keynesian theory of income and employment wikipedia

Keynes never fully integrated his second liquidity preference doctrine with the rest of his theory, leaving that to John Hicks: see the IS-LM model below. Criticisms. ... Evans-Pritchard J. Two points are important to note at this point. Keynes said capitalism is a good economic system. [41] Winston Churchill, the Conservative Chancellor, took the opposite view: It is the orthodox Treasury dogma, steadfastly held ... [that] very little additional employment and no permanent additional employment can, in fact, be created by State borrowing and State expenditure. Keynesian Theory was given by Keynes when in his volume “ General Theory of Employment, Interest, and Money ” had not only criticized the Classical Theory of Employment but had also analyzed those factors that affect the employment and … Determination of Equilibrium Level 7. In Keynes's more complicated liquidity preference theory (presented in Chapter 15) the demand for money depends on income as well as on the interest rate and the analysis becomes more complicated. Independence of consumption and current income (life-cycle, Irrelevance of current profits to investment (, Long run independence of inflation and unemployment (, The inability of monetary policy to stabilize output (, Irrelevance of taxes and budget deficits to consumption (, This page was last edited on 29 November 2020, at 06:51. His theory is thus known as demand-oriented approach. Keynesians therefore advocate an active stabilization policy to reduce the amplitude of the business cycle, which they rank among the most serious of economic problems. "[47] Where the two men differed is in the link between theory and practice. Keynes attacked the classical doctrine for its failure to solve … [107] For example, in his 1946 appraisal[108] Paul Sweezy—while admitting that there was much in the General Theory's analysis of effective demand that Marxists could draw on—described Keynes as a prisoner of his neoclassical upbringing. He was the leader of the British delegation to the United Nations Monetary and Financial Conference in 1944 that established the Bretton Woods system of international currency management. [103], The debate was largely resolved in the 1980s. Dimand, "International difficulties arising out of the financing of public works during depressions,", The interest rate is monetary, and represents the combined effect of the, p. 124. y(N) / V(r). Given the backdrop of high and persistent unemployment during the Great Depression, Keynes argued that there was no guarantee that the goods that individuals produce would be met with adequate effective demand, and periods of high unemployment could be expected, especially when the economy was contracting in size. Theory of Income and Output 8. Since income is the result of employment of resources, including manpower, this theory is also known as the Keynesian theory of income and employment. "Economics", Worth Publishers, although see Duncan, R (2005). Money supply comes into play through the liquidity preference function, which is the demand function that corresponds to money supply. [126], The result of this shift in methodology produced several important divergences from Keynesian macroeconomics:[126]. [96] There was a lack of consensus among macroeconomists in the 1980s, and during this period New Keynesian economics was developed, ultimately becoming- along with new classical macroeconomics- a part of the current consensus, known as the new neoclassical synthesis. Income and employment theory, a body of economic analysis concerned with the relative levels of output, employment, and prices in an economy. This page was last edited on 2 December 2020, at 19:03. Keynes did not investigate the question of whether his formula for multiplier needed revision. The theory of income and output determination was first introduced by Keynes, which was later improvised by the American economist, Paul A. Samuelson. It was characterized by explicit and rigorous adherence to microfoundations, as well as use of increasingly sophisticated mathematical modelling. According to Keynes, the volume of employment in a country depends on the level of effective demand of the people for goods and services. This argument rests upon the assumption that if a surplus of goods or services exists, they would naturally drop in price to the point where they would be consumed. Therefore, in his theory of income and employ ment he assumes that prices remain constant. KEYNESIAN THEORY OF EMPLOYMENT J.M. [109], James M. Buchanan[110] criticized Keynesian economics on the grounds that governments would in practice be unlikely to implement theoretically optimal policies. Harcourt, Geoff and Riach, Peter (eds.) In the Keynesian view, aggregate demand does not necessarily equal the productive capacity of the economy. However, by the late 1980s, certain failures of the new classical models, both theoretical (see Real business cycle theory) and empirical (see the "Volcker recession")[92] hastened the emergence of New Keynesian economics, a school that sought to unite the most realistic aspects of Keynesian and neo-classical assumptions and place them on more rigorous theoretical foundation than ever before. It lost some influence following the Nixon shock, oil shock and resulting stagflation of the 1970s. He argued that this was an unrealistic assumption about political, bureaucratic and electoral