Tuesday 3 March 2009

Keynesian analysis of unemployment and inflation




In simply Keynesian theory, it is assumed that there will be a
maximum level of national output, and hence real income, that
can be obtained at any one time. If equilibrium level of income
is at this level, there will be no deficienc of aggregate demand
and hence no disequilibrium unemployment.

Full-employment level of national income is the level of national
income at which there is no deficiency demand.

Deflationary gap is the shortfall of national expenditure below
national income ( and injections below withdrawals) at the
full-employment level of national income.

As you can see on the diagram above if the equilibrium level
of national income (Ye) is below the full-employment level (Yf)
there will be excess capacity in the economy and hence
demand-deficient unemployment.

The inflationary gap is the excess of national expenditure over
income (and injections over withdrawals) at the full-employment
level of national income.

As you can see on the second diagram above if at the full-employment
level of income, national expenditure exceeds national income, there
will be a problem of excess demand.
Keynesians advocate an active policy of demand management:
raising aggregate demand (for example, by raising government
expenditure or lowering taxes) to close a deflationary gap and
reducing aggregate demand to close an inflationary gap.

1 comment:

chris sivewright said...

This is no longer in the syllabus

I have given Mary two questions on trade for you to consider