Free Market Vs. Keynesian Theory

by Walter Johnson ; Updated September 26, 2017

The economic approaches of the laissez-faire market and the system perfected by J.M. Keynes are often set at odds. To be sure, they have many things in common, including a respect for private property, competition and the rule of law in economic policy. However, in many specifics of macroeconomic policy and economic theory, they differ markedly.

Prices

One of the most stark differences between the market and the Keynesian approach is the question of price. Few variables are more fundamental to economics. For the free market, price is an expression of market equilibrium: the agreement between what a merchant requires for profit and what a customer is willing to pay. The market responds quickly to changes in demand and provides the incentive structure for continued market movement: low prices increase demand, high prices push people away. The Keynesian, in general, holds that prices—including wages—are far slower to change and do not necessarily act as reliable signals of demand at any given time.

Unemployment

The question of prices is related to employment. Because the price structure in Keynesian thinking is far less mobile than in the market-oriented conception, changes in demand do not reflect prices, especially in the short run. This distortion, this lack of “parallel movement” creates unemployment. The increase in demand for an item does not change quickly, meaning that the market is an imperfect structure. Jobs are lost because the price of labor does not reflect that of demand. For the free marketeer—all other things being equal—unemployment has nothing to do with the lack of parallel movement, but instead reflects an external distortion in the market such as export tariffs, high taxes or state regulation.

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Full Employment

Given the Keynesian assumptions a) the market is never quite in “sync” and b) that employment is built into the market system, the basic conclusion is that full employment is not something that can exist in the real world of economic exchange, especially in complex modern societies. The marketeer holds that, since price changes very quickly to reflect changes in demand, there is no real “time lag” to create unemployment as the Keynesians posit. Full employment is part of the market system, the laissez-faire advocate will insist.

State Stabilization

A better known and more obvious distinction between the two schools can be found in the role of the state. If, as the Keynesian insists, markets are inherently imperfect “registrars” of people's demand, then the state must be an ever present actor in the economy, assisting the unemployed and spending state money to spur demand in hard times. The laissez-faire capitalist will hold that the state, by removing money from productive, private sector investment and brings it into the non-productive, public sector, that this siphoning action crates unemployment. This siphoning of investment cash is an inefficient use of money, and therefore, artificially creates unemployment.

About the Author

Walter Johnson has more than 20 years experience as a professional writer. After serving in the United Stated Marine Corps for several years, he received his doctorate in history from the University of Nebraska. Focused on economic topics, Johnson reads Russian and has published in journals such as “The Salisbury Review,” "The Constantian" and “The Social Justice Review."

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