Keynes's Critique of the Classical Theory

The classical faith in automatic full employment collapsed during the Great Depression of the 1930s, when millions of willing workers remained unemployed for years and markets showed no sign of self-correcting. In his 1936 work, J. M. Keynes rejected the classical theory and offered a new explanation.

Keynes's main criticisms were:

• Say's Law does not always hold. Income earned is not automatically all spent. A part of income is saved, and there is no guarantee that intended saving will equal intended investment — the two decisions are taken by different people for different reasons. When planned saving exceeds planned investment, aggregate demand falls short of aggregate supply, output and employment contract.
• Wages are not perfectly flexible downwards. Because of trade unions, contracts and worker resistance, money wages are 'sticky' and do not fall freely, so the labour market does not clear automatically as the classicals assumed.
• Involuntary unemployment is real. Contrary to the classical claim, workers willing to work at the going wage may still be unable to find jobs — because the level of employment depends on the level of aggregate demand, not merely on the wage rate.
• Equilibrium can occur below full employment. There is no automatic force pushing the economy to full employment; it can settle at an under-employment equilibrium and stay there.

Keynes therefore argued that the government must actively manage aggregate demand — through public spending and other policies — to move the economy towards full employment. This shifted economics decisively from the classical laissez-faire view to active demand management. …