The Great Depression

In the Great Depression the response of classical economists was to cut govt spending such as unemployment benefits to try and balance the budget. However the effect of this was to reduce AD further.

Keynes argued that in order to help the economy it was necessary for the govt to kick start the economy by injecting money into the economy. Keynes argued for public work schemes which would employ those who were unemployed they would then be able to spend money which would create other jobs in the economy.
This would cause a budget deficit but it was necessary.
Unfortunately Keynes was largely ignored until after the war, leading to high unemployment until the Second World War
Ironically the countries who were most successful in overcoming the great depression were military dictatorships who spent significant amounts on military spending

Diagram Showing Recession

depression

Paradox of Thrift:

In a recession Keynes noted that peoples psychology usually caused them to save more and spend less.
However this was exactly what the economy didn’t want, because it would reduce AD further. Therefore Keynes argued that it was the job of the govt to encourage people to spend.
See Fiscal Policy
Causes of Recessions

The Great Depression

Diagram Showing Recession

Essays and Revision Notes on Economic Growth