Question

To use an Aggregate Supply / Aggregate modelling approach, explain the variations between Keynesian, Monetaristic, and Neoclassical models with a specific focus on macroeconomic policy effectiveness.

Answer 1

The Keynesian believe that fluctuations in the economic activities are caused by the change in the aggregate demand. There is a problem associated with the aggregate supply. Thus, if the government wants to restore the previous equilibrium in the economy, thus it must go for the expenditure rise, it will drive up the aggregate demand in an economy. Government intervention is most critical part of Keynesian theory.

Monetarists do not agree with the Keynesian theory, say that change in the money supply is key to restore equilibrium in the economy. Further, they believe that fall in the money supply leads to a recession in the economy. And there is no crowding-out effect associated with monetary policy, Government should not go for the fiscal policy as the fiscal policy brings about the crowding-out effect in an economy.

While the neoclassical hold the altogether different view about the economy. They believe flexible wages and price and so the economy has a tendency to come to the equilibrium level automatically. The equilibrium is set up where the economy is at its full potential level. Thus, there is no need of government intervention in economy. Government intervention will create the distortion in the market process.