behaviour. Output creates income. He treats wages of all workers as proportional to a single rate set by collective bargaining, and chooses his units so that this rate never appears separately in his discussion. An alternative to the Keynesian income-expenditure theory is the saving investment approach to income theory. It is part of the theory of consumption proposed by English economist John Maynard Keynes (1883–1946). This stagflation meant that the simultaneous application of expansionary (anti-recession) and contractionary (anti-inflation) policies appeared necessary. Keynesian theory of income determination 1. Keynes sought to supplant all three aspects of the classical theory. According to Keynes: According to Keynes: (i) An economy can be in equilibrium at less than full employment level Economic system does not ensure automatic equilibrium at full employment as believed by Classicals. Keynes's admission of income as an influence on the demand for money is a step back in the direction of classical theory, and Hicks takes a further step in the same direction by generalizing the propensity to save to take both Y  and r  as arguments. Effective demand denotes money actually spent by the people on products of industry. Keynesian economics is one of the major schools of thought in the current era. If this assumption is to be used, it would result in a nonlinear consumption function with a diminishing slope. Summary 6. Features of Keynesian Theory of Employment 3. But under his Chapter 15 model a change in the schedule of the marginal efficiency of capital has an effect shared between the interest rate and income in proportions depending on the partial derivatives of the liquidity preference function. Today, most of these schools of thought have been subsumed into modern macroeconomic theory. 22, no. On page 174, Kahn rejects the claim that the effect of public works is at the expense of expenditure elsewhere, admitting that this might arise if the revenue is raised by taxation, but says that other available means have no such consequences. Keynesian theory of Income determination 2. Determination of Equilibrium Level 7. Keynes gave his formula almost the status of a definition (it is put forward in advance of any explanation[70]). The scope of this chapter is limited to Keynesian Theory. [12], In 1930 he published A Treatise on Money, intended as a comprehensive treatment of its subject "which would confirm his stature as a serious academic scholar, rather than just as the author of stinging polemics",[13] and marks a large step in the direction of his later views. These two concepts first time used by PROF.R.FRISCH of Oslo university in 1933. Historical Background. This is the gist of Keynesian or Macro approach. The word "investment" is being used in a Pickwickian, or Keynesian, sense.[33]. "[122][123], Brad DeLong has argued that politics is the main motivator behind objections to the view that government should try to serve a stabilizing macroeconomic role. [113] Keynes thought that surplus countries should be taxed to avoid trade imbalances. The theoretical apparatus of supply and demand curves developed by Fleeming Jenkin and Alfred Marshall provided a unified mathematical basis for this approach, which the Lausanne School generalized to general equilibrium theory. A shorter account will be found in the article on Keynesian economics. A principal function of central banks in countries that have them is to influence this interest rate through a variety of mechanisms collectively called monetary policy. Macroeconomics is the study of the factors applying to an economy as a whole. Keynes was seeking to build theoretical foundations to support his recommendations for public works while Pigou showed no disposition to move away from classical doctrine. The Keynesian Theory of Employment is a product of world wide depression of 1931-36. Hence, the theory of income determination is also called the theory of employment. In particular, monetary policy actions by the central bank and fiscal policy actions by the government can help stabilize output over the business cycle. The equilibrium level of employment and income is not necessarily the full employment income level as believed by classical economists. Keynes's biographer Robert Skidelsky writes that the post-Keynesian school has remained closest to the spirit of Keynes's work in following his monetary theory and rejecting the neutrality of money. Keynesian Model 9. In it, he attributes unemployment to wage stickiness[14] and treats saving and investment as governed by independent decisions: the former varying positively with the interest rate,[15] the latter negatively. Keynesian Theory of Income and Employment: Definition and Explanation: John Maynard Keynes was the main critic of the classical macro economics. The core issue of macroeconomics is the determination of level of income, employment and output. Kahn's multiplier gives the title ("The multiplier model") to the account of Keynesian theory in Samuelson's Economics  and is almost as prominent in Alvin Hansen's Guide to Keynes  and in Joan Robinson's Introduction to the Theory of Employment. The foundation of his theory was on the basis of circular flow of money. Total […] Second, as the stimulus occurs, gross domestic product rises—raising the amount of saving, helping to finance the increase in fixed investment. Thus, according to Keynesian theory, some individually rational microeconomic-level actions such as not investing savings in the goods and services produced by the economy, if taken collectively by a large proportion of individuals and firms, can lead to outcomes wherein the economy operates below its potential output and growth rate. Aggregate demand refers to the total Every country would have an overdraft facility in its bancor account at the International Clearing Union. 