Macroeconomic Theories - Research Paper Example

Macroeconomic Theories Introduction George Bernard Shaw once said, “If you lay all the economists end to end, they still won’t reach a conclusion” (Baumol, & Blinder, pp. 13-56). Not anyone can disagree to the above statement of George Bernard Shaw because if you listen to the heated debates of economists, they seem to be arguing on everything from fiscal policy to tax policy, from government intervention to individual savings, from monetary policy to unemployment and from inflation to wages. All of them never agree on any particular decision or approach except for the definition of the Gross Domestic Product (GPD). This paper is an attempt to compare and contrast some of the Macro-economic theories. 2. Keynesian theory of Macroeconomics Before John Maynard Keynes most of the economists of the world believed on the classical theory of macroeconomics. However, the great depression of 1930s turned the tables. The classical theory was appearing to be failing and inconsistent. That allowed a British economist; John Maynard Keynes (Coddington, pp. 23-25)to step up on the stage and present what he thought is the right way to get the economy out of the recession. This theory was the rejection of the classical theory. According to Keynes and his followers, the supply side economics of the classical theory is an obsolete concept (Coddington, pp. 23-25). If the output and employment need to be altered, only the Aggregate Demand had the capability to affect these factors. Therefore, the economy should be a demand side or aggregate demand centered economy. In addition, Keynes and his followers were of the opinion that the aggregate demand of an economy can be calculated by taking “the summation of government spending, consumption, investment, net exports and others” (Coddington, pp. 37-43). Therefore, by varying the consumption levels and spending by the government, the levels of employment and total output of the economy affects. Keynes also argued that the full employment level of output cannot be achieved and the assumption of classical economists of full employment level of output is not realistic (Coddington, pp. 37-43). Money demand and Money supply are important factors in dealing with the economy. Conversely, this brought up the idea of the LM and IS curve. Furthermore, the point were IS and LM are equal determines the level of output and interest rate. All these assumptions and arguments also indicated that according to Keynes, there is no “invisible hand” in economy and government intervention is necessary to achieve the desired results (Baumol, & Blinder, pp. 13-56). 3. Monetarism 3.1 Introduction and differences Another school of thought that emerged after a few decades of the advent of Keynesian school of thought was Monetarism. Milton Friedman was amongst the first and the most important economists who put the foundation stone of Monetarism (Vane, & Thompson, pp. 49-86). Milton and his fellow economists were the ones who initially agreed with the Keynesian ideas against the classical economics and then strongly criticized it on its drawbacks and shortcomings. Milton argued that the Keynesian approach emphasizes on fiscal policy more than the monetary policy. However, fiscal policy fails 100 percent when the situation of “crowding out” occurs (Tomlinson, pp. 256-289). Therefore, monetarists are of the view that money supply as apart of monetary policy has long run effects on the economy. All the desired objectives of increasing the level of output and level of employment can be achieved by using the monetary policy. Moreover, inflation is directly proportional to Money supply as monetarists argue and they had quantitative proofs for that as well. In addition, monetarists also have some reservations on the full government intervention idea of Keynes. Monetarists seem to believe that private sector is inherently unstable and unsound. Therefore, many disturbances that occur in the economy that occur are because of the elongated government intervention. So they conclude that the better the situation if the lesser the government (Tomlinson, pp. 256-289). 3.2 Similarities On the other hand, Monetarists and Keynesians have some thoughts and approaches in common. Both of these schools agree on the idea that the full employment level of output cannot be attained. In addition monetarists are also kind enough to agree on the point that prices and wages and sticky and rigid and cannot change in the short run at least (Vane, & Thompson, pp. 49-86). Even if monetarists say that government should intervene as less as they can, they still seem to reject the idea of “invisible hand” as Keynes did (Tomlinson, pp. 256-289). 4. Neoclassical Economics 4.1. Introduction A more disputed and uncertain form of economics is the neo classical economics, which believes that macro economic problems of employment, output, inflation etc have their solution roots in micro economic theories. The basic assumptions of this school of thought are that firstly all the people in an economy make rational decisions and try their best to maximize the total utility with the help of their decisions. Secondly, in the same way, firms look to maximize their profits in some way or the other. Finally, this school of thought assumes that people make their decisions with full degree of freedom and this only happens when they have enough amount of information. It is important to note that there is not any constant form or approach of neo classicism, since with the passage of time there have been a lot of changes and contributions to this school of thought. This is the reason why it becomes very difficult to answer that what exactly is the real from of neo classical economics. 4.2. Similarities Since this theory sticks to the macroeconomic concepts, there are no evident similarities amongst neo classical theory and others. However, it agrees with the concept of less intervention from government of the monetarists (Lewis, pp. 112-222). 4.3. Differences This theory of macroeconomics has many differences as compared to the other theory. The biggest difference is that this theory has used microeconomics in its approach even for explaining the macro-economic concepts and effects. Moreover, this theory is more inclined towards being a part of normative economics rather than positive economics (Lewis, pp. 112-222). The neoclassical economists try explaining every almost every concept with the equilibrium and the simple supple and demand relationship which is very different from Monetarism and Keynesian since they have focused on many other elements as well. In addition, neo-classicism also regards both the fiscal and monetary policies as useless since when everything depends on expectations of people and buyers very little contributions can be done by altering either the money supply or the money demand. 5. Development of economic theories For the past couple of centuries many theories and schools of thoughts have bombarded economics. Mainly the differences occur on the point, which is the goal of macroeconomics, which is, how government can change the level of output, employment and inflation in a country. Every school of thought differs on the causes, reasons and sources of these elements (Lewis, pp. 112-222). Works Cited Baumol, William J., & Blinder, Alan S. Economics: principles and policy. Thomson South-Western, 2005. Coddington, Alan. Keynesian Economics: The Search for First Principles. Routledge, 2003. Lewis, Charles R. A. Coincidence of wants: the novel and neoclassical economics. Routledge, 2000. Tomlinson, Jim. Monetarism: is there an alternative? Blackwell, 1986. Vane, Howard R., & Thompson, John L. Monetarism: theory, evidence & policy. Martin Robertson, 1979. Read More