Introduction
A discussion among the classical economists and the Keynesian economists continues on the government intervention in the free markets. According to the classical economists, the free market mechanism can develop solutions for the crisis in the market if there is no external influence on the markets. The Keynesian economy merely expresses that the free market economy carries the risk of generating crises and undesired deficit or surplus in the economy when the demand cannot clear the supply (Posner 234-252). The discussion on the government intervention is changing direction each time the world economy suffers from a global crisis becomes popular.
Keynes developed a response to the economic crisis in the 1930s. The effective demand was weak, and for stimulating the aggregate demand, Keynes suggested to increase the government spending for starting the first move in the economy. Keynes did not develop an alternative to the capitalistic economy. His suggestion was to fix the broken part of the free market economy. In his time, the economy suffered from the unsatisfactory demand, and he recommended the economy management to stimulate the effective demand (Hunt and Lautzenheiser 398-426).
Is it possible to generalize his economy policy suggestions to the whole crises experienced in the 1930s, 1970s, and eventually 2008? In general, all these crises have caused a decrease in the effective demand, and the loss of trust for the free market economy was the common facts. However, each crisis has its characteristics.
Taking the differences of the features of the crises into consideration, the answer might be "no." However, considering that Keynes' main suggestion was the followings, we might say "yes" to the question: 1-the free market economy might have harsh times, and the price mechanism even in the markets close to the perfect competition might cause troubles, and 2-the markets not working properly might cause a loss of trust among the agents, and this situation can create a negative psychological influence which is tough to cope with. As known, Keynes and his followers have developed a psychological aspect of the economy science. The expectations of the agents in the economy are an essential factor in the management of the economy. The expectations might support the economic policies, or the expectations might be a factor creating barriers in front of the economic policies. Therefore, developing control over the expectations of the individuals has a high importance (Connolly 206-216).
In this essay, I will discuss whether the crises with the different characteristics of the free market economy could be cured by the Keynesian economic policies. It is possible to develop different perspectives on this issue. In this paper, I will try to analyze the characteristics of the crises at the various time intervals. Depending on this analysis, I will try to develop an answer whether the Keynesian approach can be generalized. The economic crises are classified into to two main groups: 1-Demand Sided crisis, and 2-Supply-sided crisis. Therefore, research has to develop an approach including both, the demand-sided, and the supply-sided characteristics of the crises. Developing an economic recovery plan for an economic crisis requires developing a proper understanding of what happens in the free markets.
The Global Economic Crises
In this paper, I will analyze three global economic crises experienced in the past: the crisis in the 1930s, the crisis in 1970s, and the most recent world financial crisis started in 2007 in the US, and spread to all around the world. These three crises are the ones influenced the world economy, and they reshaped the economic theory. The discussion among the classical economists and the Keynesian economists has developed responses to the questions related to these crises. Every new crisis has forced the economists to develop their theories. The economists cannot foresee the crises in the future but they can create theoretical explanations for the crises, and it becomes possible to understand how to restructure the economies.
The great depression in the 1930s has been one of the most important challenges for the capitalistic economies. The crisis started in the agricultural production industry in the US. The adverse climate conditions influenced the farmers' production, and they could not get enough crops to pay their credits. The significant financial break in the economy spread to the financial institutions, and the financial system in the US collapsed. The fall of the financial markets in the US spread to the other industries in the US. The crisis in the US influenced the European economies, and we had a global economic crisis.
The financial crisis in the 1930s created adverse psychology among the agents in the markets. The agents were pessimistic about the future, and the aggregate demand fell dramatically. The sharp decrease in the consumption was reflected the investment expenditures. Subsequently, the low demand for the goods and services caused a decline of the production.
The great depression proved that the free market economy cannot clear the markets all the time. According to the classical economic theory, the market powers negotiate over the market price, and the market price is a price that clears the markets. In another word, the free market mechanism creates the best suitable conditions for all the agents in the economy including the sellers, the producers, and the consumers. In the great depression, the market mechanism could not clear the markets. The farmers started producing normal when the climate conditions allowed them; however, it was not possible for them to sell their products in the markets.
The great depression was a demand-sided trouble in the economy. Keynes analyzed the situation, and he made his most essential contribution by thinking on the expectation and its influence on the economic behaviors. He defined the term of effective demand. According to him, stimulating the effective demand once, the economy could start working again. For doing this, he suggested to increase the government spending and increase the prices in the economy. The growth in the economy would stimulate the producers and the investors. The government spending would give the opportunity for the consumers to have an income to spend (Lavoie 539-562).
Keynes did not develop his economic stimulation model for the long term. He mentioned implementing the expansionary fiscal policy shortly. After the stimulation had occurred, it was not necessary to pursue the expansionary fiscal policies. However, he expressed that the government had to monitor and intervene in the economy in case of irregularities might occur in the free markets. Therefore, Keynes did not suggest controlling the markets strictly. His suggestion was to help the market mechanism fix the broken part of the economy by the assistance of the governments.
Keynes did not suggest implementing the expansionary monetary policy because he believed that the monetary policy could create permanent harms in the economy. The monetary expansion could create a high inflation because the demand generated by the monetary expansion would not depend on the production. Also, the monetary expansion could cause a liquidity trap in the economy. Printing relatively more money would deepen the liquidity trap. The interest rates would drop in the short term; however, in the long run, it would create high-interest rates, and the investment expenditure could fall drastically in the long term. Although Keynes did not suggest the monetary policies, he did not mention anything about not implementing the monetary policy in the long term.
