Macroeconomic Theories

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Macroeconomic Theories

• Classical, Keynesian Supply Side
  Economics

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Economy is at Full Employment when AS turns
Vertical
AS
Price Level
Classical Range
Intermediate Range
Keynesian Range
AD
Real GDP
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Economic Schools of Thought
NeoClassical Economics -------------------------
-------
Classical Economics ----------------------------

Keynesian Economics ----------------------------

• 1800 1929

1980 2008
1936 1979
Housing Bubble Now What?
Keynesian Economics did not help here!
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CLASSICAL VIEW

• Markets are naturally self regulating
• No government intervention necessary
• 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

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Classical Model Failure The Great Depression
Real GDP ? 27 Unemployment 3 ? 25 Price
Levels fell
LRAS1
Price Level
AD1
Real GDP
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KEYNSIAN VIEW

• Economy is inherently unstable
• not self regulating
• Recessions can be long permanent
• Major government intervention necessary
• Wages and prices are sticky/fixed
• AS curve is very flat or upward sloping
• Support welfare and government assistance
• Stagflation challenged Keynesian view

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Keynesian Failure Oil Shock
Shifting AD would make inflation worse!
Price
Level
LRAS
Quantity of
0
Output
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Keynesian vs. Classicial
AS/AD Model Keynesian Govt
Intervention
AS/AD Model Classical Self Regulation
AD2
End Result Same Real GDP Employment Keynesian
leads to more debt higher price level
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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 1970s

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Worksheet 2
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What creates Economic Growth?
GDP
GDP
INCENTIVES MATTER!!!
Classical, Keyensian and Supply Side Economists
approach the same economic problems in different
ways!
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Supply-Side Policy

• Basic Belief Government Incentives Matter
• Goal use incentives to encourage new business!
• shift the aggregate supply curve right
• when PPF shifts right gt AS shifts right
• The supply-side toolbox consists of
• 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

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Innovation
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Innovation Schools
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Movies on Education Reform