Keynes developed his theory of unemployment with an effort to counter the work of classical economists. Classical economists believed that free markets would provide automatic full employment as long as workers were flexible in their wage demands. Furthermore, classical economists believed in the work of market forces to correct economic downturns. Keynes argued that in the short run the downturns could be solved instead of waiting for long run period where there would be no civilization. He argued that inadequate aggregate demand would lead to prolonged periods of unemployment (Jespersen and Madsen, 2012). Keynes believed in the intervention of the public sector during economic recessions.
Keynes contemplated that monetary policies by the central bank and fiscal actions by the government were the tools necessary to stabilize output during the business cycles. For a successful capitalist economy, the role of government must be present. Moreover, Keynes argued that an economy could not sustain itself during the period of full employment therefore, it was necessary for the government to increase its spending. According to Keynes, government-spending increases aggregate demand, thus increasing economic activity while reducing employment. Essentially, reducing saving, inducing government projects, real wages and active fiscal policies could be used to increase aggregate demand.
Despite, the contribution of this theory in solving unemployment, it has its shortcomings. Firstly, monetary policies are needed to create fixed prices and this is accomplished by raising taxes. However, higher taxes decrease consumer wealth and welfare. Secondly, the money invested can fall in the hands of greedy politicians therefore, misuse of funds can occur. Thirdly, Keynes insisted mostly on fiscal policies, fiscal policies crowds out public investment. Increasing government expenditure successively returns an economy to full employment but under the cost of private investment. They are discouraged to invest due to high interest rates. Sidelining the supply side of economics is another shortcoming of Keynes theory. Lastly, Keynes focused on the short run side in solving recessions. In economics, policies are made by looking into the future.
Jespersen, J., & Madsen, M. O. (2012). Keynes’s general theory for today: Contemporary perspectives. Cheltenham, U. K: Edward Elgar.