Keynes’s Analysis of the Stock Market and Identifying the Related Policy Sample

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‘Keynes’s analysis in Chapter 12 of the General Theory of Employment. Interest and Money suggests that capitalist economy is inherently unstable due to its fiscal structure’ . Discuss sketching Keynes’s analysis of the stock market and placing the related policy decisions he reaches.

In Chapter 12 of the General Theory of Employment. John Maynard Keynes focused on analyzing the stock market and how it functions. in the sense of its construction and how it is affected by the behaviour of investors because he believed the behaviour of the stock market affects the aggregative demand. hence the remainder of the economic system. He is most interested in the fluctuations of the rates of investings in the stock market that accordingly affect the purchase of physical investing. Keynes believes that these fluctuations in the fiscal construction render capitalist economy an unstable system. He examined the determiners of the nucleus fluctuations in the stock market which cause the aggregative demand and the economic state of affairs to hesitate. Keynes besides provided policies that could modulate these fluctuations in the stock market. and therefore the capitalist system.

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Keynes believed the Stock Market was cardinal to finding the place of the economic system. Since aggregative demand determined the place. and the former was most to a great extent influenced by the alterations within the stock market. Keynes deduced that it was the fluctuations in the stock market that caused fluctuations in the economic system. destabilising the capitalist system. Keynes held a macroeconomic position against the conventional position of ‘self-righting tendencies’ within the society ; he believed that the capitalist society can acquire ‘stuck’ . To understand the fluctuations of the stock market. Keynes explains the construct of cardinal uncertainness. Conventional economic experts. as Keynes believes. ‘fit’ uncertainness into their theories. He does non see that every bit appropriate as it is non possible to mathematically cipher uncertainness for certain societal facets. In Keynes. Knowledge and Uncertainty. Lawson states that classical economic experts disagree with Keynes. since he was unable to supply a quantitative or statistical analysis of the uncertainness that occurs. Lawson nevertheless agrees with Keynes as he excessively believes it is non possible to ‘calculate’ uncertainness and Keynes has provided powerful theory to explicate and back up his claims.

Keynes. nevertheless. firmly believes that for illustration. chance distributions on rate of involvement can non be placed for 30 years’ clip. This occurs because outlooks are based on ‘existing facts’ and ‘future events’ . neither of which can be calculated with full certainty. Hence long-run outlook formation is based on confident determinations every bit good as the province of confident determinations. Keynes provinces: “The province of assurance is relevant because it is one of the major factors finding the former [ the agenda of fringy efficiency of capital ] . which is the same thing as the investment-demand schedule” ( 1936. p149 ) . Rational human existences prefer to do determinations based on right information. However no such information is available as there is ever new information emerging which causes a deficiency of perfect of information to establish outlooks on. making what Keynes footings as cardinal uncertainness. Lawson agrees with the rational outlook hypothesis that Keynes proposes. despite his counter-argument on his statistical rating theory.

The Stock Market revalues investings on a day-to-day footing leting investors to alter determinations: When Stock Market monetary values are high. enterprisers invest in their concerns so that it can be sold on the Stock Market for a net income ; At low rates. it is more profitable to merely buy a concern that is at a lower monetary value than what it would be to put up a new one. Keynes describes the consequence of this as “Investments which are “fixed” for the community are therefore made “liquid” for the person. ” ( 1936. p153 ) . These fluctuations in the stock market are due to cardinal uncertainness. Keynes explains that when there is cardinal uncertainness in any facet. it is rational human nature to fall back on societal conventions to assist steer determinations. Keynes ( 1936. p155-56 ) describes the stock market utilizing an analogy between professional investing and newspaper beauty competition: “Professional investing may be likened to those newspaper competitions in which the rivals have to pick out the six prettiest faces from a 100 exposure. the award being awarded to the rival whose pick most about corresponds to the mean penchants of the rivals as a whole…It is non a instance of taking those which. to the best of one’s judgement. are truly the prettiest. nor even those which mean sentiment truly thinks the prettiest.

We have reached the 3rd grade where we give our intelligence to expecting what mean sentiment expects the mean sentiment to be. And there are some. I believe. who pattern the 4th. fifth. and higher grades. ” The Stock Market determinations work based on conventional values excessively. where each is non concerned with finding the existent stock value. but the market value the community will put on the stock. before everyone else does. Keynes observes some other characteristics of this state of affairs within the stock market. This type of liquidness non merely leads to future fluctuations in physical plus investing. but besides creates fluctuations of the day-to-day net income on investings which farther influences the market. One of the cardinal subjects Keynes observes is that there is plentifulness of bad activity in the Stock Market. which is assumed to be an endeavor. However Keynes characterizes the determinations made in an endeavor as those determined by cardinal analysis of implicit in facets. where ‘healthy’ hazard is undertaken while he characterizes guess as a downright hazardous procedure of a sentiment-guessing. which is what really dominates stock markets.

He carries on claiming that “…it is by no agency ever the instance that guess predominates over endeavor. ” ( 1936. p158 ) Lawson besides agrees that speculators in the market contribute to the instability in the Stock Market but they do non hold every bit great an impact. Despite the cardinal uncertainness that exists. Keynes believes persons are likely to put in capital. constructed on whatever outlook they can ‘calculate’ based on conventional rating as he believes human nature to be inherently tempted by taking opportunities. However. with new information emerging on a day-to-day footing. conventional ratings held by people in the market are destabilized. This may take to eventual dislocation to happen in the stock market. and when that does happen. everyone tries to place the emotions or environment in the market. They try to recognize what the conventional rating is before everyone else does. This facilitates monetary values to fall back into a form and re-establish monetary values within the market. It is due this rhythm of uncertainness. guess and fluctuations that Keynes deems the stock market has inherently unstable.

