly marks a clear departure from the classical theory. The main differences between Keynesian and classical economists are as under:Â—
1. Underemployment Equilibrium. The most important difference is this: the classical economists said, according to Say's Law, that the economy was in a state of stable equilibrium at full employment and that it may for a short time depart from full employment but the equilibrium will be restored through wage adjustments.
Keynesian vs. Classical Theories
Keynesian theory undoubtedly marks a clear departure from the classical theory. The main differences between Keynesian and classical economists are as under:—
1. Underemployment Equilibrium. The most important difference is this: the classical economists said, according to Say's Law, that the economy was in a state of stable equilibrium at full employment and that it may for a short time depart from full employment but the equilibrium will be restored through wage adjustments. Keynes, on the other hand, said that barring periods like wars, there was seldom full employment and the equilibrium was always at less than full employment.
2. Macro vs. Micro. Keynes's theory relates to macro-economic which studies the economy as a whole and the classical economic theory handled the individual characteristics of the economy and was micro-economics. Keynes dealt with the aggregates, whereas the classical economists studied the economic system in provisions of its countless judgment making units, e.g., consumer's equilibrium, producer's equilibrium, equilibrium of the firm, and so on. Keynes dealt with the general price level instead of the price of an individual commodity. His concern was with the level of unemployment in the community instead of the unemployment of any particular class of labor.
3. Opposition to General Cut in Wages. The classical economists supposed that a condition of full employment could be anticipated via cuts in money wages, and whatever the state of demand, there will always be, via wage adjustment, a tendency towards full employment.
But Keynes held that this theory was not only unrealistic but theoretically unsound. According to Keynes, lowering of wage in any particular industry might increase employment. But if wages were reduced all round, it will reduce income and thus effective demand and the volume of employment. In these days of democracy and trade unionism, only a foolish government would allow wage reductions.
4. Rate of Interest Determination. As per classical economists, interest is the remuneration for waiting or for time predilection. But according to Keynes, it is remuneration for separation with liquidity. The classical theory of interest states that the rate of interest is resoluted by the intersection of saving and investment schedules—disclosing the relation of investment and saving to the rate of interest. The Keynesian Theory gives us a set of liquidity preference schedules at various levels of income.
5. Dynamic vs. Static. The classical theory is based on the conception of static economy, whereas Keynes's theory is dynamic. The classical economists concentrated on equilibrium at a certain time, but Keynes introduced future expectations into economic analysis and thus analyzed a dynamic economy. Keynes is thus realistic, whereas the classical economists all the time dealt with an unrealistic picture.
6. General vs. Special Theory. Keynes's theory is a broad theory and as such has a very extensive relevance to all situations: unemployment, fractional employment as well as complete employment. The classical analysis relates only to the special case of full employment. They thought a general and permanent unemployment was impossible. They believed that wage flexibility provided a self-adjusting mechanism which made for full employment. Hence, all their theories are based on the assumption of full employment, an unrealistic proposition. •
7. Integration of Theory of Money with the Theory of Value. Keynes integrated the theory of money with the theory of value and output. The classical economists segregated these theories from one another and treated them as if they were unrelated to each other, which is in reality not the situation. Here again Keynes is more realistic, whereas the classical economists were all theoretical and dealt with abstract situations. Money supply affects output and employment. Hence, the theory of money and prices cannot be isolated from the analysis of income and employment in the country.
8. Balanced vs. Unbalanced Budgets. The classical economists assumed in traditional finance and impartial budgets. But, according to Keynes, a country's budget should replicate the financial state of affairs and must fluctuate as the situation demands. There is no special virtue in a balanced budget. There are times when a deficit budget is dictated by the economic situation prevailing at the time. That is why deficit financing is the common feature in all developing economies.
9. Theory of Money and Prices. As per the classical economists, boost in money supply brings on inflation and must, therefore, be avoided. This arose from their contention that there always existed full employment But Keynes pointed out that full employment was a rare phenomenon; actually there was always less than full employment so that some productive resources of the community lay idle and unemployed, totally or partially. That being so, boost in money supply would amplify employment and output and may not thus necessarily result in inflation.
10. Practical vs. Theoretical. Thus, Keynes's theory has greater relevance to the world of reality and has great practical value, whereas the views of the classical economists are more or less theoretical and devoid of all practical importance.
These are a few points of departure of the Keynesian.theory from the classical theory and the former indeed marks a genuine departure from the latter. In fact, Keynesian economics represents a revolution in economic thinking and has, therefore, been aptly called a "Keynesian Revolution" or "New Economics."