Question

John is a Classical economist. He argues that in a downturn the government should step back and allow the economy to self-correct. Pedro is a Keynesian economist and argues that _____.

Answer 1

Pedro is a Keynesian economist and argues that in a downturn, state intervention is the key for economic recovery.

Keynesians believe that GDP (Gross Domestic Product) is positively influenced by aggregate demand. Hence, in order to boost GDP growth after a downturn,  the state should step in the economy by increasing public expenditure. This will help to create job positions, increase the disposable income of households and therefore increase overall demand for goods and services.

If more goods and services are demanded, the same cycle restarts as firms would hire more staff in order to increase production to a greater extent to meet the new necesities. The more people who is employed, the more income avilable to continue increasing private expenditure and investments, which in turn GDP and bring economic growth.

To make it clearer, the following is the GDP formula for a certain time period

GDP = Private Consumption + Private investment + Public expenditure + Exports - Imports