With such strong position of how influential the stock market and its fluctuations are on the province of the general market and capitalist economic system. Keynes devises four key policies to assist modulate the stock market. Keynes realizes that the fluctuations of the stock market can non be eliminated due to its nature so he alternatively addresses issues to help in decreasing the fluctuations and their impacts on the capitalist economic system. The first step of control Keynes suggests is a policy based on revenue enhancement. Keynes grounds it as such: “It is normally agreed that casinos should. in the public involvement. be unaccessible and expensive. And possibly the same is true of Stock Exchanges. ” Keynes states that bad activity can be cut down in the stock market if it is more dearly-won. If there is a revenue enhancement levied on activity within the market. it requires greater committedness and hence reduces the liquidness of the fiscal markets. This can take to discouragement of patterns of bad activity since investings will be “permanent and dissolvable. like matrimony. ” ( Keynes 1936. p160 )

However. liquidness of the market attracts new investing which will be discouraged by this signifier of dealing cost and may harm the economic system instead than profit it. The 2nd policy Keynes devises concerns income and investing. This attack requires people to either straight consume their income or straight put it. “The merely remedy for the crisis of assurance … would be to let the single no pick between devouring his income and telling the production of the specific capital-asset…” ( Keynes 1936. p161 ) With no pick available. there will be none or limited fluctuations. leting Aggregate Demand to be more stable. However. Keynes is non really comfy with this policy as it undermines the free pick of people which is against his broad beliefs. and he besides recognizes the assorted jobs that may originate as a deficiency of pick given to the people. Keynes’ 3rd policy related to stabilising the Stock Market is directed at the steadfast degree. He expresses concern over the guess that is created due to uncertainness of stableness of the house.

This occurs when there is separation of ownership and commanding parties within a house. The separation of the two functions can make differences in managerial determinations that can significantly impact the profitableness of a house and therefore cause guess among the investors. This in bend leads to fluctuations in the stock market. However unifying the two parties into one would make inefficient determinations every bit good as lesser investors in the concern. Keynes advises the parties should co-exist but with no Agency Problem so every bit non to make uncertainness in the heads of investors and hence avoid fluctuations. Keynes’ last policy is directed towards the socialisation of investing. Keynes himself suggested that there should be greater governmental control in stabilising the Aggregate Demand as it determines the province of the economic system. Since Keynes considers the stock market to be the greatest determiner of the Aggregate Demand. he sees it as the government’s responsibility to be involved in guaranting a more stabilised economic system.

Keynes has analyzed the economic system and what he believes to be its biggest influencer in footings of fluctuations. from a point of view that traditional economic experts failed to comprehend. Keynes characterizes the stock market to hold an inherently unstable construction due to fluctuations. uncertainness and guess in the market and what he believes is characteristic of human nature. which in bend makes the capitalists system unstable. “Even apart from instability due to guess. there is the instability due to the feature of human nature that a big proportion of our positive activities depend on self-generated optimism instead than on a mathematical outlook. whether moral or hedonic or economic. ” ( Keynes 1936. p161 ) However. the long-tern outlook that people base their determinations on is frequently stable. or has factors that compensate in overall stableness when they can. Keynes produces four different policies to help bring forthing stableness in what he deduces to be an unstable system. Although no policy is without drawbacks and none warrant a stable capitalist economic system. each provides an facet to command and convey the stock market and in bend the aggregative demand economic system towards steadiness.


1. Keynes. J. M. 1936. The General Theory of Employment. Interest and Money. Reprinted as The Collected Writings of John Maynard Keynes: The General Theory. Royal Economic Society. Vol VII. Macmillan. London. Chapter 12.

2. Lawson. T. 1995. ‘Expectations and Economics’ in Dow. S and Hillard. J. eds. Keynes. Knowledge and Uncertainty. Edward Elgar. Aldershot.

3. Peukert. H. 2011. ‘Dysfunctional facets of modern-day fiscal markets: diagnosing and prescription’ . European Journal of Law and Economicss

4. Nichols. Mark W. . and Michael J. Radzicki. “An Agent-Based Model of Behavior in “Beauty Contest” Games. ” UNR Joint Economics Working Paper Series. ( 2007 ) : 1-32. Web. 28 Dec. 2011. .

5. Wray. L. Randall. “The Fiscal Crisis Viewed from the Perspective of the ‘Social Costs’ Theory. ” Working Papers Series. ( 2011 ) : n. page. Web. 20 Dec. 2011. .

6. Haque. Faizul. Thankom Arun. and Colin Kirkpatrick. “Corporate Governance and Capital Markets: A Conceptual Framework. ” Corporate Ownership and Control. 5. 2 ( 2008 ) : n. page. Web. 11 Jan. 2012. .

7. Amir. Munaf. Diana Damyanova. Mark W. Nichols. Michael J. Radzicki. and Esra Unluaslan. “An Agent-Based Model of Behavior in “Beauty Contest” Games. ” Meeting of the Association for Institutional Thought – . Worcester Polytechnic Institute. Phoenix. 2006. Address.

8. Hoy. Melanie B. “Socialization of Investment. ”International Encyclopedia of Social Sciences. 2. ( 2008 ) : 650-651. Print. .

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