Keynesian economics is sound and based on concrete theory. Saving does exacerbate recessions, even though it seems counter intuitive. If savings (leakage) increases as people become more thrifty, and investments (injections) decrease as business do not foresee any point in capital expenditure then the aggregate expenditure will decline greatly.
Then there is an accumulation of inventory, which signals to producers to cut production. We know price-wages isn't completely liquid due to trade unions, contracts, minimum wage legislation, etc...so employment will go down.
People have less to spend and aggregate expenditure falls. So instead, government intervenes by bailing out companies and giving banks money. Thats my two cents from reading a text book anyway, but i see nothing wrong with Keynesian economics.
eladamrine
Depending upon which economic camp you sit in, Keynes is viewed either as a genius, or an idiot. I subscribe to the idiot school.
If we take your first point with regards to "savings." I'm simply going to reproduce some posts from my blog;
Saving is a term that tends to be misused, or used to mean different things, depending on who you might be talking to. Therefore we shall initially define what is meant by saving in economic terms.
We shall approach the savings rate from the perspective of the consumer. The consumer will allocate a percentage of their disposable income to saving. Thus they will deposit this excess cash into a savings account.
This cash, forms part of the Banks’ Balance Sheet, under, deposits. The Bank will be paying interest on this deposit to the consumer, thus to pay this interest, the bank must invest this money somewhere that will earn a higher rate of return.
Banks lend out their Balance Sheets to finance Capital Goods. Capital Goods increase the productivity of an economy. Through an increase in productivity, so the wealth of an economy is increased. To import goods, you must export goods to pay for the imports.
Therefore to increase production, if we simply allocated 20% of income to savings, the following results would accrue from this savings rate to productive capability.
Year…………………Total Production………………Consumer Goods…………….Capital Goods
1………………………….100………………………………….80……………………………..20
2………………………….102.5……………………………….82……………………………..20.5
3………………………….105…………………………………84………………………………21
4………………………….107.5………………………………86………………………………21.5
5…………………………110………………………………….88……………………………..22
6…………………………112.5……………………………….90………………………………22.5
7…………………………115…………………………………92……………………………….23
8…………………………117.5………………………………94……………………………….23.5
9…………………………120…………………………………96……………………………….24
10………………………..123.5………………………………98……………………………….24.5
11……………………….125………………………………..100……………………………….25
The first thing to notice is that “total production” increases each year due to saving. The saving has been used each year to replace or improve the capital goods population.
The problem or fear, and the one that we are currently experiencing is the sudden change, either increasing or decreasing, of consumer demand. A sudden increase, drives inflationary pressures from the resulting lack of consumer goods available. A sudden decrease, drives disinflationary pressure, due to excess consumer goods available.
This increase or decrease in consumer demand would be reflected by either an increase in savings or possible hoarding, or a decrease in savings, resulting in an inability to fund and therefore increase capital goods. Both scenarios however require the action to be sudden.
What if the investment opportunities are limited? That the savings continue to accumulate, but that there is no requirement by industry to increase capital goods. This is referred to as a stagnant growth period. The solution often proposed is one of government intervention. For government to expropriate the surplus savings via increased taxation, and spend it on creating jobs via [for example] infra-structure building. Is this a viable government policy? I will explore the ramifications in a follow-up post.
The hole in the argument is that “savings” can only exceed “investment” by the “hoarding rate.” The hoarding rate is [generally] insignificant. Today, we see the Banks due to decimation of their Balance Sheets, are potentially hoarding. If this were true, then an increased savings rate would move to repair their Balance Sheets, returning the savings/investment equilibrium.
This is only another way of saying that savings and investment constitute the supply and demand of the commodity known as money. The cost of this commodity is priced by the rate of interest.
When the rate of interest is lw, the demand for money will rise. The lower the rate of interest, the greater the demand, which at some point brings in the marginal borrower. The marginal borrower is most easily defined as the borrower who invests the money at a hurdle rate below the cost of that capital. Thus, by definition, destined to lose money.
This is of course the exact outcome that we are now experiencing due to the excessive policy of Chairman Greenspan. Easy Al, drew in the marginal borrower, who is now increasingly in default, which magnified by the leverage of the banks, has almost collapsed the banking system.
It is interesting that currently the solution, mirrors the causation. There is therefore a strong argument for removing the power of the Federal Reserve to “set” interest rates, and move to a self-adjusting natural rate as I proposed in a previous post.
To attract increased savings, the interest rate needs to be higher. With increased savings, the banks will recapitalise their Balance Sheets. The absolute rate is irrelevant to a bank that earns on a spread. With higher interest rates, marginal borrowers are eliminated, and we return to capital projects that again increase productivity.
In summary, savings are thus crucial to an economy as they are the means by which increased productivity, wealth and consumption can be increased incrementally over time.
http://leduc998.wordpress.com/2008/12/04/saving/#comments
I'll let you have a think about this part of my argument before addressing your other points.
jog on
duc