KEYNESIAN AND OTHER THEORIES OF INTEREST COMPARED

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KEYNESIAN AND OTHER THEORIES OF INTEREST COMPARED 

Keynesian Classical Theory The Keynesian Theory differs from the Classical’ Theory in the following respects  Ii) The classical theory applies to a situation of full employment and constant national income, whereas the Keynesian Theory assumes an equilibrium with less than full employment, where both employment and income are fluctuating. (ii) The second difference derived from the first is that since in the classical theory income is assumed to be constant, saving is also regarded as fixed and the rate of interest is determined by investment demand curve. It is the rate of interest which brings about equality between saving and investment. On the other hand, according to the Keynesian theory, there is a separate savings curve corresponding to each level of income and employment and the rate of interest is determined by the intersection of the liquidity preference and money supply schedule. (iii) The classical theory regards the available funds as the supply factor, whereas Keynes treats them as a demand factor since they are determined by people’s liquidity preference. (iv) Keynesian saving is out of income. Therefore. according to Keynes, higher rate of interest will not increase savings as is the belief of the classical economists, because it will discourage investment and so decrease income out of which saving has to come. According to the view of the classical economists, saving automatically leads to investment, But Keynes held quite the opposite view, viz.. investment result in saving out of current income. In the classical view, investment could be increased by saving more, but according to keynes it is investment which determines the volume of saving through the multiplier process. The classicals confused the amount saved with propensity to save .

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KEYNESIAN AND OTHER THEORIES OF INTEREST COMPARED