The General Theory of Employment, Interest, and Money

“I shall argue that the postulates of the classical theory are applicable to a special case only and not to the general case […] its teaching is misleading and disastrous if we attempt to apply it to the facts of experience.”

Keynes explicitly warns that classical theory—long accepted as universal—fails to account for the complexity of modern economic life. This statement sets the tone for his broader argument that a reevaluation of entrenched assumptions is both necessary and urgent.

“We need to throw over the second postulate of the classical doctrine and to work out the behaviour of a system in which involuntary unemployment in the strict sense is possible.”

Keynes explicitly calls for abandoning the belief that real wages can always adjust to eliminate joblessness. This declaration marks a pivotal shift from classical models, insisting that a new framework must accommodate the reality of workers willing to labor but still unable to secure employment.

“Thus the volume of employment is given by the point of intersection between the aggregate demand function and the aggregate supply function; for it is at this point that the entrepreneurs’ expectation of profits will be maximised.”

Keynes highlights that businesses expand employment only up to the level where anticipated revenues equal their total costs, including normal profit. By framing employment as an intersection of demand and supply at the macro level, he redefines how we view the economy’s equilibrium—beyond the classical notion of automatic full employment.

“It is my belief that much unnecessary perplexity can be avoided if we limit ourselves strictly to the two units, money and labour, when we are dealing with the behaviour of the economic system as a whole.”

Keynes emphasizes that a simpler, more consistent framework—focusing on money and labor—sidesteps the confusions of mixing diverse physical outputs into one metric. This viewpoint underlies his broader argument that macroeconomic relationships can be understood more cleanly by examining how entrepreneurs respond to costs and wages, rather than imprecise notions of total real production.

“The fundamental psychological law, upon which we are entitled to depend with great confidence both a priori from our knowledge of human nature and from the detailed facts of experience, is that men are disposed, as a rule and on the average, to increase their consumption as their income increases, but not by as much as the increase in their income.”

Keynes highlights the systematic tendency for people to spend only part of any additional income, an insight critical for explaining why aggregate consumption lags behind total earnings. This gap underpins the need for complementary investment if an economy is to maintain or expand employment. It also forms the basis for the concept of the “marginal propensity to consume,” which influences how government spending or tax policies ripple through the economy.

“Consumption […] is the sole end and object of all economic activity. Opportunities for employment are necessarily limited by the extent of aggregate demand.”

Keynes reminds readers that every act of production ultimately aims at fulfilling consumer needs, tying employment directly to the level of current and expected spending. The reference to “aggregate demand” underscores the macroeconomic principle that total spending—whether on immediate consumption or future investment—fundamentally drives job creation. In emphasizing the consumer’s pivotal role, he moves beyond supply-focused views and cements the demand-side argument.

“Thus, even if it is the case that a rise in the rate of interest would cause the community to save more out of a given income, we can be quite sure that a rise in the rate of interest […] will decrease the actual aggregate of savings.”

Keynes clarifies that while higher interest rates may individually incentivize saving, they reduce overall investment and income—thereby lowering total savings in the economy. This paradox shows that aggregate outcomes often differ from individual intentions. His argument challenges the simplistic view that boosting interest rates automatically increases saving at the macro level.

“After all, the actual rates of aggregate saving and spending do not depend on Precaution, Foresight, Calculation, Improvement, Independence, Enterprise, Pride or Avarice. Virtue and vice play no part.”

Keynes dismisses the notion that moral or personal qualities primarily dictate overall saving. Instead, he emphasizes that macroeconomic conditions—particularly the interplay between interest rates, investment, and income—determine the level of saving and consumption in aggregate. By separating individual personal virtue from system-wide outcomes, he warns against attributing economic fluctuations to character traits.

“An increment of investment in terms of wage-units cannot occur unless the public are prepared to increase their savings in terms of wage-units.”

Keynes highlights that new investment must be matched by equivalent saving within the economy, tying macroeconomic outcomes to a collective willingness to defer consumption. By measuring investment and saving in “wage-units,” he underscores that real resources—human labor—must be devoted to building capital. This framework helps explain why fluctuations in the propensity to save or invest can lead to surpluses or shortfalls in employment.

“If saving is the pill and consumption is the jam, the extra jam has to be proportioned to the size of the additional pill.”

This metaphor aims to vividly underscore the balancing act between what is saved and what is consumed in an economy. Keynes suggests that people will only swallow the unpleasant medicine dose of a higher required level of saving if they are simultaneously rewarded with the sweet dessert of proportionally greater consumption opportunities. By casting the trade-off in relatable terms, he clarifies how psychological and practical considerations influence spending decisions.

“The most important confusion concerning the meaning and significance of the marginal efficiency of capital has ensued on the failure to see that it depends on the prospective yield of capital, and not merely on its current yield.”

Keynes draws a line between one-time or snapshot returns and the future-driven nature of investment decisions. By stressing “prospective yield,” he places expectations about coming demand, prices, and costs at the heart of capital valuation. This focus on the future clarifies why investor confidence and optimism are key to sustaining spending on durable goods.

