Demand-Side Economics Definition

The main purpose of the demand-side theory is to increase the money supply. Keynes claims that increased product demand stimulates increased economic activities and employment. Expansionary measures are taken by governments to deal with recessions. Governments initiate new projects to create jobs and lower income taxes. In addition, governments curtail interest rates on loans to increase consumers’ liquidity.

Key Takeaways

  • Demand-side economics or Keynesian theory considers the demand for goods and services as the main factor behind economic growth. The theory claims that goods supply alone is not adequate for enhancing an economy.The supply-side theory focuses on the rich and business owners. The demand theory, on the other hand, emphasizes the importance of increased money supply and demand.Increased purchasing power increases goods demand. This triggers production, and the economy requires more employment. Ultimately, an increase in demand results in economic growth.

Demand-Side Economics Explained

Demand-side economics claims that economic growth is predominantly caused by demand for products. This economic theory was first put forth by John Meynard Keynes in the 1930s. Keynes proposed this model in response to the failure of classical economics during the great depression.

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The Keynesian theory is the opposite of the classical theory of supply-side economics. Classical economics (supply-side) claims that goods supply is the most important growth factor. Keynes argues that a manufacturing plant may produce noticeable quantity, but unless there is a demand, there won’t be any sales—the economy won’t improve. Demand, in turn, depends on the consumer’s purchasing power.

The theory also advocates the use of expansionary monetary policies—when government infuses money into circulation—the consumer’s purchasing power rises. Central banks use monetary policies to control money circulation—by increasing or decreasing interest rates on loans.

Also, governments reduce taxes on income and commodities to increase consumers’ purchasing power. The demand side theory advocates the use of such governmental measures. Increased purchasing power—increases goods demand—triggers production, and requires more employment. Ultimately, an increase in demand results in economic growth.

Types

There are two major demand-side policies in economics—monetary policy and fiscal policy.

#1 Monetary policy

This approach involves the regulation of credit or borrowing-related costs. Monetary policies are drafted by a country’s central bank—in the US, The Federal Reserve brings out monetary policies. It is an autonomous body that can make economic decisions without political interference.

For example, when a country undergoes economic slumps, the central bank uses expansionary policies (demand-side approach) to reduce interest rates on loans. When borrowing becomes easier for individuals and businesses, the circulation of money also increases. Increased money supply triggers a chain of events—ultimately, employment levels rise.  

#2 Fiscal policy

This approach involves a change in income tax rates and an increase in government spending. The government invests in new infrastructure projects to put more money into the hands of the consumers. In addition, the government curtails taxes on consumers—income tax.

Example

During the 2008 US recession, President Obama employed demand-side policies to tackle downward trends. He applied a string of economic measures:

  • Reducing interest rates on loans.Reducing the income tax burden on the American middle-class.Pushing for a $787 billion stimulus package into the economy.

This was the most comprehensive economic reform in American history since the 1930s great depression. The demand-side approach makes a visible dent irrespective of the size of an economy.

Supply-Side vs. Demand-Side Economics

Both supply-side economics and demand theory chart the economic progress of a nation. Both theories discuss factors like curtailed taxes, new projects, infrastructure development, and government spending. Supply-side approach Vs. demand-side approach differences are as follows:

This has been a guide to what is Demand-Side Economics. We discuss its definition, types, policies, examples, and Supply-Side Economics vs Demand-Side Economics. You can learn more about it from the following articles –

The demand-side theory was first proposed by John Maynard Keynes. Keynes believed that the growth of an economy is impossible without creating demand for goods and services. Moreover, he advocated that the demand-sided approach generates employment.

According to the demand-side theory, the output of goods and services is directly correlated to market demand. With the increased consumer demand, spending increases—ultimately businesses grow, and employment is generated. Consequentially, the effect of demand gets multiplied—furthering the enhancement of economic growth.

Expansionary measures are employed by governments when economic growth is stifled. During increased unemployment scenarios, governments create new projects—to create new jobs—to infuse money into circulation.

The demand-side theory strongly advocates the need for increasing product demand. The theory claims that demand is the predominant factor behind economic growth. Supply-side economists, on the other hand, emphasize the importance of manufacturers. The supply-side approach incentivizes producers—anticipating new products, increased production, and even new jobs—to fulfill production requirements.

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