19 - 1 copyright mcgraw-hill/irwin, 2002 classical economics and keynes classical theory keynesian...
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19 - 1Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Disputes Over MacroTheory and Policy
19C H A P T E R
19 - 2Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
CLASSICAL ECONOMICS AND KEYNES
Classical Economics
Adam Smith - 1776Laissez-faireThe Classical ViewVertical Aggregate Supply CurveStable Aggregate DemandReal Output Depends Upon…•Quantity of money possessed by households & businesses•Purchasing power of money is determined by the price level
19 - 3Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Classical Theory
P1
Q1
Pri
ce L
evel
Real Domestic Output
AS
AD1
19 - 4Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Classical Theory
P1
Q1
P2
Pri
ce L
evel
Real Domestic Output
AS
AD1
AD2
19 - 5Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
CLASSICAL ECONOMICS AND KEYNES
Keynesian EconomicsJohn Maynard Keynes, 1930sThe Keynesian ViewPrices and Wages Downwardly InflexibleActive Government Policy Required to Stabilize the EconomyHorizontal Aggregate Supply Curve to Full-EmploymentUnstable Aggregate Demand
19 - 6Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Keynesian View
P1
Q1
Pri
ce L
evel
Real Domestic Output
AS
AD1
19 - 7Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Keynesian View
P1
Q1
Pri
ce L
evel
Real Domestic Output
AS
AD1
AD2
Q2
19 - 8Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
CAUSES OF MACRO INSTABILITY
Ca + Ig + Xn + G = GDP
Equation of Exchange
M V = P Q = GDP
Changes in InvestmentMainstream View
Monetarist View
Adverse Aggregate Supply Shocks
Stable Velocity
19 - 9Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
CAUSES OF MACRO INSTABILITY
Instability of Investment is the Main Cause of Output ChangesMonetary Policy is a Stabilizing Factor
Mainstream View
Monetarist ViewWith a Stable Velocity, Nominal GDP Depends Upon the Money Supply
Summary
19 - 10Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Real Business Cycle ViewReal-Business-Cycle Theory
P1
Pri
ce L
evel
Real Domestic Output
ASLR1
AD1
Q1
19 - 11Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Real Business Cycle ViewReal-Business-Cycle Theory
P1
Q2
Pri
ce L
evel
Real Domestic Output
ASLR1
AD1
Q1
ASLR2
19 - 12Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Real Business Cycle ViewReal-Business-Cycle Theory
P1
Q2
Pri
ce L
evel
Real Domestic Output
ASLR1
AD1
AD2
Q1
ASLR2
RecessionWith StablePrice Levels
19 - 13Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Real Business Cycle ViewReal-Business-Cycle Theory
P1
Q2
Pri
ce L
evel
Real Domestic Output
ASLR1
AD1
AD2
Q1
ASLR2
RecessionWith StablePrice Levels
CoordinationFailures
CoordinationFailures
19 - 14Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
DOES THE ECONOMY SELF-CORRECT?
New Classical View
Self-Correction? Rational Expectations TheorySpeed of AdjustmentUnanticipated Price Changes
“Price Level Surprises”Fully Anticipated Price-Level Changes
19 - 15Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Q1
Pri
ce L
evel
Real Domestic Output
AD1
ASLR
P1
An increase in ADAS1
Self-Correction
a
NEW CLASSICAL VIEW OF SELF-CORRECTION
19 - 16Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
P2
Q1
Pri
ce L
evel
Real Domestic Output
AD2
AD1
ASLR
P1
An increase in ADAS1
Self-Correction
a
b
NEW CLASSICAL VIEW OF SELF-CORRECTION
19 - 17Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
P2
Q1
Pri
ce L
evel
Real Domestic Output
AD2
AD1
ASLR
P1
An increase in ADAS1
AS2
P3
Self-Correction
a
bc
NEW CLASSICAL VIEW OF SELF-CORRECTION
19 - 18Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Mainstream View
Downward Wage InflexibilityEfficiency Wage Theory
•Greater Work Effort•Lower Supervision Costs•Reduced Job Turnover
Insider-Outsider Theory and Relationships
DOES THE ECONOMY SELF-CORRECT?
19 - 19Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
RULES OR DISCRETION?
Monetary RuleBalanced Budget
In Support of Policy Rules
In Defense of Discretionary Stabilization Policy
Discretionary Monetary Policy
Discretionary Fiscal PolicyIncreased Macro Stability
19 - 20Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
RATIONALE FOR A MONETARY RULEFederal Reserve Increases Money Supply at the Long-Run Growth Rate of GDP
P1
Q1
Pri
ce L
evel
Real Domestic Output, GDP
AD1
Q2
ASLR1
Fed IncreasesThe Money
SupplyResulting in…
ASLR2
P2
19 - 21Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
RATIONALE FOR A MONETARY RULEFederal Reserve Increases Money Supply at the Long-Run Growth Rate of GDP
P1
Q1
Pri
ce L
evel
Real Domestic Output, GDP
ASLR2
AD2
AD1
Q2
ASLR1
GrowthWithout
Inflation orDeflation
P2
19 - 22Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
RULES OR DISCRETION?
Summary of Alternative Views
Chapter Conclusions
classical viewKeynesian viewmonetarismequation of exchangevelocityreal-business-cycle theorycoordination failuresrational expectations theorynew classical economicsprice-level surprisesefficiency wageinsider-outsider theorymonetary rule
ENDBACKCopyright McGraw-Hill/Irwin 2002
19 - 24Copyright McGraw-Hill/Irwin, 2002
Classical Economics and Keynes
Classical Theory
Keynesian View
Causes of Macro Instability
Real Business Cycle View
Does the Economy Self-Correct?
New Classical View of Self-Correction
Rules or Discretion
Rationale for Monetary Rule
Key Terms
PreviousSlide
NextSlide
EndShow
Next:
SupplyAnd
DemandElasticities AndGovernment-Set Prices
Chapter 20