Keynes and Friedman 229To disprove Say’s Law, Keynes points out that when wages
are low in relation to prices, employers expand production by
hiring new workers. Though this would seem to solve the
problem Keynes is trying to emphasize, in reality actual employ
ment is not increased. When all businessmen attempt to expand
production, then all wages are generally low. This means, that
although overall production may increase, the workers’ overall
propensity to consume will drop. Therefore, demand will
decrease, and employers will not benefit from the expansion of
production. New workers will not be hired, and employment will
not increase. This concept of the public’s overall propensity to
consume Keynes calls “aggregate demand.”
According to Keynes aggregate demand is determined by
three main factors: government, consumption, and investment.
He postulated that the government’s net effect on aggregate
demand was essentially neutral, since whatever the government
takes from the economy by taxation, it returns by way of its
expenditures. As for consumption, Keynes maintained that
while men tend to consume more as their income rises, the
increase in consumption is somewhat less than the increase in
income. Since the government effect is neutral, the law of
consumption deals with aggregate consumption alone and there
fore does not explain the level of aggregate demand, so we are
left with investment as the primary determinant of aggregate
demand.
Investment, says Keynes, determines the flow of money in the
economy. When investment is high, then the accumulated sav
ings of the economy are borrowed and kept in circulation. This
causes employment to increase, and subsequently, total national
income to rise. As national income increases so does the volume
of consumer spending. Thus, aggregate demand is high, and
production and supply must be high to meet this demand, and the
economy prospers. Conversely, when investment is low, the
accumulated savings remain out of circulation. National income
and employment drop along with aggregate demand. Production
decreases and the economy becomes depressed.
Since investment dictates the state of the economy, it is
important to note the factors which govern it. Keynes considers
investment to be the risk taken by businessmen in the expansion
of their production. The two primary considerations for invest