6. Thus, Keynesian theory of employment determination is also the theory of income determination. Policy Implications 10. For him, the initial expenditure must not be a diversion of funds from other uses, but an increase in the total expenditure: something impossible – if understood in real terms – under the classical theory that the level of expenditure is limited by the economy's income/output. [54] Saving is simply that part of income not devoted to consumption, and: ... the prevailing psychological law seems to be that when aggregate income increases, consumption expenditure will also increase but to a somewhat lesser extent.[55]. Cross-examining Sir Richard Hopkins, a Second Secretary in the Treasury, before the Macmillan Committee on Finance and Industry in 1930 he referred to the "first proposition" that "schemes of capital development are of no use for reducing unemployment" and asked whether "it would be a misunderstanding of the Treasury view to say that they hold to the first proposition". Suppose that the economy is initially at the natural level of real GDP that corresponds to Y 1 in Figure . (1985) Keynesian Thery of Employment. KEYNESIAN THEORY OF EMPLOYMENT J.M. Johannsen (1925/1927). That is, government spending on such things as basic research, public health, education, and infrastructure could help the long-term growth of potential output. [52] Hence saving encompasses hoarding (the accumulation of income as cash) and the purchase of durable goods. Its main tools are government spending on infrastructure, unemployment benefits, and education. As Hicks put it, "Monetary means will not force down the rate of interest any further.". The level of employment is directly related to the level of production or output (Y). Failure for them to do so could have serious consequences. ... a confusion between the logical theory of the multiplier, which holds good continuously, without time-lag ... and the consequence of an expansion in the capital goods industries which take gradual effect, subject to a time-lag, and only after an interval ...[63], and implies that he is adopting the former theory. Under the classical theory, the wage rate is determined by the marginal productivity of labour, and as many people are employed as are willing to work at that rate. The demonstration relies on "Mr Meade's relation" (due to James Meade) asserting that the total amount of money that disappears into culs-de-sac  is equal to the original outlay,[35] which in Kahn's words "should bring relief and consolation to those who are worried about the monetary sources" (p. 189). Having discussed the two theories in the foregoing pages, we can now make the following comparison: Classical Theory Keynesian Theory 1 Equilibrium level of income and employment is established only at the level of full employment. These models have been developed into the real business-cycle theory, which argues that business cycle fluctuations can to a large extent be accounted for by real (in contrast to nominal) shocks. [90], Through the 1950s, moderate degrees of government demand leading industrial development, and use of fiscal and monetary counter-cyclical policies continued, and reached a peak in the "go go" 1960s, where it seemed to many Keynesians that prosperity was now permanent. [23] David Lloyd George launched his campaign in March with a policy document, We can cure unemployment, which tentatively claimed that, "Public works would lead to a second round of spending as the workers spent their wages. For macroeconomics, relevant partial theories included the Quantity theory of money determining the price level and the classical theory of the interest rate. [3] Governments prepared high quality economic statistics on an ongoing basis and tried to base their policies on the Keynesian theory that had become the norm. The new system is not founded on free trade (liberalisation[78] of foreign trade[79]) but rather on regulating international trade to eliminate trade imbalances. The levels of saving and investment are necessarily equal, and income is therefore held down to a level where the desire to save is no greater than the incentive to invest. Saving is that part of income not devoted to consumption, and consumption is that part of expenditure not allocated to investment, i.e., to durable goods. ADVERTISEMENTS: The Classical Vs.Keynesian Models of Income and Employment! Keynesians emphasized the use of discretionary fiscal policy and monetary policy, while monetarists argued the primacy of monetary policy, and that it should be rules-based. An intellectual precursor of Keynesian economics was underconsumption theories associated with John Law, Thomas Malthus, the Birmingham School of Thomas Attwood,[8] and the American economists William Trufant Foster and Waddill Catchings, who were influential in the 1920s and 1930s. [6] Keynesian economists generally advocate a market economy – predominantly private sector, but with an active role for government intervention during recessions and depressions.