The History Of Keynesian Theory Economics Essay

Keynesian theory proposed by John Maynard Keynes claimed that active government intervention is the key factor for economic growth and stability. Specifically, this economics theory recommends that increasing government spending or decreasing tax rates will be the most appropriate method to stimulate aggregate demand. Subsequently, an increase in aggregate demand would bring a greater increase in the national output.

From our observation, Keynesian theory is applicable in Malaysia. One of the best situations to prove the claiming of Keynesian economics would be during the Asian Financial Crisis on 1997 to 1999. In 1998, Malaysia’s Gross Domestic Product (GDP) suffered a contraction of growth rate 7.4%. For example, construction sector shrunk 23.5%, manufacturing sector contracted 9%, and the agriculture sector shrink 5.9% (The 1997-1998 Asian Financial Crisis in Malaysia, 2010). Besides, Malaysia is an export-driven country with large shares of exports and imports in GDP. During that time, the contraction in export is the most serious reason which burdened the whole economy.

To recover the economy, Malaysia government had implemented expansionary fiscal policy by increasing government spending in order to stimulate aggregate demand. From the aspect of government spending, government spending is one of the 4 components of aggregate demand in the economy. Because of the positive relationship between government spending and aggregate demand, increasing in government spending helps in stimulate aggregate demand which recover the economy from recession.

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Government spends money in several ways, such as military, services (e.g.: education, healthcare), transfer payment (e.g.: subsidies, social welfare) and so on. In July of 1998, the government launched a fiscal stimulus package of total RM7 billion to support economic activities and sustain growth to overcome the negative effects of the recession. The fiscal stimulus package was allocated in the following development expenditure: RM2.2 billion for Dana Pengurusan Harta, RM1.5 billion for infrastructure and public amenities, RM1 billion for education, RM0.65 billion for cyberview, RM0.35 billion for agriculture, RM0.3 billion for health, and poverty eradication respectively, and RM0.2 billion for industrial development, for housing, for rural development respectively (Economic Stimulus Package: How Effective Are They??, n.d.). Associated with positive effect of monetary policy implemented by Bank Negara Malaysia which will be discussed in next section, consequently, the economy recovered its growth from recession, whereby its GDP growth rate increases to +6.1% in 1999 from the initial -7.4% in 1998.

Later on during 1999 to 2003, the government was still implementing the fiscal policy in expansionary stance, due to the continuous economic uncertainties. Consequently, Malaysia was able to maintain a positive growth rate. Nevertheless, during 2007, the global financial crisis occurred which contributed another difficult year to Malaysia. The great negative impact of the global financial crisis would be a collapse of exports to United States. As a result, Malaysia had a contraction in aggregate demand, which led to reduction in economic growth of -1.5% growth rate.

Again, in order to offset the decline in aggregate demand because of the significant decline in exports of Malaysia, the government had launched 1st fiscal stimulus packages (EPS1) of RM7 billion in November 2008, and second packages (EPS2) of RM60 billion in March 2009. As general, the main 3 aspects of EPS1 were:

Ensuring citizens’ well-being.

– E.g.: building additional low cost houses, upgrading and repairing of public transportation (Commuter, Bus, and LRT), and adding business premises for small/medium entrepreneurs.

Developing quality human capital

– E.g.: Skill Training Funds, youth skill training programs, preschool education and so on.

Strengthening national resilience

– E.g.: upgrading and maintenance of public amenities (schools, hospitals, roads, police stations), and implementing High Speed Broadband Project.

While the EPS2 of RM60 billion was implemented with the purpose of:

Reducing unemployment and increasing employment opportunities

– E.g.: creating 163,000 training and providing employment opportunities, etc.

Easing the burden of citizens

– E.g.: Allocating RM1.154 billion to providing subsidies on daily food staples such as sugar, wheat flour and bread, and toll subsidies, increasing house ownership, and etc.

Assisting the private sector in dealing with the crisis

– E.g.: Reducing the cost of business, providing Working Capital Guarantee Scheme of RM5 billion as working capital for companies with shareholder equity less than RM20 million.

Consequently, the economy recovered its growth from recession, whereby its GDP growth rate increases to +7.2% in 2009 from the initial -1.2% in 2008.

In a nutshell, Malaysia government believes that by implementing expansionary fiscal policy, it can effectively stimulate aggregate demand which will recover the economy from recession. Therefore, Keynesian theory is proven as it is applicable in Malaysia.