BUS1104-1 WA 2

KEYNESIAN ECONOMICS VS CLASSICAL ECONOMICS

BUS1104-01 MACROECONOMICS

WRITTEN ASSIGNMENT 2

AY2022-T3

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Economists describes economic growth by two models. The first model is the Keynesian theory

developed by British economist, John Maynard Keynes during the 1930s. “Keynesian economics

is a macroeconomic economic theory of total spending in the economy and its effects on output,

employment, and inflation. Based on his theory, Keynes advocated for increased government

expenditures and lower taxes to stimulate demand and pull the global economy out of the

depression.” (Barnier, 2020) Also, “According to Keynesian theory, changes in aggregate

demand, whether anticipated or unanticipated, have their greatest short-run effect on real output

and employment, not on prices.” (Blinder, 1986)

Classical Economy is also known as political economics. “Classical economics refers to the school of

thought of economics that originated in the late 18th and early 19th centuries, especially in

Britain. It focused on economic growth and economic freedom, advocating laissez-faire ideas

and belief in free competition. The classical economic theory propagated the countries to move

from the monarch rule to a capitalistic democracy factored with self-regulation. The theory states

that the double and competing forces of both the demand-side and supply-side move the market

to achieve equilibrium between the price and production equilibrium” (Annapoorna, 2020)

The Similarities of Keynesian and Classical Economy.

Their opinions are similar with the fact that they both do not focus more on the value of how the money

depreciates but focuses more on a person being able to save up more disposable income. Both

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theory understands that the government should play a role although Keynesian economists

believes in the full active force of the government more than the Classical economists.

The Differences of Keynesian and Classical Economy.

Keynesian economists believe that capitalism is a good system that sometimes needs guidance. They

believe that the government must step in and fill the void. Keynesian economists are convinced

that the government’s higher spending creates more demand in the economy.

Classical economists on the other hand belies that the free market will regulate themselves if left alone.

Everyone is free to do and pursue their own interests on free markets that is also open in

competition. They believe that the government spending doesn’t help the economy especially if

they spend higher and creates government debt. Classical economists prefer a balanced budget.

One of the distinctive ways to differentiate Keynesian economists to Classical economists is by the way

they predict future growth of the economy. “Keynesians focus on short-term problems. They see

these issues as immediate concerns that government must deal with to assure the long-term

growth of the economy.

Classicists focus more on getting long-term results by letting the free market adjust to short-term

problems. They believe short-term problems are just bumps in the road that the free market will

eventually solve for itself.” (Woodruff, 2019)

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Handling Issues of Unemployment

“Keynesian enthusiasts favor government involvement and are more concerned about people having

jobs than they are about inflation. They see the role of workers as using their abilities to

contribute for the good of society” Keynesian economists believe that employment can be

increases by increasing effective demand and not by money wage cut. Keynesian theory believes

that supply itself cannot create a matching demand that can cause for over-production and

unemployment which means “demand creates its own supply”

“Classical economists submit that the reduction of unemployment below the natural rate in the short-

term is attainable by increasing aggregate demand. However, in the long-term, when wages

correct, inflation will be higher because unemployment will return to the natural state.”

(Anonymous) Classical economists believe that a cut in money wage helps increase employment

in case of a situation of unemployment. The theory is based on the belief that “supply creates its

own demand” which there will be neither general over-production nor unemployment.

Some New development from the 1980s to this day

One of the distinctive developments that macroeconomics have changed was the New Keynesian

economic theory. This theory incorporated important ideas from monetarists and new classical

because both spectrums could not stand alone. “New Keynesian economists made a case for

expansionary monetary policy, arguing that deficit spending encourages saving, rather than

increasing demand or economic growth.” (Liberto, 2021)

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“Over the past ten to fifteen years we have seen the emergence of a more nuanced view where

macroeconomic policies can contribute to stabilisation, but with a much deeper awareness of

their limitations.” (Cotis, 2004)

References

A.Blinder. 1986. “Keynes After Lucas.” Eastern Economic Journal 12. Retrieved from

https://www.econlib.org/library/Enc/KeynesianEconomics.html

B.Barnier.April 30,2020. Keynesian economics. Investopedia website. Retrieved from

https://www.investopedia.com/terms/k/keynesianeconomics.asp#:~:text=Keynesian

%20economics%20is%20a%20macroeconomic,output%2C%20employment%2C

%20and%20inflation.&text=Based%20on%20his%20theory%2C

%20Keynes,economy%20out%20of%20the%20depression.

Annapoorna. January 05, 2022. Classical Economics. Cleartax Website. Retrieved from

https://cleartax.in/g/terms/classical-economics#:~:text=Classical%20economics

%20refers%20to%20the,and%20belief%20in%20free%20competition.

J. Woodruff. February 12,2019. Differences between Classical & Keynesian economics.

Small Business website. Retrieved from

https://smallbusiness.chron.com/unemployment-fiscal-policy-12614.html

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J. Cotis. 2004. Recent developments in macroeconomic analysis: Reviving the case for

stabilisation policies. Cairn Website. Retrieved from https://www.cairn.info/revue-

economie-internationale-2004-4-page-85.htm