General Economic theory

August 16, 2016
Economic Schools Neoclassical
was written by the English economist John Maynard Keynes. The book, generally considered to be his magnum opus, is largely credited with creating the terminology and shape of modern macroeconomics. Published in February 1936, it sought to bring about a revolution, commonly referred to as the "Keynesian Revolution", in the way economists thought, especially in relation to the proposition that a market economy tends naturally to restore itself to full employment after temporary shocks.

Regarded widely as the cornerstone of Keynesian thought, the book challenged the established classical economics and introduced important concepts such as the consumption function, the multiplier, the marginal efficiency of capital, the principle of effective demand and liquidity preference.


The central argument of The General Theory is that the level of employment is determined not by the price of labour, as in neoclassical economics, but by the spending of money (aggregate demand). Keynes argues that it is wrong to assume that competitive markets will, in the long run, deliver full employment or that full employment is the natural, self-righting, equilibrium state of a monetary economy. On the contrary, underemployment and underinvestment are likely to be the natural state unless active measures are taken. One implication of The General Theory is that an absence of competition is not the main issue regarding unemployment; even reducing wages or benefits has no major effect.

"I believe myself to be writing a book on economic theory which will largely revolutionize—not I suppose, at once but in the course of the next ten years—the way the world thinks about its economic problems. I can't expect you, or anyone else, to believe this at the present stage. But for myself I don't merely hope what I say, -in my own mind, I'm quite sure."


Keynes wrote four prefaces, to the English, German, Japanese and French editions, each with a slightly different emphasis. In the English preface, he addresses the book to his fellow economists but mentions he hopes it will be helpful to others who read it. He also claims that the connection between this book and his Treatise on Money, written five years earlier, will most likely be clearer to him than anyone else. Any contradictions should be viewed as an evolution of thought.

Book I: Introduction[edit]

The first book introduced what Keynes asserted would be a book that changed the way the world thinks.

  • Chapter 1: The General Theory (only half a page long) consists simply of this radical claim:

"I have called this book the General Theory of Employment, Interest and Money, placing the emphasis on the prefix general. The object of such a title is to contrast the character of my arguments and conclusions with those of the classical theory of the subject, upon which I was brought up and which dominates the economic thought, both practical and theoretical, of the governing and academic classes of this generation, as it has for a hundred years past. I shall argue that the postulates of the classical theory are applicable to a special case only and not to the general case, the situation which it assumes being a limiting point of the possible positions of equilibrium. Moreover, the characteristics of the special case assumed by the classical theory happen not to be those of the economic society in which we actually live, with the result that its teaching is misleading and disastrous if we attempt to apply it to the facts of experience." (p. 3)

  • Chapter 2: The Postulates of the Classical Economics
  • Chapter 3: The Principle of Effective Demand

Book II: Definitions and Ideas[edit]

  • Chapter 5. Expectation as Determining Output and Employment
  • Chapter 6. The Definition of Income, Saving and Investment
  • Chapter 7. The Meaning of Saving and Investment Further Considered

Book III: The Propensity to Consume[edit]

Book III moves to cover what causes people to consume, and therefore stimulate economic activity. In a depression, he argues, the government needs to kick start the economy's motor by doing anything necessary. In Chapter 10 he says,

"If the Treasury were to fill old bottles with banknotes, bury them at suitable depths in disused coalmines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again (the right to do so being obtained, of course, by tendering for leases of the note-bearing territory), there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is. It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing." (p. 129)

Book IV: The Inducement to Invest[edit]

The marginal efficiency of capital is the relationship between the prospective yield of an investment and its supply price or replacement cost. Keynes says on page 135: "I define the marginal efficiency of capital as being equal to that rate of discount which would make the present value of the series of annuities given by the returns expected from the capital-asset during its life just equal to its supply price."

  • Chapter 12. The State of Long-term Expectation
  • Chapter 13. The General Theory of the Rate of Interest
  • Chapter 14. The Classical Theory of the Rate of Interest
  • Chapter 15. The Psychological and Business Incentives to Liquidity
  • Chapter 16. Sundry Observations on the Nature of Capital
  • Chapter 17. The Essential Properties of Interest and Money
  • Chapter 18. The General Theory of Employment Re-stated
  • Chapter 20. The Employment Function
  • Chapter 21. The Theory of Prices

Book VI: Short Notes Suggested by the General Theory[edit]

"It is better that a man should tyrannise over his bank balance than over his fellow citizens and whilst the former is sometimes denounced as being but a means to the latter, sometimes at least it is an alternative." (p. 374)

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