The crisis in the 1970s was dependent on the high prices of petroleum products. The OPEC, the oligopolistic international association of the oil producer countries, decided to increase the prices. As known, the petroleum products have been the primary import for the developed countries and the developing countries to increase their industrial production. Therefore, the changes in the prices of the petroleum products influence the national economies directly. The increase in the prices of the oil increased the costs of production. This situation caused a jump in the inflation rates, and the equilibrium between the supply and the demand has been disturbed. The new equilibrium was unstable.
The crisis in the 1970s was a supply-sided crisis. The increase in the production costs started the disequilibrium, and the amount of produced goods decreased. At the same time, the government debts rose, and this created pressure on the interest rates. This situation is called stagflation. The interest rates were high when the inflation rate was high. Therefore, intervening the markets by implementing only monetary policy or only fiscal policies did not solve the problem. Consequently, a solution developed which was the mixture of the fiscal policies and the monetary policies. Controlling the inflation rate and the interest rate simultaneously was not possible. Using the monetary policy and the fiscal policy simultaneously was necessary for coping with the stagflation.
The most recent global financial crisis carries completely different characteristics. The crisis started in the sub-prime mortgage markets in the US in 2007. The mortgage credits have been very popular in the US until the crisis has begun. The collapse of the insurance market serving the mortgage credits market was the first step in the crisis. The crisis was spread to the mortgage credits markets Secondly and to the financial markets. The large financial institutions struggled against the crisis, and without the bail-out recovery policy, they could declare their bankruptcy. The recovery policy developed by the American economy management has had short term, middle term, and long term goals. In the short term, they tried to soothe the economy and decrease the adverse influence of the global financial crisis on the individuals and the businesses. In the middle term, they aimed at developing a solution for the businesses to continue operating. In the long term, the goal is to increase the number of new entrepreneurs in the markets and provide a sustainable business environment for them.
The last crisis caused a structural brake in the economy managements and the theoretical economics. The last crisis has different characteristics from the previous crises. The developed economies of the world have suffered although they have had a well-developed economic structure, high-quality labor, and high-technology knowledge-producing capacity. The markets in the developed economies have created price bubbles, and the relation between the values of the goods was differentiated from the market values. Subsequently, a supply surplus has occurred in the markets, and the demand has gone down to a very low level. Stimulating the domestic demand has been one of the most difficult challenges the developed countries faced. Although the central banks of the developed countries have kept the interest rate at a very low level to stimulate the domestic demand, the demander has not changed their decisions. Depending on the weak demand in the markets, the inflation rate has stayed at a very low level.
The main reason behind the crisis is that many people have lost their high-salary paying jobs, and their houses. Many young people have moved back to their parents' homes to decrease their life expenses. These facts indicate that the agents including the consumers and the investors have a pessimistic approach to the ongoing problems in the developed economies. Especially, because the rival Asian countries have comparatively more advantageous position in terms of production, the investors in the Western developed economies are relatively more pessimistic about the recovery from the adverse influences of the global financial crisis (Panayotakis 7-33).
The crisis in 1930s was a demand-sided one, and the demand stimulating expansionary fiscal policy worked. The crisis in 1970s was supply-sided crisis, and a mixture of fiscal and monetary policies worked. However, the most recent global financial crisis is involved with the domestic demand, the exports, the international flow of the capital, the production, and break in the individual decision-making processes. Therefore, developing a recovery strategy has not been successful in the developed countries even if some developed countries have recovered at a certain level.
Conclusion
Keynes made two essential contributions to the theoretical economics though he was not a complete theoretician: 1-The free market economy can cause some breaks and crisis; therefore, the state has to take the responsibility for securing the stability in the markets by developing proper interventions, and 2-The expectations play an important role in the economic decision-making processes at micro and macro levels; therefore, managing the expectations is important. The Keynesian approach can be applicable to the most recent global financial crisis because the main driving force in the last global financial crisis is the pessimistic expectations among the agents in the Western developed economies. Taking the Keynesian approach as only a method of stimulating the active demand by implementing expansionary fiscal policies is completely wrong. This strategy was developed for 1930s, and Keynes's main contribution was not this strategy. The strategy was an extension of his main ideas.
Keynes was right that the expectations in the economies have to be understood well, and there should be some tools to manage the expectations. As known, the central banks, and the economy managements use some tools and media for managing the expectations. Nowadays, a possible solution has to include a relatively better and more detailed understanding of the individual decision making processes, and managing the expectations.
Another significant contribution by Keynes was the need for monitoring the markets and creating timely mannered interventions to the markets. The bubbles in the housing market have always been discussed; however, the information through watching the markets was not enough to expect the crisis. Consequently, Keynes is still right about that we need a relatively better monitoring at micro and macro level on the markets.
Works Cited
Connolly, Ellis. "Banking Crises And Economic Activity: Observations From Past Crises In Developed Countries*". Economic Papers: A journal of applied economics and policy 28.3 (2009): 206-216. Web.
Hunt, E. K and Mark Lautzenheiser. History Of Economic Thought: A Critical Perspective. 3rd ed. Armonk, N.Y.: M.E. Sharpe, 2011. Print.
Lavoie, Marc. "A Post Keynesian Approach To Consumer Choice". Journal of Post Keynesian Economics 16.4 (1994): 539-562. Web.
Panayotakis, Costas. "Capitalism, Socialism, And Economic Democracy: Reflections On Today's Crisis And Tomorrow's Possibilities". Capitalism Nature Socialism 21.4 (2010): 7-33. Web.
Posner, Richard A. A Failure Of Capitalism. Cambridge, Mass.: Harvard University Press, 2009. Print.
