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Keynesian Model and Macroeconomic policy - Essay Example

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This essay talks about the Keynesian-monetary transmission mechanism, through which a change in money supply affects real output, according to the IS-LM model. Keynesians emphasize the role of interest rates and investment spending as for changes of money supply that affect real output…
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Keynesian Model and Macroeconomic policy
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Keynesian Model and Macroeconomic policy

Download file to see previous pages... This essay outlines main foundations of the theory of John Maynand Keynes, one of the most renowned economic thinker of all time. According to his theory, aggregate demand is subject to periodic changes caused by changes in the determinants of aggregate demand.Aggregate demand is unstable because prices and wages are downwardly inflexible. This decline has no effect on price level but real output falls and can remain at its equilibrium indefinitely. It is necessary for governments to intervene and manage the level of demand in the economy in order to obtain and retain full employment. In other words, unless careful measures are taken to offset increase in aggregate demand, real output may remain below full employment.

At times of recession, high unemployment levels, and low investments in new equipments and machinery together with low levels of technology characterize the economy.
When in a recession, Aggregate demand is low in that the sales are low, high unemployment that the jobs suffer meaning that the population has no money ad therefore low spending. To recover from a recession, private business investments and governments hold the key because the consumers have limited amounts of money in their hands and therefore they are not the cause of ups and downs of the business cycle. To remedy a recession, the Keynesians can enlarge the levels of investments in the economy or the governments can create public substitutes for the shortages in private investments because the government provides some utility goods for free.
Also if the economy contractions are mild, the interest rates can be reduced to induce more borrowing and provide easy credit/loan. This will help to stimulate private investment and restore aggregate demand to a level rhyming with full employment. For severe contractions, the Sterner remedy of deliberate budget deficits can be employed either in the form of spending on public works e.g. free education, health, transport or subsidizing the consumer.
A fiscal policy is a government activity that concerns taxation and public spending. These are the government's tools in their hands in economic policies like maintaining economic growth. A fiscal policy can be expansionary or contractionary.
Expansionary fiscal policy
In this case GDP expands. Usually the government reduces/cut the taxation level. ...Download file to see next pagesRead More
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