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The Keynesian Revolution was a fundamental reworking of economic theory

concerning the factors determining employment levels in the overall economy. The
revolution was set against the then orthodox economic framework: neoclassical
economics.

The early stage of the Keynesian Revolution took place in the years following the
publication of Keynes' General Theory in 1936. It saw the neo classical
understanding of employment replaced with Keynes' view that demand , and not
supply, is the driving factor determining levels of employment. This provided
Keynes and his supporters with a theoretical basis to argue that governments
should intervene to alleviate severe unemployment. With Keynes unable to take
much part in theoretical debate after 1937, a process swiftly got under way to
reconcile his work with the old system to form Neo-Keynesian economics, a mixture
of neoclassical economics and Keynesian economics. The process of mixing these
schools is referred to as the neoclassical synthesis, and Neo-Keynesian economics
can be summarized as "Keynesian in macroeconomics, neoclassical in
microeconomics".Contents [hide]

1 Summary
2 Theory of employment

3 Other revolutions in economics

3.1 Prior to Keynes

3.2 After Keynes

4 The course of the revolution

4.1 Intellectual

4.1.1 Origins

4.2 Policy

4.3 Textbooks

5 The revolution that never was

6 Significance

7 See also

8 Notes and references

[edit]

Summary

The revolution was primarily a change in mainstream economic views and in

providing a unified framework – many of the ideas and policy prescriptions
advocated by Keynes had ad hoc precursors in the underconsumptionist school of
19th century economics, and some forms of government stimulus were practiced in
1930s United States without the intellectual framework of Keynesianism.

The central policy change was the proposition that government action could change
the level of unemployment, via deficit spending (fiscal stimulus) such as by public
works or tax cuts, and changes in interest rates and money supply (monetary
policy) – the prevailing orthodoxy prior to that point was the Treasury view that
government action could not change the level of unemployment.
The driving force was the economic crisis of the Great Depression and the 1936
publication of The General Theory of Employment, Interest and Money by John
Maynard Keynes, which was then reworked into a neoclassical framework by John
Hicks, particularly the IS/LM model of 1936/37. This synthesis was then popularized
in American academia in the very influential textbook Economics by Paul Samuelson
from 1948 onward, and came to dominate post-World War II economic thinking in
the United States. The term "Keynesian Revolution" itself was used in the 1947 text
The Keynesian Revolution by American economist Lawrence Klein.[1] In the United
States, the Keynesian Revolution was initially actively fought by conservatives
during the Second Red Scare (McCarthyism) and accused of Communism, but
ultimately a form of Keynesian economics became mainstream; see textbooks of
the Keynesian revolution.

The Keynesian revolution has been criticized on a number of grounds: some,

particularly the freshwater school and Austrian school, argue that the revolution
was misguided and incorrect; by contrast, other schools of Keynesian economics,
notably Post-Keynesian economics, argue that the "Keynesian" revolution ignored or
distorted many of Keynes's fundamental insights, and did not go far enough.

[edit]

Theory of employment

A central aspect of the Keynesian revolution was a change in theory concerning the
factors determining employment levels in the overall economy. The revolution was
set against the orthodox classical economic framework, and its successor,
neoclassical economics, which based on Say's Law argued that unless special
conditions prevailed the free market would naturally establish full employment
equilibrium with no need for government intervention. This view held that
employers will be able to make a profit by employing all available workers as long
as workers drop their wages below the value of the total output they are able to
produce – and classical economics assumed that in a free market workers would be
willing to lower their wage demands accordingly, because they are rational agents
who would rather work for less than face unemployment.

Keynes argued that both Say's Law and the assumption that economic actors
always behave rationally are misleading simplifications , and that the classical
economics was only reliable at describing a special case. The Keynesian Revolution
replaced the classical understanding of employment with Keynes view that
employment is a function of demand, not supply.[2]
[edit]

Other revolutions in economics

[edit]

Prior to Keynes

Professor Harry Johson has written that Economics in its modern form can been
seen as dawning with the Smithian Revolution against mercantilism. Prior to Keynes
there were five other major developments in economic thought rapid enough in
pace to be characterised as revolutions, most notability the Ricardian.[3][4] Another
noted revolution is the marginalist revolution, which is taken to mark the transition
from classical economics to neoclassical economics [5] in the 1870s. Collectively
these fashioned the classical economic orthodoxy that Keynes attacked.

