The New Keynesians Theory of Value


Nikoleta Petkanska


One of the enduring questions of economics is “Where do profits come from?” One of the ways in which economic philosophers have tried to answer it is by first answering the question of value. At the center of most economic paradigms is a Theory of Value. The classical political economists found value to be determined in production; since most of the cost of production could be reduced to labor, this approach was refined into the Labor Theory of Value. Neoclassical economist looked for value in the market act of exchange and developed the Marginal Theory of Value. Both of these theories are currently under challenge by the post-Keynesians with their Sraffian Theory of Value, which, like the labor theory of value, is based on production rather than exchange. Any theory of value in economics is an extremely abstract formulation.

“When people attempt to save more, the actual result may be only a lower level of output...”

  • Paul A. Samuelson

“Higher saving leads to faster growth...”

  • N. Gregory Mankiw

The two quotations above dramatically demonstrate the stark contrast between the “old” Keynesians and the “new”. Samuelson and the old-style Keynesians start with the “general” theory of unemployment equilibrium and end with the classical model of full employment as a “special” case. As long as there are unemployed resources – which, according to the old Keynesians, are most of the time – thriftiness is bad and expansionary monetary and fiscal policy (i.e., inflation and deficit spendings) are good. For 50 years, this “demand – management” model has been the standard approach in college economics.

Now along comes a new generation of economists, known as “new” Keynesians, who have wisely changed their way of thinking. In the most popular textbook on macroeconomics, author N. Gregory Mankiw reverses the standard Keynesian pedagogy. In a brilliant move Mankiw begins with the classical model and ends with the Keynesian model, just the opposite of Samuelson & Company.

 The Keynes theory

Keynes was a critic of the free market orthodoxy. Under the impact of the 1929 Wall Street Crash he dealt a blow to the idea that capitalism was a self regulating system which would guarantee human happiness so long as it was left to its own devices. The free market argument rested on the assumption that capitalism would never go into recession, provided government and trade unions did not interfere with its smooth running. Because the ability of people to buy goods is supposed to equal the supply of them, there could be no such thing as “overproduction” where goods are unsold because people cannot afford them. It was also argued that there would only be unemployment if workers pushed wages too high for it o be profitable for bosses to employ them. It was an argument that made a revival with Thatcher in Britain and Reagan in the US during the 1980s.

Keynes pointed out that the supply and demand did not necessarily balance. Simply because some people saved didn’t necessarily mean others would borrow to invest – capitalist would only invest if they thought it would lead to higher profits in the future. Yet the year of a coming recession leads more people to save and fewer capitalists to invest. Keynes described how capitalists, rather than being risk taking entrepreneurs, very often hold back from investing because they don’t know what lies in store. So, he concluded, the free market inevitably produced unemployment and under-investment.

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Keynes also attacked the idea that a cut in workers’ wages was a way to restore profits. He showed how a cut in wages would lead to less demand for goods, more bankruptcy and even more unemployment. Keynes thought governments should borrow money and spend to stimulate demand in the economy. In this way, he believed, governments were capable of preventing crises from breaking out. Crises exist, he argued, either because workers are not paid enough, or unemployment is too high, which means there is effective demand to absorb the goods produced. The result, therefore, is that goods remain ...

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