Aggregate Demand

Economic recovery from social conflict, using government intervention to impact aggregate demand, is an attainable goal under certain conditions. This paper reviews the approaches employed by governments of countries that experienced social and/or civil conflict prior to installation of the reformist regime. The author acknowledges that foreign aid can play a role in the redevelopment of war-torn areas — the examples in this paper will be those for whom foreign aid was helpful but not so significant that it directly shaped or established the regime.

Keywords Aggregate Demand; Economic Development; Economic Policy; Free Market; International Aid; Keynesian Strategy; Macroeconomics

Economics > Aggregate Demand

Overview

The World Divided

For most of the 20th century, the world was apparently divided into two separate camps. To the west of what was deemed "the Iron Curtain," governments were formed and operated under democratic principles, whereas eastward, the communist regime held fast. Economically, western infrastructure hinged on the free market and private industry; in the east, the government was the central figure in virtually any business development undertaking.

Of course, this view of the 20th century is at best an overgeneralization of the true situation, which was far more complex. After all, the political environment in the United States diverges considerably from that of France, Germany, Spain and Great Britain (as it does from non-European democracies in Japan, Turkey and India). The Soviet version of Karl Marx's communist ideal differed sharply from the regimes in China, North Vietnam and Cuba. Indeed, the concept of a "bipolar" 20th century world was largely based on generalizations and politically-charged rhetoric: Democracy was democracy and communism was communism.

The truth behind the perceived international economic dichotomy was equally oversimplified. The "People's Republic of China," for example, saw enormous economic strides throughout the 20th century, despite several stumbles back into situations that charged citizens with ethereal, idealistic rhetoric that did little but return that nation to an isolated communist world. Having moved away from the posturing that gave rise to debacles like the Cultural Revolution and the Great Leap Forward, China is now one of the most powerful economies in the world, enjoying unparalleled growth and stature among industrialized nations. The economic architects of China, which was frequently detached from the western world as "just another communist country" and (at least according to party leaders) proud to be labeled as such, felt comfortable departing from Marxist economics and installing the free and private markets that saw success in the West.

Conversely, the United States economy, while ideally free to grow without government intervention, has long featured connections to virtually every level of government. One of the clearest examples of this fact is the American response to the Great Depression of the 1930s. Smoot-Hawley, which raised tariffs and fortified barriers to economic recovery, is a case in point. In fact, one of the most prominent theories of economic development spawned during that same period in US history: The teachings of economist J.M. Keynes. Keynes's concepts, which will be given better light in this paper, entail a call for government-introduced financial infusion into a troubled economy (Stegman, 2004) in order to stimulate aggregate demand. Few adherents to the purist view of a "free market versus communist" world would call Keynes's government bailout representative of the tenets of a western political economy.

Social upheavals and/or conflicts, such as China's Cultural Revolution (during which thousands died and China spiraled into economic collapse) and the Great Depression give credence to an important point. When a nation is struggling to reemerge economically from social conflict, civil war or regime changes, they may find solace in creating linkages between government and the economy in order to stimulate aggregate demand.

This article takes a critical look at aggregate demand as a focal point around which economic recovery from political tumult is often built. Employing the ideals of Keynes and the assessments of political economy experts and observers, this paper reviews the examples of three economies that were hit hard by conflict, drastic regime change or civil war, each of which focuses on aggregate demand as a key to fiscal rejuvenation.

Applications

Aggregate Demand

One cannot have a thriving economy without consumers. Aggregate demand, the total demand for goods and services within a nation's economy, hinges on the attitudes of the buying public (National Council on Economic Education, 2007). High prices, product reliability and industry confidence all play a role in aggregate demand and, concurrently, supply. In times of recession, low consumer confidence causes people to reduce their spending and, therefore, aggregate demand flags. Conversely, in times of fiscal health, above-average incomes foster higher demand and consequently, prices. Aggregate demand and supply, therefore, are inversely proportional to one another. The difficulty lies in balancing between the two elements; facilitating economic health without risking inflation or recession. The unenviable task usually falls to lawmakers and regulators.

