Model Answer
0 min readIntroduction
Keynesian economics, developed by John Maynard Keynes in the aftermath of the Great Depression, revolutionized macroeconomic thought by emphasizing the crucial role of aggregate demand in determining the level of economic activity. This challenged classical economics’ belief in self-correcting markets. Later, Nicholas Kaldor, a post-Keynesian economist, developed a model of income distribution that sought to explain how income shares between wages and profits are determined in the long run. Kaldor’s model, while extending beyond the short-run focus of Keynes, is fundamentally rooted in Keynesian principles, building upon its core assumptions and analytical framework. This answer will explore the ways in which Kaldor’s model can be considered a logical extension and, therefore, a fundamentally Keynesian theory.
Keynesian Foundations
To understand Kaldor’s model, it’s essential to revisit the core tenets of Keynesian economics. Keynes argued that effective demand – the total planned expenditure in an economy – is the primary driver of output and employment. This demand is composed of consumption (C), investment (I), government spending (G), and net exports (X-M). Crucially, Keynes emphasized that insufficient aggregate demand could lead to prolonged periods of unemployment and economic stagnation. The multiplier effect, a central concept, demonstrates how an initial change in spending can have a magnified impact on national income. Keynesian policy prescriptions focused on using fiscal and monetary policy to manage aggregate demand and stabilize the economy.
Kaldor’s Model of Income Distribution
Kaldor’s model, presented in his 1957 paper “A Model of Economic Growth,” attempts to explain the long-run distribution of income between wages and profits. The model posits that the share of profits in national income is determined by the ratio of savings to investment. Specifically, Kaldor argued that a higher rate of savings relative to investment leads to a higher profit share, while a higher rate of investment relative to savings leads to a higher wage share. This is because investment is financed by savings, and the distribution of income influences both.
The Keynesian Link: Savings, Investment, and Demand
The connection to Keynesian economics lies in the role of savings and investment as key components of aggregate demand. Keynes highlighted the importance of investment as a volatile component of demand, driven by ‘animal spirits’ and expectations. Kaldor builds on this by showing how investment and savings, influenced by income distribution, determine the long-run equilibrium.
- Propensity to Consume: Both models rely on the concept of the propensity to consume. Keynes’s consumption function (C = a + bY) is fundamental to understanding how changes in income affect consumption. Kaldor’s model implicitly incorporates this, as the level of wages (and therefore disposable income for workers) influences consumption and, consequently, aggregate demand.
- Role of Investment: Investment is central to both frameworks. In Keynesian theory, investment is a key driver of demand. In Kaldor’s model, the relationship between investment and savings determines the profit share. A higher investment rate, relative to savings, increases the demand for labor, pushing up wages and reducing the profit share.
- Effective Demand & Distribution: Kaldor’s model can be seen as an attempt to endogenize the distribution of income within a Keynesian framework. Keynes largely took income distribution as given, focusing on how to manage demand given a particular distribution. Kaldor, however, shows how the level of demand itself influences the distribution of income over time.
Comparing and Contrasting the Models
| Feature | Keynesian Model | Kaldor’s Model |
|---|---|---|
| Time Horizon | Short-run | Long-run |
| Focus | Aggregate Demand & Output | Income Distribution |
| Income Distribution | Largely exogenous | Endogenous, determined by savings/investment |
| Policy Implications | Fiscal & Monetary Policy to manage demand | Policies affecting savings & investment rates to influence distribution |
While Kaldor’s model extends the analysis to the long run and focuses on income distribution, it doesn’t abandon the core Keynesian principles. It builds upon the Keynesian understanding of the relationship between savings, investment, and aggregate demand. The model assumes that the economy operates below full employment, a key Keynesian assumption, and that changes in income distribution can affect the level of aggregate demand.
Limitations and Extensions
It’s important to note that Kaldor’s model has limitations. It simplifies the complexities of the real world and doesn’t fully account for factors like technological change, institutional structures, and international trade. However, subsequent developments in post-Keynesian economics have built upon Kaldor’s work, incorporating these factors to create more nuanced models of income distribution and economic growth.
Conclusion
In conclusion, Kaldor’s model of income distribution is fundamentally a Keynesian theory because it builds upon the core principles of Keynesian economics, particularly the importance of aggregate demand, the role of investment and savings, and the propensity to consume. While extending the analysis to the long run and focusing on income distribution, Kaldor’s model doesn’t reject the Keynesian framework but rather endogenizes a key variable – income distribution – within it. This makes it a valuable contribution to post-Keynesian thought and provides a useful framework for understanding the dynamics of income distribution in modern economies.
Answer Length
This is a comprehensive model answer for learning purposes and may exceed the word limit. In the exam, always adhere to the prescribed word count.