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2013-10-21 The Keynesian-Welfare Approach to Economic Polic..
2013-10-21 The Keynesian-Welfare Approach to Economic Policy.docx

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Western University
Political Science
Political Science 2211E
Adam Harmes

The Keynesian-WelfareApproach to Economic Policy October 21, 2013 Video: Obama Campaign Ad: Read My Plan -Obama is criticizing Romney’s neoliberal, trickle-down economy plan -trickle down: if you benefit wealthy people, benefits will trickle down to the middle class -Obama’s policy reflects Keynesian, welfare approach Today’s Topics Origins of the Keynesian-welfareApproach (welfare economics/Keynesian economics) -Rationales for Government Intervention The Keynesian-WelfareApproach -Believes in market system -Advocates some intervention to correct ‘market failures’ -market failure: inefficient allocation of resources Market Failures -When free markets don’t work the way they’re supposed to -Creates a problem that free market won’t fix on its own -Creates rationale for intervention to correct failure -free market: supply match demand -supply and demand interact and create prices -something breaks down and the market is not working properly -free market believes it is working efficiently -in Keynesian’s view, the free market is not quite perfect and it is trying to correct that failure -using government intervention to make markets more efficient The Keynesian-WelfareApproach -Make markets more fair -Reduce inequality -Deal with social problems -Efficiency and ‘social justice’ -even if free markets are working the way they are supposed to be, they could lead to outcomes that are socially undesirable -can create political or social problems -aim to achieve social goals -Keynesian: fairness, fair trade, fair competition, social justice 1 -free market: freedom, free to choose -Keynesian approach is based on -Keynesian approach to macroeconomics -look at national economy -welfare economics: Keynesian approach to microeconomics -can be about individual actors Branches of Economics -Microeconomics -focus on producers and consumers and individual products -Macroeconomics -focus on the economy as whole -overall economic growth, inflation, financial crises, unemployment Welfare Economics -Arthur Pigou’s 1920 The Economics of Welfare -About welfare of society as a whole, nor welfare programs -Market system was most efficient but subject to failures -welfare/utility of society as whole -benefit greatest number of people -laws of supplies and demands create prices Welfare Economics -Sometimes prices don’t reflect product’s true value -Sends false signals to producers -Can lead to: -over-supply of bad products -produce a lot of pollution (cost to clean up pollution is not taken into account) -under-supply of good products -products more expensive than true cost -market system boils down to the invisible hand -prices indicate how much producers make and consumers how much they’re supposed to pay -problem: the prices are wrong -sends incorrect signal to produce -consumers might consume too much or too little -producers might produce too much or too little -free markets create market failures where the prices can be incorrect 2 Welfare Economics -Market failures create rationale for intervention -if no intervention, failures will go on and on -if prices don’t reflect balance between demand and supply, the failures would continue -left to own devices, market will not correct failures; potentially create more failures -Use taxes and subsidies to make prices reflect true cost of product -government raise money to fund programs, but a key thing is that -Invented use taxes to influence behaviours -Pigou: taxes can be used not just to raise money but to also influence behaviour Welfare Economics -Tax thing society doesn’t want (i.e. fattening food) -Higher price on those products (socially undesirable): would send signal to consumers to consume less of it -Subsidize things society does want (i.e. education) -“Pigouvian taxes and subsidies” -it’s mainly about influencing behaviour, not raising funds -e.g. cigarettes: taxes implemented to push people away from purchasing cigarettes -other examples: sugar, carbon tax -subsidies: government subsidize things they want more of -e.g. cost of education, renewable resources (wind power, solar power) Keynesian Economics -John Maynard Keynes’s 1936 General Theory of Employment, Interest and Money -Focus on market failures at macroeconomic level -Failure of high unemployment to self-correct -Pigou: microeconomics -Keynes: macroeconomics -free market predict that high unemployment during recession would self-correct, but Keynes disagree Recession -Stock or housing market crash (bubble) -market creates false sense of value to a value -prices keep rising -price of specific asset (e.g. gold, houses, etc.) gets way above what the asset is actually worth -people are not just buying houses to live in, they invest in it and eventually sell it and -later on, prices would fall and prices go back to equilibrium -problem: it’s such a big fall that it could create big problems 3 -Creates vicious circle of: -1. Falling confidence -falling consumer and business confidence -people spend less/don’t want to spend at all -businesses also spend less (time to be cautious) -2. Less Spending -3. Bankruptcies, layoffs, and unemployment -people are buying less goods = companies selling less goods -companies lay off employees = high unemployment = people file for bankruptcy -people who didn’t get laid-off would also not spend money Free Market Economics -High unemployment will self-correct -people can’t supply labour -Unemployment forces workers to lower wage demands -Employers then hire -they hire at lower wage -more and more people get hired = leads to self-correction -Only government intervention prevents lowering of wages - well-intentioned, but if government allows unions to protect workers and implement minimum wage, it would negatively affect the free market economy -prevents workers from demanding lower wage demands and blocks employers from hiring -when unemployment goes up, it should automatically self-correct Great Depression -Wages didn’t fall and unemployment didn’t self-correct as free market theory predicted -unemployment was up to 25% in US -didn’t self-correct as the classical liberal theory predicted -Was little government intervention or unions to explain why -didn’t have strong labour laws; unions were not remotely powerful Keynesian Economics -Keynes said free market theory treated people like other products -labour was just one more product (like shirts, books, etc.) -a unit you can analyze -Unlike products, people have families to feed and they don’t accept lower wages -labour = people -Reduced to clear fails -labour cannot be treated as a product -politics will always enter the equation -e.g. Greece 4 -government cut social programs, cut spending, cut regulations, in the hopes that wages will go down and unemployment rates will go down -however, unemployment was still high (at 25%) and they Keynesian Economics -Market might self-correct eventually -However, high unemployment or drastic wage cuts could lead to political revolution -“In the long run, we’re all dead” -e.g. Lenin and communism -this became a significant thing to worry about -Keynes: cannot allow Depression to go on -ultimately, free market will self-correct, but politics will intervene in medium term and would change the political environment Keynesian Economics -Lack of self-correction was a market failure -Created rationale for governmen
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