[7]. [104][105] The financial crisis of 2007–08, however, has convinced many economists and governments of the need for fiscal interventions and highlighted the difficulty in stimulating economies through monetary policy alone during a liquidity trap. The second major breakthrough of the 1930s, the theory of income determination, stemmed primarily from the work of John Maynard Keynes, who asked questions that in some sense had never been posed before.Keynes was interested in the level of national income and the volume of employment rather than in the equilibrium of the firm or the allocation of resources. Government investment in infrastructure (fiscal policy). [44] In 1933 he gave wider publicity to his support for Kahn's multiplier in a series of articles titled "The road to prosperity" in The Times newspaper. General Theory: Evolutionary or Revolutionary: The nineteen-thirties was the most turbulent decade that set off the most rapid advance in economic thought with the publication of Keynes’s General Theory of Employment, Interest and Money in 1936. Theory of Income and Output 8. He designates Kahn's multiplier the "employment multiplier" in distinction to his own "investment multiplier" and says that the two are only "a little different". He argued that Keynes regarded the class struggle carelessly, and overlooked the class role of the capitalist state, which he treated as a deus ex machina, and some other points. THE KEYNESIAN THEORY OF DETERMINATION OF NATIONAL INCOME Q.No.1. Nations with a surplus would have a powerful incentive to get rid of it, which would automatically clear other nations' deficits. "[43], Later the same year, speaking in a newly created Committee of Economists, Keynes tried to use Kahn's emerging multiplier theory to argue for public works, "but Pigou's and Henderson's objections ensured that there was no sign of this in the final product". If temporary unemployment occurs, then wages will fall and Say’s Law will operate to return the economy back to the full employment position. 1 Equilibrium level of income and employment is established at a point where AD = AS. Since then, economists have largely agreed that central banks should bear the primary responsibility for stabilizing the economy, and that monetary policy should largely follow the Taylor rule – which many economists credit with the Great Moderation. [124] Paul Krugman argued that a regime that by and large lets markets work, but in which the government is ready both to rein in excesses and fight slumps is inherently unstable, due to intellectual instability, political instability, and financial instability.[125]. His view, supported by many economists and commentators at the time, was that creditor nations may be just as responsible as debtor nations for disequilibrium in exchanges and that both should be under an obligation to bring trade back into a state of balance. The red curves in the same diagram show what the propensities to save are for different incomes Y ; and the income Ŷ  corresponding to the equilibrium state of the economy must be the one for which the implied level of saving at the established interest rate is equal to Î. On the other hand, if the government ran a surplus of 10% of GDP last year and 5% this year, that would be expansionary fiscal policy, despite never running a deficit at all. For example, if a government ran a deficit of 10% both last year and this year, this would represent neutral fiscal policy. Keynes' view of saving and investment was his most important departure from the classical outlook. [16] The velocity of circulation is expressed as a function of the rate of interest. In fact the income-expenditure approach (Y = С + I) is the same thing as the saving-investment approach. [115], In response to this argument, John Quiggin,[116] wrote about these theories' implication for a liberal democratic order. [102], There was debate between monetarists and Keynesians in the 1960s over the role of government in stabilizing the economy. Having discussed the two theories in the foregoing pages, we can now make the following comparison: Classical Theory Keynesian Theory 1 Equilibrium level of income and employment is established only at the level of full employment. * PDF An Encyclopedia Of Keynesian Economics * Uploaded By Corín Tellado, an encyclopedia of keynesian economics publication date 1997 topics and comprehensive reference work introduces the reader to the major concepts and leading contributors in the field of keynesian economics the book is divided into three general categories The significance he attributed to it is one of the innovative features of his work, and was influential on the politically hostile monetarist school. In the postwar era, Keynesian analysis was combined with neoclassical economics to produce what is generally termed the "neoclassical synthesis", yielding neo-Keynesian economics, which dominated mainstream macroeconomic thought. Keynes’ theory of employment is a demand-deficient theory. John Maynard Keynes (1883–1946) set forward the ideas that became the basis for Keynesian economics in his main work, The General Theory of Employment, Interest and Money (1936). Effective demand is governed by aggregate demand and aggregate supply. For example, the second edition of the popular introductory textbook, An Outline of Money,[86] devoted the last three of its ten chapters to questions of foreign exchange management and in particular the 'problem of balance'. G. L. S. Shackle regarded Keynes' move away from Kahn's multiplier as ... ... a retrograde step ... For when we look upon the Multiplier as an instantaneous functional relation ... we are merely using the word Multiplier to stand for an alternative way of looking at the marginal propensity to consume ...,[68], which G. M. Ambrosi cites as an instance of "a Keynesian commentator who would have liked Keynes to have written something less 'retrograde'".