The classical economists were of the
saving and investment are
always equal. They believed in the existence of a fully employed economy.
According to them, whenever their is inequality between saving and investment,
it is brought to equality through the rate of interest. J.M. Keynes differs with
this classical view. According to him, the equality between saving and
investment is brought about not through the mechanism of rate of interest but
through the changes in income. He also disagrees with the classical view that
when saving and investment are equal, the economy is in full employment
equilibrium. According to Keynes, the equality between saving and investment can
take place below or above the level of employment. The equality of saving and
investment at full employment level is a rare phenomenon.
Keynesian View of Saving and
J.M. Keynes has put forward two views of
saving and investment equality:
(1) Definitional Equality and (2) Functional
(1) Accounting or Definitional
According to J.M. Keynes actual
saving and actual Investment are always and necessarily equal at any level of
income. He writes in his book 'General Theory':
"Saving and investment are
necessarily equal in amount for the community as a whole, being different
aspects of the same thing".
In order to prove it, he defined
saving in the current period as the excess of income over expenditure.
Formula For Saving:
S = Y - C
Here, S stands for current saving, Y
for current income and C for current consumption.
As regard investment, it is
the value of current output of capital goods together with the value of any
addition to work in progress or the stock of finished goods. Investment is equal
to the output of the community minus consumption.
I = Y - C
Where I stands for investment, Y for
income and C for consumption.
For Saving and Investment:
S = Y - C ................... (i)
I = Y - C .................... (ii)
Taking, Y - C is common from both equations
(i) and (ii). So we have:
S = I
Saving = Investment
(2) Functional Equality:
According to the second version of
"Saving is equal to investment at
the equilibrium level of income".
It is brought about by the adjusting mechanism
of income compared to the classical view of variations in the rate of interest.
Keynes establishes equality between saving and investment by defining income (Y)
as equal to current consumption plus current investment.
Y = C + I