As mentioned earlier, Keynesian model has been in and out of system several times. Many economists have worked on it and kept on improving it. The main drawback of Keynesian model is that it is proposed mainly keeping in mind the economy of world during 1930’s, where great depression hit the world severely (Blyth, 2009).
During recent recession in 2008-09, Keynes views on economy again came in light. Jack Oanh (2009), economics professor at Trinity College in his work “Keynes today”, refined theory
As consumer spending is a part of income, while producer spending is a part of interest rates, variations in interests’ rates or income of consumers will lead to change in gross domestic product/ national income. (Glasman, 2012)
After World War 2, American government has made lot of changes in economy. Especially during 1960’s, the implementation of Keynes views was very successful during recession. Time magazine (1965) in its cover story titled ‘We Are All Keynesians Now’ Analysed that America is enjoying it’s the best 5th consecutive year of the most prolonged, trusted and widely distributed economy in history of United states by following Keynes ideas.”
In 1970’s government again stopped being in Keynesian path because, following Keynesian to build long run in business cycle has become impossible. From then, every time Keynes models applied it is re-evaluated and applied to the economy. His ideas say that economy should not be self-regulating. When economy is left freely at the time of recession, than it can enter death spiral in recession periods, which was the case of 2008-09. ( Ovans 2009).
Criticism on Keynesian model
Some Economists still criticise this model by Keynes, especially Hayekians. Paul Krugman(2007), one of the followers of Keynes who has won Nobel Prize in economics field reported that “If government involvement and spending can help improve employment and purchasing power, than why investments done in the past are not useful in nullifying the unemployment in present situation”. He calls them as bad investment on misguided ventures. He argues that if the government has spent on misguided ventures, pushing its people to the worst position than expected, why is there high unemployment rate? According to Keynes theory, employment rate should keep on increasing. But that’s not the scenario now and points out at Keynes postulates to be misguiding. (Economist, 2011)
Kevin HassettÂ (2011) complained that the total effect of Keynesian on GDP of the country is negative. According to Hassett, every stimulus like government spending, tax cuts, during depression has three but not two stages. When stimulus is given (Injection), GDP increases but gets economy to equilibrium and when stimulus is removed (withdrawals) GDP comes back to regular position. Now, the main effect takes place, public has to pay higher taxes or higher interest on ongoing borrowings. This causes further reduction in GDP. Thus, the effect of Keynes is negative in long run of economy. Some authors are in opinion that America doesn’t want to follow Keynesian theory anymore and that’s the reason that why Obama didn’t apply them. (Taylor, 2012)
According to economists at Austrian School of Economics (2011), Government spending can disturb the market prices. These disturbed prices can show false impact on GDP and hence on economy of the country. The decisions taken due to these false factors can imbalance consumption and investment. These imbalances don’t show any immediate effect of economy disruptions but its effect would be on large scale in near future. For example, sub-prime crisis in 2008-09 which were due to credit induced bad investment.
Keynes as already discussed has proposed this income expenditure model at the time of deep crisis prevailing round the world. His main concept was not being in stable economy for long run but moving in to stable or equilibrium economy through certain actions from unstable economy. Though they were lot of criticisms against this model, it proved itself to be successful in many scenarios of recessions. By making certain modifications we can implement them successfully to bring equilibrium in real GDP.
Government should have regular update on the economy and should have optimum grip over it. Whenever government feels economy is running in bad conditions, then immediate action should be taken to prevent it. Keynes immediate idea was only this. He didn’t propose that whole countries economy should be controlled by government but, it should have enough power over it to control. Government spending should increase during time of recession to increase money circulation. But this spending should not be a bad investment on misguided ventures. This spending should be done very carefully, so that the spending is not just useful for temporary growth but, for future use as well.
But, for a country’s economy to run successfully in a long run a combination of Hayek’s and Keynes’s theory should be implemented based on that particular situation demanding. When a government feels that its spending can further ruin the economy of the country, it should step behind instead of spending on unwanted ventures. But when there is need for spending and feels that this spending can be helpful in future as well and doesn’t increase stress on economy than, it should go forward and continue it.(Taylor, 2012)
Tax cuts also should be done to limited extent and higher cuts in taxes can increase the savings of individuals and making money stagnant in their pockets. Thus the expected income and real income difference can increase to higher extent i.e. real income would be much smaller than expected. So, this is the reason why Keynes has proposed withdrawal and injection model as well to bring equilibrium among withdrawals and expenditures, which in turn brings real income to equilibrium position. Hence, Keynes income expenditure model shouldn’t be implemented as it is but it should be implemented by making certain changes under certain conditions and in combination with other post Keynesian theories to be successful.