Keynes’s Theory of Effective Demand Revisited
In John Maynard Keynes's model the decisions to produce which are made by individual entrepreneurs have to be based on expectations because of the lapse of time 'between the incurring of costs by the producer and the purchase of the output by the ultimate consumer'. Keynes's competitive entrepreneurs determine output given 'expected prices' for their output, but these expected prices are independent of their own rates of output. The inadmissibility of Keynes's definition of effective demand because of the non-existence in his model of the 'expectational' aggregate demand function he uses has been generally overlooked in the voluminous literature on Keynes's theory. Keynes's aggregate supply function is a construct derived, after several stages and special assumptions, from the individual supply curves of competitive firms. The relation between the elasticity of the aggregate supply curve and the labour share in total income when employment is increased is derived in the Appendix.