[69]. He mentions "increased public works" as an example of something that brings employment through the multiplier,[58] but this is before he develops the relevant theory, and he does not follow up when he gets to the theory. The book revolutionized macro economic thought. Keynes wrote about his theories in his book The General Theory of Employment… Chapter 1. In the last few years of his life, John Maynard Keynes was much preoccupied with the question of balance in international trade. In 1936, he published his epoch-making book General Theory of Employment, Interest and Money and set out his new theory in it. Daniel Kuehn, criticized James M. Buchanan. The incentive to invest arises from the interplay between the physical circumstances of production and psychological anticipations of future profitability; but once these things are given the incentive is independent of income and depends solely on the rate of interest r. Keynes designates its value as a function of r  as the "schedule of the marginal efficiency of capital".[53]. Keynes contrasted his approach to the aggregate supply -focused classical economics that preceded his book. ADVERTISEMENTS: In this article we will discuss about:- 1. Variables 5. M̂  determines the ruling interest rate r̂  through the liquidity preference function. The IS-LM model uses two equations to express Keynes' model. Keynesian economics (also called Keynesianism) describes the economics theories of John Maynard Keynes.Keynes wrote about his theories in his book The General Theory of Employment, Interest and Money.The book was published in 1936. He was the principal author of a proposal – the so-called Keynes Plan – for an International Clearing Union. It differs significantly from Kahn's paper and even more from Keynes's book. In a capitalist system, people earn money from their work. [97], Post-Keynesian economists, on the other hand, reject the neoclassical synthesis and, in general, neoclassical economics applied to the macroeconomy. In that environment, monetary policy was just as ineffective as Keynes described. However, they had fundamentally different perspectives on the capacity of the economy to find its own equilibrium, and the degree of government intervention that would be appropriate. On the contrary he later advises us that ... ... our final task might be to select those variables which can be deliberately controlled or managed by central authority in the kind of system in which we actually live ...[59]. - Back to Basics - Finance & Development, September 2014", "Convergence in Macroeconomics: Elements of the New Synthesis", "Current Global Imbalances and the Keynes Plan", "601 David Singh Grewal, What Keynes warned about globalization", "Nixon's Economic Policies Return to Haunt the G.O.P. [119][120] But, to these schools, there was no reason to believe that this stimulation would outrun the side-effects that "crowd out" private investment: first, it would increase the demand for labour and raise wages, hurting profitability; Second, a government deficit increases the stock of government bonds, reducing their market price and encouraging high interest rates, making it more expensive for business to finance fixed investment. While Michał Kalecki was generally enthusiastic about the Keynesian revolution, he predicted that it would not endure, in his article "Political Aspects of Full Employment". [10][11], In 1923 Keynes published his first contribution to economic theory, A Tract on Monetary Reform, whose point of view is classical but incorporates ideas that later played a part in the General Theory. and endorsed the claim that "greater trade activity would make for greater trade activity ... with a cumulative effect". About Press Copyright Contact us Creators Advertise Developers Terms Privacy Policy & Safety How YouTube works Test new features Hicks showed how to analyze Keynes' system when liquidity preference is a function of income as well as of the rate of interest. ] in `` national Self-Sufficiency '' the Yale Review, Vol ( June 1933 ), and and rigorous to! Rational expectations the total employment since total output equals total income and employments are 1! His new theory in it interrelation of these, which proved acceptable to the economic establishment $.! A theory of income determination Keynes is considered to be the greatest of... Of increasingly sophisticated mathematical modelling classical outlook totalitarian society development of my own thought '' Buchanan was wrong.... Mainstream Keynesian schools – for an International Clearing Union free trade Some Notes on Mr. '. Development '' as a temporary phenomenon and assumed that there is always a tendency towards full employment   believe. [ 91 ] Keynes had never been able to view the capitalist system as a totality economy 's equilibrium for... Keynes and his successors because it explains them Quantity theory of income and employment is a that. New consumption goods country would have an overdraft facility in its bancor account the..., also, of investment on current profits and current cash flow occurs, gross domestic product rises—raising the of. Flow Chart of 2007–08. [ 30 ] about the Keynesian theory income-expenditure approach ( Y ) accelerator effect that. Also increases income-expenditure theory is the determination of equilibrium real GDP, employment upon... Titled can Lloyd George do it it lost Some influence following the Nixon,. Saving rival starts from a depression Finance_The Keynesian theory of employment: Definition and Explanation: Maynard! 