What is Keynesian Economics - Principles and Real-World Applications

Key Highlights

1. The main agenda of Keynesian Economics is to create demand. During a crisis, the government should spend more, and when the economy stabilises, it should focus on reducing debts.
    
2. Government spending should not continue for too long, and inflation must be kept in mind. Otherwise, it can result in heavy debt with no growth once the global economy stabilises.
    
3. From the US’s 2009 funding to Japan’s 1990 ‘lost decade’ and India’s 2024-25 Union budget, the Keynesian approach was used. 

Whenever the economy faces unemployment, recessions, or lower demand, many countries opt for Keynesian economics. It is the idea that centralises the role of government for growth and stability, rather than markets alone.  

Let’s consider a country’s GDP is $2 trillion (approximately ₹164 lakh crore). However, due to the recession, demand falls by 10% ($200 billion or ₹16.4 lakh crore). In this case, the government gives $100 billion (≈ ₹8.2 lakh crore) to support the economy. This increases demand and helps recover most of the shortfall.

But what would have happened had the government not intervened? Let’s know in the table given below.
 

This table perfectly shows how government spending affects the economy at critical stages. This revival in growth is what the Keynesian economy is all about. Let’s talk more about it in the blog. 

What are the Core Concepts of Keynesian Economics?

Keynesian Economics was termed by British economist John Maynard Keynes. It states that “demand matters”. Whatever we spend in households, businesses, governments, and what foreign buyers buy, all come under demand.  

Let’s break down the core concepts involved with Keynesian Economics.

1. Consumer Demand

The major aspect of Keynesian theory is the total consumer demand. If demand is weak, there will be less production, job layoffs will happen, and the economy will slow down.

For example, during the 2020 COVID-19 lockdowns, the spending from consumers’ end collapsed. As a result, India’s GDP contracted by approximately 23.9% in Q1 FY 2020-21. 

2.  Government Intervention

Keynesian theory asks the government to step in during times of crisis. It states that public policies that include government spending (roads, railways, housing) or low taxes must be made. This way, people will get money to spend. 

For example, in 2008-09, during the global financial crisis, India raised its spending from ₹2.43 lakh crore to ₹2.83 lakh crore. To do this, the government had to borrow more, and the gap between income and expenses increased from about 2.5% to 6.2% of GDP.

3. Layoffs > Lowering Prices and Wages

When demand decreases, businesses can’t cut their prices because of the spending on advertising, menus, etc. Neither can they lower wages because it is unethical and legally tough, so they either stop hiring or start firing people. This is why Keynesian theory states the importance of government intervention rather than waiting for the economy to correct itself.  

For example, in 2025, TCS stopped hiring and paused salary hikes. It even laid off about 12,000 employees. This shows how the economy is more comfortable with laying off people than lowering their salaries.

4. The Multiplier Effect

A small increase in spending can lead to a larger overall impact. This is the multiplier effect. If the government builds a highway, it pays contractors, who then pay workers, who then spend in local markets. The money circulates further and creates growth in many other parts of the economy.

For example, the Delhi Metro expansion made travel easier across Delhi, Noida, Gurgaon, and Faridabad. Better connectivity increased housing demand, retail activity, and jobs.

5. Counter-Cyclical Policy

Keynesians suggest that governments should spend extra money during bad times and save more in good times. This means borrowing to support the economy in recessions and saving or reducing debt when the economy is good and growing.

For example, in India’s Interim Budget for 2024-25, the government set the fiscal deficit at 5.1% of GDP. This is lower than 5.8% in 2023-24. This shows the government’s willingness to consolidate finances during better times.

The table below summarises the 5 core principles of Keynesian economics.
 

Do you know the Indian government has followed the Keynesian approach in the 2007-08 global economic crisis, and even today, in 2024-25?  During 2007-08 and 2008-09, the central government’s expenditure grew by over 20% each year. The fiscal deficit was 6.6% in 2007-08 and 4.5% by 2011-12. Also, for FY 2025-26, the fiscal deficit target is set at 4.4% of GDP. This was decided after the achievement of the 2025 target of 4.8%.

Benefits and Limitations of Keynesian Economics

Sure, the Keynesian approach benefits a nation, but it also has its limitations. Let’s have an overview of the booths, pros and cons of Keynesian economics. 
 

Keynesian economics is powerful during economic crises, but it must be used after assessing all the factors. The immediate relief should not come at the cost of the future’s long-term stability. 

Global Keynesian Case Studies

Let’s see how the world adopted the Keynesian strategy in the table given below.
 

The U.S. and Japan show two sides of Keynesian policies. In the U.S., the 2009 expenditure created millions of jobs and helped the recovery. In Japan, however, there was a limited impact. This shows that you need to form a proper strategy to work with Keynesian tools. 

Keynesian Economics in India

In the examples given earlier, we have seen that India has applied the approach in the 2008-09 crisis, the COVID era and even in the 2024-25 budget. So let’s summarise all three cases with the table given below.

The main agenda in all three scenarios was to create demands. They supported public investments to maintain financial stability and ensure growth when conditions improved.

Keynesian Economics vs Classical Economics

Classical economics says that free markets, through flexible prices and wages, naturally restore balance, so there is no need for heavy government action. But are decreases in markets just a wound and not a factor that affects the entire county? That is why many support Keynesian economics. 

In the table below, we have differentiated between the 2 economies
 

Classical economics is about self-regulating markets, while Keynesian economics states that markets can remain depressed without corrective fiscal measures. 

Modern Relevance of Keynesian Economics

Now we know what Keynesian Economics is, so shall we discuss its relevance in 2025? If yes, then refer to the table given below.
 

Apart from this table, you can also refer to the COVID-19 era steps taken by India and the recent steps taken by the USA and Japan.

Conclusion 

Keynesian Economics’ main idea revolves around the role and importance of government. It states that no market can rise without government support. Whether it is the global recession period of 2008-09, the COVID crisis, or even the present 2025. 

The concept is simple: spend more in a crisis, and when the economy improves, pay off the debt. However, the strategies and policies must be made by assessing all the parameters.    

Frequently Asked Questions

What is deficit spending in Keynesian economics?
Deficit spending means the government spends more than it earns, boosting demand during economic slowdowns.

What is crowding out in Keynesian theory?
Too much government borrowing may raise interest rates, reducing private investment, a process called crowding out.

Why is timing important in Keynesian interventions?
Late government spending may arrive after recovery starts, causing overheating or unnecessary debt.

Do Keynesian ideas work in developing countries?
Yes, but success depends on fiscal discipline, infrastructure gaps, and effective governance in developing economies.

How does monetary policy affect Keynesian fiscal policy?
Low interest rates strengthen stimulus, while high rates reduce its impact.

Can repeated stimuli cause dependence?
Yes, if spending isn’t reduced once recovery starts.

Does openness to trade change the multiplier?
Yes, open economies see smaller multipliers due to import leakages.
 

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