Enter Keynes

In the 1930s, as the United States suffered the throes of the Great Depression, attitudes abounded as to how to address the situation. For some, signs pointed to the fact that, despite the horrific fiscal state of the union at the time, the United States was in fact continuing to evolve into a prominent world power. In the minds of these economists, the market would correct itself and needed no intervention. Conversely, British economist John Maynard Keynes, in his treatise, General Theory of Employment, Interest and Money, operated from the perspective that the market system was not macro-economically self-sustaining. As one scholar observes, Keynes "thought that the framework of institutions, rules and policies needed to maintain the 'full potentialities of production' was, while not impossible to set up, more elaborate and expensive than that specified by market optimists." (Skidelski, 2005).

As the polarity among economists seeking an end to market tumult continued, a rather interesting irony emerged: The Soviets remained convinced that the market would correct itself, and held off on instituting corrective economic policies. Keynes, however, felt that the keys lied in reducing unemployment, increasing demand and encouraging investment. A comparison of the two economic regimes demonstrates with great clarity which approach proved successful:

As evidenced by the response to one of the worst economic crises in American history, employing fiscal policy in selective arenas of a free market economy (namely, protecting and/or enhancing the demand side) can be seen as a useful tool for economic revitalization, particularly in times of significant tumult. As the following examples demonstrate, targeted corrective measures designed to bolster consumer confidence and investment can help return an economy to the right track as a nation recovers from large-scale conflict and/or upheaval.

Case Studies

Lebanon

When one looks to the international stage for an example of serious discord, he or she may look no further than the Near East. Lebanon is no exception. In 1975, a civil war erupted in which the capitol city of Beirut was shattered into factions, not the least of which was a division between east and west. Sunni, Shia and Druze Muslims as well as Palestinians, Christians, Maronites and other factions took hold of the fractured city. In 1982, Israel entered Lebanon in pursuit of the Palestine Liberation Organization (PLO) and, in the process, added to the near chaos of that small nation. In 1982, a multinational force entered Beirut to establish some degree of order, but repeated terrorist attacks killed 300 of their group and drove them out, leaving Lebanon to continue in its own destruction (MIT, 1999).

In the 1990s, however, the conflict drew to an end of sorts. The Lebanese government's first step in the post-civil war years was to reinvigorate the economy. Reconstituting leadership in Beirut, Lebanon's leadership focused it attention on aggregate demand. The banking sector was given the first look, given the ability to redevelop the country's capital domestic market and invite international market access. Still, Lebanon's banking sector is heavily regulated by the Central Bank. Consumers also have a diversity of private market sectors in which to invest. The result is increased buyer confidence, which will likely continue to improve as long as the government does its part to protect consumers (Embassy of Lebanon, 2002).

Sadly, Lebanon spiraled back into conflict, with terrorist organizations vying for power with the Lebanese government and Israel conducting incursions against those factions. The result is that a reforming market, after adopting a Keynesian approach that seemed to have a positive effect on the economy, returned to a state of stagnancy. Clearly, Lebanon's example, supportive of the notion that government policymaking can spur economic growth (particularly when focused on aggregate demand), remains a work in progress.

Lithuania

Whereas Lebanon is a nation attempting to establish order from near chaos, the Baltic state of Lithuania is working to prevent chaos after decades of Soviet-style order. During the era of the USSR, Lithuania's infrastructure was predominantly industrial, comprising about 40 percent of that country's gross domestic product (Economist Intelligence Unit, 2007). This economic sector was reliant on cheap energy prices from and market access to Moscow. Put simply, Lithuania, like other members of the USSR, was kept on a short leash and totally dependent on Mother Russia. There was no policy focusing on consumer demand or investment, since the focus of its economy was service not to investors but the USSR.

