¶ … Keynesian fiscal policy on the U.S. economy, we first need to understand that basics of this macroeconomic model. It is also important to remember that this economic model came at a time when the Great Depression had a grip on the U.S. industry and economy.
Economists of the 1930s called for further wage cuts to reduce unemployment and supported higher taxes so people would not "overconsume." John Maynard Keynes's theory was the total opposite and quite simple and practical.
If companies believe they can sell extra output, then they will hire more laborers. Conversely, if demand for their products declines, then they will cut back on production and lay workers off. The downside of layoff workers is that these consumers will have less money to spend and have a negative impact on demand, giving rise to continued unemployment.
This puts the economy is a vicious cycle of lowered demand and high unemployment. Companies by themselves cannot reverse this pattern and that's when government intervention is required. The government needs to intervene and push the economy back into a cycle of high demand and employment.
Of particular importance in the early years of the role of fiscal policy was that many of the early Keynesians (including Keynes himself) objected to the claim that the monetary policy was enough by itself to promise full employment. Interest rates had fallen considerably during the 1930s but even that was no enough to spur private investment. The logic here was easily understandable because even with so much excess capacity, the incentives to build were very little, even with cheap financing. That's why Keynesian fiscal policy focused on increased government spending and lowering taxes to help fill the gap.
It really was the impact of the Great Depression that that got Keynes thinking about income vs. expenditure models and their affect on the U.S. economy. The macroeconomists of the 1930's thought of events like the Great Depression as a "business cycle." Keynes' believed that was that changes in the autonomous components in expenditure, and saving and investment are the precipitators of economic fluctuations. His basic premise was that unemployment and depression lower consumption and thus production, which leads to increased unemployment...
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