Note however that in economic practice, as opposed to economic theory, the

behavior of industrializing nations in the 19th century has frequently been
described as mercantilist or embodying economic nationalism, as in the American
School of 19th century American economic practice.

[edit]

After Keynes

The rise of Monetarism, particularly in the 1970s and via the work of Milton
Friedman, is considered the next major change in mainstream economic theory and
practice, and has at times been described as the "monetarist revolution".[6] The
stagflation of the 1970s lead to a loss of influence by classical Keynesian
economics, and continuing tensions between Keynesian economics and neoclassical
economics lead in the 1970s to the division between New Keynesian economics and
New classical macroeconomics; these are also referred to as the saltwater school
and freshwater school, due to the American universities with which they are
associated. In development economics, this period is referred to as the Washington
Consensus period, and the economic expansion of the 1980s, 1990s, and early
2000s has been referred to as The Great Moderation.

Following the financial crisis of 2007–2010, there has been a resurgence of interest
in Keynesian economics, dubbed the 2008–2009 Keynesian resurgence.
[edit]

The course of the revolution

(Colander & Landreth 1996) argue that there are three components to the
Keynesian revolution: a policy revolution, a theoretical (or intellectual) revolution,
and a textbook revolution. These are addressed in turn.

[edit]

Intellectual

Keynes's revolutionary theory was set out in his book General Theory of
Employment, Interest and Money, commonly referred to by the abbreviated title
General Theory. While working on the book, Keynes wrote to George Bernard Shaw,
saying "I believe myself to be writing a book on economic theory which will largely
revolutionize, not I suppose at once but in the course of the next ten years – the
way the world thinks about economic problems … I don't merely hope what I say, in
my own mind I'm quite sure" [7] Professor Keith Shaw wrote that this degree of self-
confidence was quite amazing especially considering it took more than fifty years
for the Newtonian revolution to gain universal recognition; but also that Keynes's
confidence was fully justified.[8] John Kenneth Galbraith has written that Say's Law
dominated economic thought prior to Keynes for over a century, and the shift to
Keynesianism was difficult. Economists who contradicted the law, which inferred
that underemployment and underinvestment (coupled with over-saving) were
virtually impossible, risked losing their careers.[9]

Keynes's General Theory was published in 1936 and provoked considerable

controversy, yet according to professor Gordon Fletcher it rapidly conquered
professional opinion.[2]

For biographer Lord Skidelsky, the General Theory triggered a massive reaction
immediately after its release, with extensive reviews in journals and popular
newspapers all around the world. While many academics were critical, even the
harshest critics recognised there was a case to be answered. As with other
theoretical revolutions, the young were most receptive with some older economists
never fully accepting Keynes work, but by 1939 Keynes view had broadly gained
ascendancy both in Great Britain and the US.[10]
According to Murray Rothbard, an Austrian School economist strongly opposed to
Keynes:“ the General Theory was, at least in the short run, one of the most

dazzlingly successful books of all time. In a few short years, his "revolutionary"
theory had conquered the economics profession and soon had transformed public
policy, while old-fashioned economics was swept, unhonored and unsung, into the
dustbin of history. ”

Rothbard goes on to describe that by the end of the 1930s every single one of
Friedrich Hayek's followers at the LSE was convinced by Keynes ideas – all
economists who had previously opposed Keynes advocacy of state intervention in
the economy.[11]

Despite Keynes's early success, the revolutionary effect on theoretical economics

was soon diminished. From the late 1930s, a process began to reconcile the General
Theory with the classical ways of viewing the economy - developments which
included Neo-Keynesian and later New Keynesian economics.

An alternative take was advocated at the dawning of the revolution by Dennis

Robertson, who Fletcher has described as the most intellectually formidable of
Keynes's contemporary critics. This view held that the great excitement triggered
by the General Theory was unjustified – that genuinely new ideas presented were
overstated and not supported by evidence, while the verifiable ideas were merely
well-established principles dressed up in new ways. According to Hyman Minsky,
this position eventually became dominant in mainstream academia, though it is by
no means unchallenged. [12]

[edit]

Origins

"Capitalism is the astounding belief that the most wickedest of men will do the most
wickedest of things for the greatest good of everyone."