Immediately following Lithuania's independence in the early 1990s, matters took a turn for the worse. Lacking Soviet industrial investment (and the inexpensive energy prices available to that industry), Lithuania's nearly homogenous industrial base went into a near free fall. The second-largest industry in that country, agriculture, did not fare much better, again due (in part) to the high cost of fuel and energy.

Lithuanian economic planners, now independent of Soviet control and pursuing free market reformation, found their nation at a crossroads. The sudden transformation to a Western-style economy had an unanticipated consequence: Consumers now had income and the perceived need for services (as well as a scramble for the limited number of jobs available in the post-Soviet era). High demand fostered inflationary conditions. The government acknowledged the situation and initiated anti-inflation policies. Specifically, they sought to cut the national budget deficit, place controls on prices and slow wage growth (Business Monitor International, 2007). By early 2013, Lithuania had experienced stronger than average growth among European countries during the global financial crisis years. Government policy priorities were employment, emigration, energy security and adoption of the euro by 2015. 2012 had seen a rise in household spending and the first drop in unemployment since 2007. Annual average consumer price inflation was just above 3% in 2012, and the current-account deficit narrowed (Country Report, 2013).

Uganda

While Lebanon and Lithuania have struggled to reemerge from conditions largely created by external factors (interstate intervention and assimilation into the Soviet Union, respectively), the troubles facing most sub-Saharan African nations are largely home-grown. Corruption, sectarian and tribal violence, extreme poverty and even natural disasters have ripped at the fabric of the majority of African nations' infrastructure since their independence from the colonial powers. There are, however, bright spots. South Africa, emerging from international isolation due to the apartheid era, has rapidly seen economic development and growth. Kenya too has grown into a tourism hotspot, and its economy is summarily heading in the right direction. One country, however, is particularly interesting, due in part to its history, its geographical location and its clear desire to reemerge as a "diamond in the rough."

In the 1970s, Uganda became well-known in international circles, but not for a pleasant reason. Tribal infighting that had raged since that country's 1962 independence (save for a brief period of relative peace and economic development under President Milton Obote) gave rise to Idi Amin. Under Amin's watch, not only were hundreds of thousands of Ugandans dying in civil conflict — many more foreigners were being deported or killed. Uganda's economy suffered, with incomes declining 40 percent, previously strong industries declining exponentially and foreign support dwindling. It took Uganda 20 years after Amin's exile to recover to the level of economic progress it saw in 1960 (Siggel, 2004).

President Yaweri Museveni and Ministers of Parliament established frameworks to revitalize the country's strongest industrial assets, combat inflation induced by higher incomes and, most importantly, address poverty. Recently, the International Monetary Fund praised Uganda's macroeconomic policy, using terms like "robust" to describe the country's economy. Citing its cooperative development program with Uganda, the Poverty Reduction and Growth Facility (PRGF), the IMF heralded strong progress in the country's attempts to address its previous economic shortcomings, not the least of which is aggregate demand.

Deputy Managing Director Takatoshi Kato remarked,

"Under the PRGF arrangement, Uganda has achieved macroeconomic stability and a strong external position, and has implemented a range of key structural reforms. Prudent monetary and fiscal policies, complemented by large external inflows, have contributed to higher growth and broad price stability, setting the stage for increased investments in health, education, and physical infrastructure, and improved living standards for Uganda's fast-growing population” (cited in “IMF Executive Board,” 2006, par. 6).

There are concerns, however, that Uganda still has a distance to travel before consumer needs are met. Among them is the nagging issue of poverty: The Organization for Economic Cooperation and Development recently noted that Uganda's government has been using international aid to eliminate budget deficits, not mitigate poverty. Aid donors, understandably, are becoming increasingly wary of sending funds to Uganda that will simply be used to balance the budget instead of feeding and clothing poor households (Global Consumption, 2006).

Nonetheless, Kiingi (2007) noted that with an overall inflation rate of 2.7 percent and a government that understands addressing consumer demand as the most pressing issue regarding economic development, Uganda at the very least warrants a watchful eye as a model of macroeconomic policymaking after 25 years of internal chaos. In 2013, consumer inflation was 4.9% and expected infrastructure development centered on foreign investment in oil production was going slowly owing to political objections and corruption (Country Intelligence Report, 2013).

