Question

Discuss the School of Economic Thought

Associated to the Cambridge School of Economics?

Answer 1

The Keynesian school of economic thought emerged from the thinking of a noted Cambridge economist John Maynard Keynes in the aftermath of Great Depression that took place in the 1930s.The latter was the worst economic downturn so far in the history of Industrialized countries.Classical and Neo-classical economists who propounded the idea of free markets (laissez- faire), failed to explain and to help the ailing economy overcome the harsh consequences of the economic hardships which affected industrialized countries.

In his paper The General theory of Employment,Interest and Money in 1936, Keynes introduced an entire new branch of economics (Macroeconomics) which explained the phenomena from the aggregate point of view.This is in contrast with Neo-classical thought that look at markets from 'micro' perspective only and downplays the role of government in determining optimum levels of prices, employment or interest rates for the economy as a whole.This is a broader view of seeing economics.Though principles introduced by neoclassical schools are still valid they are incomplete to explain problems of the entire economy and how to remedy them.Macro economic indicators such as GDP,inflation,unemployment etc are areas where 'general theory' were needed.The notion that if markets are left to its own will generate best possible outcomes due to 'invisible hand 'of market was rejected at this juncture,Keynes theory of government intervention to stabilize the economy was adopted which eventually helped the countries restore to better health.

Post war years (1945-1970), the two economic school of thoughts were in existence - In microeconomics, Neoclassical thought and in Macroeconomics,Keynesian thought.Some economists tried to combine the two theories, some felt there were areas of contention between the two.Since it was difficult to walk on two tracks, the reconciliation of theories failed and the outcome was again two school of economic thought.One of them was Chicago school that rejected the Keynesian school of economics altogether,another was Cambridge school of economic thought that rejected neo-classical thought altogether and resurrected the old classical theory to explain microeconomics with Keynesian thought explaining macroeconomics.Here we discuss the latter school of thought.

Cambridge school of economics takes a more fundamentalist view of Keynesian economics.They are also called as Neo-Ricardian as they borrow heavily from old classical school to understand microeconomics.Some of the economists of this school are; Nicholas Kaldor, Joan Robinson, Roy Harrod, Luigi Pasinetti, Abba Lerner,Alfred Marshall etc.
Here some of the features of this school of thought are mentioned below-

1.)Focus on the economy as a whole (macro).

2.)Is compatible with different micro theories.Here Old classical theories.

3.) Introduced multiplier effects of policy decisions on determining output levels.

4.)Accept Keynes theory that savings equals investment.Reject Says Law that supply will create its own demand.

5.)Levels of Aggregate demand is important for understanding business cycles.

6.)Everything is reducible to forces of supply and demand ultimately.

8.)The IS-LM framework that determines appropriate levels of interests and output.

9.) The Golden rule of Capital accumulation as major determinant of Output Growth.

Some of the policy suggestions are-

1.)Business cycles affect markets in ways such that economic hardships of persistent inflation and mass unemployment cannot be fixed by market by itself.So government spending and taxation used to glide economy in correct path.

2.)Government to intervene via fiscal policy to stabilize the economy.

3.) Introduce automatic stabilizers i.e. unemployment doles.

4.)Government's role is functional and not based on set of ideals(low deficits).

5.) Government influence aggregate demand to counter unfavourable business cycles.

6.) Government's role is not making petty regulations and enforcing them but a responsible role to proactively manage the entire economy in the best interests of the nation.

7.) Propensity to consume, inducement to invest , marginal efficiency of capital , liquidity preference ec. are some of the variables to look at while determining macro level policies.

8.) Forex targeting and interest rate targeting as measures to stabilize an open economy with capital flows.

Note: Though the literature on Cambridge school of thought can be expanded in more detailed format, I have, due to time constraint given a short summary of my take on this school of thought.Further I would recommend books by noted Cambridge economists to understand their perspective better.