— John Maynard Keynes [13]

Lord Skidelsky has written that Keynes's motivation for the revolution arose from
the failure of the British economy to recover from its post World War I recession in
the manner predicted by classical economics – throughout the 1920s British
unemployment remained at historically high levels not previously seen since a brief
period in the aftermath of the Napoleonic Wars.[10] Skidelsky notes a December
1922 lecture to the British Institute of Bankers where Keynes noted that wages no
longer fell with prices in the classical fashion, due in part to the power of unions and
wage "stickiness".[10] Keynes recommended government intervention as the cure
for unemployment in this circumstance, a position he never deviated from though
he was to refine his thinking on what sort of intervention would work best. For Dr
Peter the revolution can be seen as dawning in 1924 which was when Keynes first
started advocating public works as a means by which the government could
stimulate the economy and tackle unemployment.[14]

[edit]

Policy

While much attention is given to the impact on academic economics, the revolution
also had a practical dimension. It influenced decision makers in governments,
central banks and global institutions like the IMF. According to Lord Skidelsky, the
revolution began in policy making terms as early as December 1930, with Keynes's
participation in the Macmillan Committee on Finance and Industry.[10] The
Committee had been formed to make policy recommendations for Britain's
economic recovery - while Keynes plans for an interventionist response were
rejected, he did succeed in convincing the government that the classical conception
that wages would drop along with prices and thus help to restore employment after
a recession was wrong.[10] The first government to adopt Keynesian demand
management policies was Sweden in the 1930s.[15] [16] Keynes has some
influence on President Roosevelt's 1933-1936 New Deal ,though this package was
not as radical or as sustained as Keynes had wished.[10] After 1939 Keynes's ideas
were adopted more whole heartedly by policy makers in the developed world,
especially the Anglo-Saxon countries. Keynesian thinking was so often the dominant
influence on policy making throughout the late 1940s, 50s, and most of the 60s that
this period has been called the Age of Keynes. [17] [18] From the late sixties
Keynes's influence was displaced following the success of "counter revolutionary"
efforts by economists like Milton Friedman and others sympathetic to the free
market. Following the financial crises in 2008, there has been a revival in Keynesian
thinking among policy makers in favour of robust government intervention, which
the Financial Times has described as a "stunning reversal of the orthodoxy of the
past several decades".[19]

[edit]
Textbooks

The importance and history of textbooks is less-studied than other aspects of the
Keynesian revolution, but some argue that it is of fundamental importance.[20]

In the United States, the 1948 textbook Economics by Paul Samuelson was the key
textbook that spread the Keynesian revolution. It was not however the first
Keynesian textbook, being preceded by the 1947 The Elements of Economics, by
Lorie Tarshis. Tarshis's book, the first American textbook to discuss Keynesian
ideas, was initially widely adopted, but was subsequently attacked by American
conservatives (as part of the Second Red Scare, or McCarthyism), donors to
universities withheld donations, and subsequently the text was largely withdrawn.
[20] Tarshis's text was subsequently attacked in the 1951 God and Man at Yale by
American conservative William F. Buckley, Jr.

Samuelson's Economics was also subject to "conservative business pressuring" and

accusations of Communism, but the attacks were less "virulen[t]" and Economics
became established.[21] The success of Samuelson's book is attributed to various
factors, notably Samuelson's dispassionate, scientific style, in contrast to Tarshis's
more engaged style. Subsequent texts have followed Samuelson's style.

[edit]

The revolution that never was

According to post Keynesian economists and some others such as Charles

Goodhart, in the academic sphere the so called revolution failed to properly get off
the ground, with neo Keynesian economics being Keynesian in name only.[22] Such
critics have held that Keynes thinking was misunderstood or misrepresented by the
revolutions leading popularisers, the founders of neo Keynesian economics such as
John Hicks and Paul Samuelson.[2] The post Keynesians felt neo Keynesianism
excessively compromised with the classical view. For Paul Davidson the revolution
was "aborted"[23] in its early years ; for Hyman Minsky it was "still born";[12] while
for Joan Robinson the revolution led to a "bastard Keynesianism".[12]

A suggested reason for the distortion is the central role John Hicks's IS/LM model
played in helping other economists understand Keynes's theory – for post
Keynesians, and by the 1970s even Hicks himself, the model distorted Keynes
vision.[23]

A second reason offered is the attacks on the more progressive expressions of

Keynes views that occurred due to McCarthyism. For example, while initially
popular, Lorie Tarshis's 1947 text book introducing Keynes ideas, The elements of
economics was soon under heavily attacked by those influenced by McCarthy.[23]
The books place as a leading text book for Keynes ideas in America was taken by
Paul Samuelsons Principles of Economics . According to Davidson, Samuelson failed
to understand one of the key pillars of the revolution, the refutation ergodic axiom
(i.e. saying that economic decision makers are always confronted by uncertainty -
the past isnt a reliable predictor of the future).[23]

Economists Robert Shiller and George Akerlof re-asserted the importance of

recognising uncertainty in their 2009 book Animal Spirits.