Conclusion

This essay takes a close look at one of the most critical components of an economy: Demand. Since the Great Depression, policymakers have looked at consumers as the focal point of recovery from social upheaval, economic collapse (or simply malaise) and even civil/military conflict. Those lawmakers were well-advised to create policy that bolsters this vital sector of the economy. Some nations would rather the economy improve itself through the free market rather than deploy targeted policies to help along redeveloping systems. As the case of the Soviet Union demonstrates, such a lack of intervention can prove detrimental to a return to economic prosperity.

Keynesian Strategies for Economic Strengthening

There are many countries that employed a Keynesian strategy. Some are relative successes, others still a work in progress. The cases offered in this article, however, are rather special. As stated earlier, Lebanon has been situated amid the near chaos of the Middle East, at times absorbing the viciousness of that region within its own borders. Few nearby Near Eastern nations, particularly those that do not produce oil in great quantities, have developed strong economic bases in which aggregate demand is a stable element. The Lebanese government clearly recognizes that demand is an area worthy of consideration in economic recovery. As Keynes suggests, policymakers who intervene in an attempt to address consumer demand are likely to see long-term economic development in comparison to allowing the free market to correct itself.

In Lithuania, the situation is rather different from that of Lebanon but equally special. Lithuania's plight was worsened by the demise of the only contributor to its economy: The Soviet Union. With few controls, a diversifying economic base and increased worker wages, the Baltic nation is at risk of inflation. Its solution is again reflective of Keynes's thinking: Policy that centers on the needs of the consumer are likely to create effective economic recovery and stabilization.

For more than two decades, Uganda was isolated from the rest of the world largely due to its own actions (or lack thereof). Uganda certainly was not immune to the turmoil of the nations immediately nearby — that country still has a secessionist movement in its north, and the horrific events of Rwanda, Burundi, Sudan and the Democratic Republic of Congo have spilled within Uganda's borders. Similarly, it was not immune to the corruption, instability and brutal dictatorships that have been a hallmark of central African history. Still, Uganda has prevailed, largely due to its stated commitment to institute free market reforms, repair national infrastructure, combat poverty and restore consumer confidence. Foreign investors and trading partners alike are encouraged by Uganda's example, and despite its erratic performance, most observers believe that nation is not far from prosperity.

There is an element in operation in each of these case studies, as it is in most developing countries. Developing nations of the Near East, the former Soviet Union and Africa all are dependent on international aid. It is, after all, a global economy. While scholars would like to analyze an economic system that is free of external influences (and certainly foreign capital), such systems are not in place any more in the 21st century. Regardless of the source of those funds, however, the principle of establishing or reinvigorating aggregate demand elements remains sound — the government in question, at least ideally, seeks to apply available monies to strengthen the consumer base. These funds are ideally used to help less developed (or war-torn) countries rebuild infrastructures. Countless industrialized nations offer similar programs, as does the IMF, the UN and non-profit organizations. For example, as stated earlier, the IMF provides such a program to Uganda's government. That program, like others, is designed to empower the consumer with resources not to simply survive but to build or rebuild a thriving economy.

As each of the examples provided in this study demonstrate, Keynesian economics offer viable solutions to countries that are reemerging from economic collapse, social upheaval and even violent intra- and interstate conflicts. The keys, as Keynes suggests, are two-fold: First, it is vital for government to play a role in revitalization and redevelopment — under the circumstances of these case studies, markets that are left unassisted are likely to continue free-falling. Second, aggregate demand must be a pivotal focal point of those8 reforms. Efforts to stave off inflation, safeguard prices, lower taxes, bolster employment and wages, create opportunities for investment and in general, increase consumer confidence are key to fostering a sustainable macroeconomy.

