Download Classical vs. Keynesian Economists

Macroeconomic Theories
Classical, Keynesian & Supply Side Economics
Economy is at Full Employment when AS turns Vertical
AS
Price
Level
Classical Range
Intermediate Range
Keynesian Range
AD
Real GDP
Economic Schools of Thought
Classical Economics
|----------------------------|
1800
1929
Keynesian Economics
|----------------------------|
1936
1979
NeoClassical Economics
|--------------------------------|
1980
2008
Housing
Bubble
Great
Depression?
Prices were
not flexible!
What Now?
Now What?
Keynesian Economics
did not help here!
CLASSICAL VIEW
1. Markets are naturally self regulating
• No government intervention necessary
2.
3.
4.
5.
6.
Recessions are temporary
Wages & prices are flexible
Against minimum wages, welfare, government assistance
Real Variables do not depend on nominal variables
Great Depression challenged Classical View
Classical Model Failure: The Great Depression
Price
Level
Real GDP ↓ 27%
LRAS1
Unemployment 3% → 25%
Price Levels fell
AD1
AD2
Real
GDP
However,
Wages did not adjust
KEYNSIAN VIEW
1. Economy is inherently unstable
•
not self regulating
2. Recessions can be long & permanent
3. Major government intervention necessary
4. Wages and prices are sticky/fixed
•
AS curve is very flat or upward sloping
5. Support welfare and government assistance
6. Stagflation challenged Keynesian view
Keynesian Failure: “Oil Shock”
1. An adverse shift in the SRAS
Price
Level
Shifting AD
would make
inflation worse!
LRAS
SRAS2
SRAS1
B
P2
A
P
3. . . . and
Price level ↑
.
AD
0
Y2
2. . . . causes R-GDP to fall . . .
Y
Quantity of
Output
Keynesian vs. Classicial
AS/AD Model
“Keynesian Gov’t Intervention
LRAS1
Price
Level
Y1
AD2
AD1
LRAS1
Price
Level
P1 --------- E1
Real
GDP
--------
--------
P1 --------- E1
SRAS1
AS/AD Model
“Classical Self Regulation”
Y1
End Result: Same Real GDP & Employment
Keynesian leads to more debt & higher price level
AD1
Real
GDP
SRAS1
SRAS2
Reconciling 2-Views
• Most economists believe classical theory describes world in
the long run but not short run
• Prices, Wages & interest rates are at least somewhat sticky in
the short run
• Keynesian economics focuses on AD and failed to explain the
Stagflation of the late 1970’s
Worksheet #2
What creates Economic Growth?
GDP
GDP
GDP
INCENTIVES MATTER!!!
Classical, Keyensian and Supply Side Economists
approach the same economic problems in different ways!
Supply-Side Policy
• Basic Belief: Government Incentives Matter
• Goal: use incentives to encourage new business!
Cars
AS
United States
100
50
• The supply-side toolbox consists of:
Price
Level
.
---------- B
-----------
– shift the aggregate supply curve right
– when PPF shifts right => AS shifts right
50
AD
100
Technology
Goods
– Tax cuts to stimulate work, saving, and investment (I↑)
– Deregulation to reduce production cost/stimulate investment.
– Expenditures on education training/research expands capacity to produce
Real GDP
Innovation
Innovation & Schools
Movies on Education Reform