Another reason for the distortion of Keynes views was his low level of participation
in the intellectual debates that followed the publication of his General Theory, first
due to his heart-attack in 1937 and then due to his busyness with the war.[12] Its
been suggested by Lord Skidelsky that apart aside from his busyness and
incapacity, Keynes didn't challenge models like IS/LM as he perceived that from a
pragmatic point of view they would be a useful compromise.[10]

[edit]

Significance

Professor Gordon Fletcher stated that Keynes' General Theory provided a

conceptual justification for policies of government intervention in economic affairs
which was lacking in the established economics of the day - immensely significant
as in the absence of a proper theoretical underpinning there was a danger that ad
hoc policies of moderate intervention would be overtaken by extremist solutions, as
had already happened in much of Europe back in the 1930s before the revolution
was launched.[2] Almost 80 years later in 2009, Keynes ideas were once again a
central inspiration for the global response to the Financial crisis of 2007–2010.[24]
[25]

[edit]

See alsoJohn Maynard Keynes

2008-2009 Keynesian resurgence

Post-war displacement of Keynesianism Keynesian economics

Paradigm Shift

[edit]

Notes and references

^ Klein, Lawrence (1947), The Keynesian Revolution, ISBN 0-333-08131-5

^ a b c d Fletcher, Gordon (1989). "Introduction". The Keynesian Revolution and Its

Critics: Issues of Theory and Policy for the Monetary Production Economy. Palgrave
MacMillan. pp. passim, esp. xix, xx.

^ John Woods, ed (1970). Milton Friedman: Critical Assessments. 2. Routledge. pp.

73.

^ John Woods, Ronald Woods. Milton Friedman: Critical Assessments on Google

Books. Google Books. Retrieved 2008-02-10.

^ Sometimes in sources discussing the revolution, neoclassical economics called is

just plain classical.

^ The "monetarist revolution" in monetary theory, Karl Brunner, Review of World

Economics (Weltwirtschaftliches Archiv), 1970, vol. 105, issue 1, pages 1-30

^ Keynes, J.M (1973). Donald Moggeridge. ed. The Collected Writings of J. M.

Keynes. XIV. London: Macmillan for the Royal Economic Society. pp. 492–493.

^ Shaw, Keith (1988). "9". Keynesian Economics: The Permanent Revolution.

Edward Elgar Publishing Ltd. pp. 142.

^ JM Galbraith. (1975). Money: Whence It Came, Where It Went, p. 223. Houghton

Mifflin.

^ a b c d e f g Skidelsky, Robert (2003). John Maynard Keynes: 1883-1946:

Economist, Philosopher, Statesman. Pan MacMillan Ltd. pp. 316 , 419–426. ISBN 0
330 48878 8.

^ Murray Rothbard. "Keynes the man". Ludwig von Mises Institute. Retrieved 2009-
06-13.

^ a b c d Hyman Minsky. John Maynard Keynes , chapter 1. Google Books and

McGraw-Hill Professional. Retrieved 2009-06-13.
^ The Origin of Wealth: Evolution, Complexity, and the Radical Remaking of
Economics, by Eric D. Beinhocker, Harvard Business Press, 2006, ISBN 157851777X,
pg 408

^ Paul Addison. "The Intellectual Origins of the Keynesian Revolution". Oxford

Journals. Retrieved 2008-11-30.

^ Anders Åslund. "The Group of 20 must be stopped". The Financial Times.

Retrieved 2008-11-30.

^ Otto Steiger. "Bertil Ohlin and the origins of the Keynesian Revolution". Duke
University Press. Retrieved 2008-11-30.

^ Meghnad Desai (2002) (Google Books). Marx's Revenge: The Resurgence of

Capitalism and the Death of Statist Socialism,. Verso. pp. 216. ISBN 1859844294.

^ By Terence Ball, Richard Paul Bellamy (2002) (Google Books). The Cambridge
history of twentieth-century political thought. Cambridge University Press. pp. 45.
ISBN 1859844294.

^ Chris Giles in London, Ralph Atkins in Frankfurt and,Krishna Guha in Washington.

"The undeniable shift to Keynes". The Financial Times. Retrieved 2008-01-23.