Terms & Concepts

Aggregate Demand: The total demand for goods and services within a nation's economy.

Economic Development: The practice of establishing fiscal and industry systems necessary for long-term vitality.

Economic Policy: Legislation and/or regulation designed to develop or redevelop growth within a certain geographic or industrial area.

Free Market: Economic system concept wherein industrial mechanisms operate with little to no government intercession.

International Aid: Grants and appropriations designed to assist a developing nation in building systems necessary for self-subsistence.

Keynesian Strategy: Policymaking that entails government actively pursuing legislation and/or regulation that promotes economic development via focus on demand-side sectors.

Macroeconomics: The study of an aggregate economy (macroeconomy), including supply and demand, and how its components interact with one another.

Bibliography

Bloomfield, L. & Moulton, A. (1999). Cascon case LBN: Lebanon civil war 1975-90. Retrieved September 20, 2007, from Massachusetts Institute of Technology Cascon Institute for Analyzing International Conflict http://web.mit.edu/cascon/cases/case%5flbn.html.

Country intelligence report: Uganda. (2013). Uganda Country Monitor, 1-20. Retrieved November 15, 2013, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=85939399&site=ehost-live

Country Report: Lithuania. (2013). Country Report. Lithuania, , 1-29. Retrieved November 15, 2013, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=86411152&site=ehost-live

Embassy of Lebanon. (2002). Profile of Lebanon: The economy. Retrieved September 20, 2007, from http://www.lebanonembassyus.org/country%5flebanon/economy.html.

Felix, D. (2004). Keynesian consequences. Society, 41, 58-62. Retrieved September 18, 2007, from EBSCO Online Database Academic Search Premier. http://search.ebscohost.com/login.aspx?direct=true&db=a9h&AN=18673760&site=ehost-live

IMF executive board completes final review of Uganda's arrangement and approves 16-month policy support instrument. (2006, January 24). Press Release. Retrieved September 20, 2007, from International Monetary Fund. http://www.imf.org/external/np/sec/pr/2006/pr0614.htm.

Kiingi, A. (2007, September 3). Uganda: Inflation crops to 2.7 percent. The New Vision. Retrieved September 20, 2007, from http://allafrica.com/stories/200709040050.html.

National Council on Economic Education. (2007). Fiscal and monetary policy process. Retrieved September 16, 2007, from EconEdLink. http://www.econedlink.org/lessons/index.cfm?lesson=EM352.

Siggel, E. (2004). Uganda's policy reforms, industry competitiveness and regional integration: A comparison with Kenya. Journal of International Trade and Economic Development, 13, 325-357. Retrieved September 20, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=14387799&site=bsi-live

Skidelski, R. (2005). Keynes, globalisation and the Bretton Woods Institutions in the light of changing ideas about markets. World Economics, 6, 15-30. Retrieved September 18, 2007 from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=17046480&site=bsi-live

Stegman, T. (2004, May). Fiscal policy: Theory and practice. Ecodate.

Suggested Reading

Chipman, J. S. (2007). Aggregation and estimation in the theory of demand. History of Political Economy, 39, 106-129.

Estes, R. J. (2007). Development challenges and opportunities confronting economies in transition. Social Indicators Research, 83, 375-411. Retrieved September 20, 2007, from EBSCO Online Database Academic Search Premier. http://search.ebscohost.com/login.aspx?direct=true&db=aph&AN=25130608&site=ehost-live

Hayes, Mark G. (2007). The point of effective demand. Review of Political Economy, 19, 55-80. Retrieved September 20, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=24078213&site=ehost-live

Kuodis, R., & Ramanauskas, T. (2009). From boom to bust: Lessons from Lithuania. Monetary Studies (Bank Of Lithuania), 13, 96-104. Retrieved November 15, 2013, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=47576699&site=ehost-live

Pressman, Steven. (2006). Economic power, the state and post-Keynesian economics. International Journal of Political Economy, 35, 67-86. Retrieved September 20, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=25079583&site=ehost-live