Keynesian economics is an economic theory developed by British economist John Maynard Keynes in response to the Great Depression of the 1930s Keynesian economics suggests that aggregate demand, or spending across all sectors of an economy, is the most powerful determinant of economic health. Rather than relying on the free-market to regulate itself and achieve prosperity, Keynes argued that governments should intervene to increase spending and lessen the effects of recessions and depressions. This interventionist approach is known as fiscal policy and often involves increasing government spending or decreasing taxes in order to increase total demand in an economy.
Keynesian economics is often used to encourage economic growth. By decreasing taxes, providing subsidies, and increasing government spending, governments can stimulate demand and bring more money into their economies. This increased spending can lead to more jobs, higher wages, and increased economic activity. In addition, governments can use fiscal policy to prevent recessions. Fiscal stimulus can be employed to avert recessions by ensuring that economic growth remains steady and that businesses continue to hire and invest.
Example 1: The 2008-2009 Financial Crisis. Following the collapse of the real estate market, home prices and stock markets began to decline. To halt this decline, governments around the world employed fiscal stimulus packages consisting of increased government spending and tax cuts. These measures helped to increase aggregate demand and prevented further economic collapse.
Example 2: Stimulated Economic Growth. The UK government used expansionary fiscal policy in 2010 to stimulate economic growth following the Great Recession. The government increased spending on public works projects and implemented tax cuts for low- and middle-income earners in an attempt to increase overall economic activity and encourage businesses to invest and hire.
Example 3: Stimulating the Housing Market. In 2013, the US government implemented a number of fiscal stimulus measures in an attempt to stimulate the housing market. Measures such as temporary tax breaks for homebuyers and government-backed lending programs were implemented in an effort to encourage people to purchase houses and strengthen the housing market.
Example 4: Increasing Employment. Following the economic downturn of 2008, the governments of many countries implemented fiscal stimulus packages in an effort to increase employment. These packages included increased spending on infrastructure projects, increased investments in the technology and manufacturing sectors, and tax cuts for businesses to encourage them to hire more workers.
Example 5: Preventing a Recession. During slow economic times, governments may attempt to avert a recession with fiscal stimulus packages. This involves increasing government spending on infrastructure projects and providing tax incentives to businesses to encourage them to invest and hire more workers. This can help to prevent an economic downturn by increasing aggregate demand and keeping economic growth steady.