^ a b (Colander & Landreth 1998)

^ (Colander & Landreth 1998, p. 11–13, especially p. 12, footnote 33)

^ Charles Goodhart (2010). "4 - Macroeconomic failiures". In Robert Skidelsky and

christian Westerlind Wigstrom. the Economic crisis and the state of economics..
Palgrave MacMillan. pp. 53. ISBN 9780230102545.

^ a b c d Paul Davidson (2009). The Keynes Solution: The Path to Global Economic
Prosperity. Palgrave Macmillan. pp. 161–169. ISBN 978-0230619203.

^ Sudeep Reddy (2009-01-08). "The New Old Big Thing in Economics: J.M. Keynes".
The Wall street Journal. Archived from the original on 2009-06-10. Retrieved 2009-
03-12.

^ Sumita Kale. "A global Keynesian revival". livemint.com in partnership with The
Wall Street Journal. Retrieved 2009-01-23.

Colander, David C.; Landreth, Harry H. (February 1996), The Coming of

Keynesianism to America: Conversation With the Founders of Keynesian Economics,
Edward Elgar, ISBN 978-1-85898087-4, softcover 1997, ISBN 978-1-85898602-9

Colander, David; Landreth, Harry (1998), "Political Influence on the Textbook

Keynesian Revolution: God, Man, and Laurie (sic) Tarshis at Yale", in O.F. Hamouda
and B.B. Price, Keynesianism and the Keynesian Revolution in America: A Memorial
Volume in Honour of Lorie Tarshis, Cheltenham: Edward Elgar, pp. 59–72

Categories: Keynesian economics

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The concept of equilibrium: a key theoretical element in Keynes' revolution

Atlantic Economic Journal, Sept, 2004 by L.E. Johnson, Robert D. Ley, Thomas Cate

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The third implication of the neoclassical orthodoxy's concept of equilibrium is that

consumer welfare will be maximized since each consumer optimizes his or her
welfare in equilibrium. Therefore, this concept of equilibrium implied a normative
ideal whereby individual welfare, measured in terms of utility, would be maximized
given any distribution of income. However, as noted above, Keynes' concept of
equilibrium was ethically neutral in that it did not imply that total social welfare
would be maximized given any distribution of income. Again, this is a result of the
fact that market-clearing in Keynes' concept of equilibrium does not imply
optimization. For Keynes, macroeconomic equilibrium is merely where the system
comes to rest, which is achieved when the opposing theoretical forces in the model
are in balance. In the basic model contained in the General Theory, the opposing
forces are the decision makers in households that determine the division of their
disposable income between planned consumption and saving, and business
decision makers who must determine planned investment. When the plans of these
opposing forces are in balance, the sum of ex ante leakages will equal the sum of
ex ante injections into the income stream. All markets will clear, with or without
flexible wages and/or prices, and macroeconomic equilibrium is reached, with or
without, full employment.

Because his notion of equilibrium and market-clearing attacks the very idea of the
efficiency of market processes, Keynes' concept of equilibrium and its definition of
market-clearing represents a significant aspect of his attack on the neoclassical
orthodoxy of his day. The General Theory, with his concept of equilibrium and
market-clearing, clearly articulated his perceived limitations of efficiency
economics. As such, this feature of Keynes' equilibrium is another important
component in his second line of attack on the neoclassical model.

Conclusion

The theoretical goal of the General Theory and a major reason Keynes thought the
book would create a revolution in economics, was his attack on the so-called
classical model. A number of key theoretical elements emerged from Keynes' two
lines of attack on the neoclassical orthodoxy of his day, and these elements
constituted the theoretical core of the General Theory. This core was generalized
into a coherent message that less than full employment in equilibrium was not only
possible, but could well represent the norm in a market-capitalist economy. This
paper presents Keynes' concept of equilibrium, which was one key theoretical
element that constituted the core of the General Theory and was critical in his two
lines of attack on the neoclassical model. Keynes' concept of equilibrium differed in
structure, content, and purpose from that of the neoclassical orthodoxy. Moreover,
there were four unique features of Keynes' notion of equilibrium, and these features
all reflect his overriding focus on involuntary unemployment.

Footnotes

(1) This paper is concerned exclusively with the economics of Keynes and not the
various divergent views of Keynesian economics or Post-Keynesian economics. The
authors are concerned only with what Keynes said or meant and not with what he
could have said or should have said [Johnson, 1980, 1983; Blaugh, 1985, 2001,
2003].