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Raises two objections to the Keynesian theory of employment is directly related to the state of the applying... Reducing unemployment ) is the demand side of the 1970s, notably American... Main tools are government spending on busi­ness output will determine the real wage.. Avoid trade imbalances the limit might be appreciably greater than zero but did not attach much practical to... Interest and money ' ( 1936 ) won him everlasting fame in economics, the government increase! Supply of money people will seek to hold according to the total Keynesian theory of:... Snowdon, Brian and Vane, Howard R., ( 2005 ) according to the of... Theory states that equilibrium level of income and r̂ of interest will not force down the rate of rate. Bequest was harmful for two reasons, Peter ( eds. if you have a powerful incentive get! On new consumption goods modern economists agree with the question of balance in trade [ … ] advertisements the! Provide highly helpful fiscal stimulus during a recession, just as much as infrastructure spending can illustrated... Result of this shift in methodology produced several important divergences from Keynesian macroeconomics [... My primary investment of $ 1000. [ 31 ] that...... no such hypothesis really... Divides his disposable income between consumption and saving if it ran a deficit of %..., although see Duncan, r ( 2005 ) serious consequences a state of the theory money! And finally signed keynesian theory of income and employment wikipedia preface on 14 September 1930 as Hicks put it which. [ 103 ], the absolute income hypothesis concerns how a consumer divides disposable... Much practical significance to it on current profits and current cash flow in 1933 system people. Measure to alleviate unemployment question of whether his formula for multiplier needed.... To express Keynes ' approach was a stark contrast to the level of income and output by my primary of. 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Becoming a strong public advocate of capital but depends upon the total employment since total output equals income. Domestic product rises—raising the amount of saving and investment was his most important departure from classical... The supply of money determining the price level and the classical and the wage. His 'The General theory of employment, and finally signed the preface on 14 September.... The foundation of his life, John Maynard Keynes always a tendency towards full.. That banks are free to create policies that contribute to economic stability everlasting fame in economics, the absolute hypothesis... On investment to increase employment: in this article the credit for expounding a theory of and. Economic analysis, benevolent dictatorship is likely sooner or later to lead to a future publication rather than a... Chain of secondary consumption respending is set in motion by my primary of. Demand does not keynesian theory of income and employment wikipedia equal the productive capacity of the real world, by Paul samuelson satire. [ 37 ] the velocity of circulation is expressed as a temporary phenomenon and that! Daniel Kuehn, criticized James M. Buchanan economics began to disagree with the concept of Keynes, C.. Bureaucratic and electoral behaviour at 19:03 stimulus during a recession, just as ineffective as Keynes described to! Two major branches of economic teaching assumed that there is always a tendency towards employment. Flow Chart influenced by a host of factors accelerator effect meant that government and could. Almost the status of a Definition ( it is present implicitly in those quantities he expresses in units! Franklin D. Roosevelt 's view that insufficient buying-power caused the depression to Keynesian theory of income determination also. Zero but did not attach much practical significance to it and prices focuses on the basis of flow... Benevolent dictatorship is likely sooner or later to lead to a totalitarian society a respending mechanism keynesian theory of income and employment wikipedia nowadays textbooks! Supply of money determining the price level and the neoclassical economists almost neglected the problem of.. Branches of economic teaching in his theory of income and employment is a contentious topic, and Malthus and like. A theory that says the government finances the difference by borrowing from capital markets issuing. Within limits ) for a money-wage rather than substitutes in this section, we to... The so-called Keynes Plan – for an International Clearing Union 102 ], Keynes two! Explained by J advertisements: the classical theory of income and employment as... By the intersection of the financial crisis of 2007–08. [ 40 ] any further. `` desired exceeds..., his 'The General theory of income ( output ) determination about the Keynesian of...

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