“It is by reason of the existence of durable equipment that the economic future is linked to the present […] the expectation of the future should affect the present through the demand price for durable equipment.”

Long-lived capital goods create a bridge between current spending decisions and future economic conditions, forcing entrepreneurs to factor in the years ahead. Keynes underscores how the durability of equipment amplifies the importance of forward-looking expectations. By linking present investment to future prospects, he illustrates why psychological swings can dramatically impact the macroeconomy.

“When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.”

Keynes criticizes the tendency of modern stock exchanges and speculative markets to drive short-term decision-making at the expense of long-term capital formation. By likening them to the risky gambling of betting at a “casino,” he calls attention to the destabilizing effects that rampant speculation can have on genuine investment. The imagery signals his concern that unfettered speculation may misallocate resources and hamper sustainable growth.

“Enterprise only pretends to itself to be mainly actuated by the statements in its own prospectus […] if the animal spirits are dimmed and the spontaneous optimism falters […] enterprise will fade and die.”

Keynes identifies the psychological drivers behind business initiative, emphasizing that rational calculations alone rarely spur or sustain investment. Once “animal spirits”—the collective optimism fueling bold ventures—wane, even profitable opportunities can languish. This insight spotlights the fragile emotional undercurrent in economic activity.

“The rate of interest is, in itself, nothing more than the inverse proportion between a sum of money and what can be obtained for parting with control over the money […] it is the reward for parting with liquidity for a specified period.”

Keynes crystallizes his insight that interest flows from the sacrifice of liquidity, rather than from abstinence or saving in the traditional sense. By framing it as an “inverse proportion,” he highlights the trade-off between holding cash versus lending or investing it for future return. This redefinition shifts the focus to liquidity preference as a key determinant of interest rates.

“[T]he rate of interest cannot be a return to saving or waiting as such. For if a man hoards his savings in cash, he earns no interest, though he saves just as much as before.”

Keynes reiterates his challenge to the classical perspective that interest arises purely from saving. By stressing that idle cash gains no yield, he calls attention to the complex interplay of market expectations, liquidity preferences, and money supply in setting interest rates. This repetition underscores the importance he places on this conceptual shift.

“Saving and Investment are the determinates of the system, not the determinants. They are the twin results of the system’s determinants, namely, the propensity to consume, the schedule of the marginal efficiency of capital and the rate of interest.”

By calling saving and investment “determinates,” Keynes clarifies that these variables adjust passively once foundational conditions—consumption habits, future returns, and interest rates—are set. His distinction repudiates the classical argument that saving and investment primarily control the market for loanable funds. Instead, he insists that these flows result from broader economic forces that can be influenced by policy.

“It is not the same thing, however, since it is in respect of his stock of accumulated savings, rather than of his income, that the individual can exercise his choice between liquidity and illiquidity.”

Keynes distinguishes between daily transactional balances and one’s accumulated wealth. Decisions over the latter—how much to hold as cash versus how much to invest—significantly influence liquidity preference and thereby interest rates. This concept helps explain why sudden shifts in wealth-holders’ confidence can roil financial markets.

“The rate of interest is a highly conventional, rather than a highly psychological, phenomenon. For its actual value is largely governed by the prevailing view as to what its value is expected to be.”

Keynes underlines that interest rates rest heavily on collective sentiment, rather than purely on rational or mathematical calculation. He contends that what society anticipates for the future molds present market outcomes, meaning policy shifts and social norms shape this “convention.” This highlights the critical role of expectation management in economic stability.

“An act of individual saving means, so to speak, a decision not to have dinner to-day. But it does not necessitate a decision to have dinner or to buy a pair of boots a week hence.”

Keynes’ metaphor reveals how saving merely cancels current consumption without directly committing resources to future needs. By highlighting the indefinite postponement of spending, he shows why aggregated saving can dampen immediate effective demand.

“If capital becomes less scarce, the excess yield will diminish, without its having become less productive in the physical sense. It is kept scarce because of the competition of the rate of interest on money.”

Keynes illustrates how high interest rates maintain capital scarcity, even if technology or resource availability has not changed. The notion that capital remains “scarce” due to monetary factors challenges the idea that its scarcity is purely technological. This perspective shows that shifts in monetary policy can significantly affect investment and capital accumulation.

“Unemployment develops, that is to say, because people want the moon; men cannot be employed when the object of desire (i.e. money) is something which cannot be produced […] and the demand for which cannot be readily choked off.”

Keynes uses the metaphor of “wanting the moon” to illustrate how an excessive and irrational desire to hold money can stifle investment and economic activity. Since money cannot be “produced” at will like commodities, hoarding behaviors create persistent shortfalls in effective demand. This idea underpins his argument that an economy can remain underemployed if liquidity preference is high.

“The right remedy for the trade cycle is not to be found in abolishing booms […] but in abolishing slumps […] keeping us permanently in a quasi-boom.”

Keynes challenges conventional wisdom that tries to curb investment or restrict credit during expansions. His stance is that full employment and higher steady activity are better served by policies aimed at preventing severe downturns, rather than stifling growth in the upswing.