Keynes’ theories on the business cycle: evolution and contemporary relevance

Working Document No. 986

| March 2021

Keynes’ theories about the business cycle

Evolution and contemporary relevance

This article traces the evolution of John Maynard Keynes’s theory of the business cycle from his early writings in 1913 to his policies for controlling fluctuations in the early 1940s. The paper identifies six different “theories” about business fluctuations. With different theoretical frameworks over 30 years, the driver of fluctuations – namely cyclical changes in expectations about future returns – remained much the same. The banking system also played a pivotal role in the different versions, financing and influencing the behavior of yield expectations. There are four major changes in the evolution of Keynes’ business theories: a) the savings-investment framework for understanding changes in economic fluctuations; b) the ability of the banking system to moderate the business cycle; (c) the effectiveness of monetary policy in refining the business cycle through controlling short-term interest rates or credit conditions; and d) the role of comprehensive fiscal and investment policies to dampen volatility. Finally, some conclusions are drawn about the current relevance of the policy mix that Keynes promoted for ensuring macroeconomic stability.