Question

Describe the following models of the monetary origin of business cycles (a) Keynesian (this is a trick question) (b) Monetarist (c) Austrian (d) Post-Keynsian (also a trick question)

Answer 1

1. According to Keynes, business cycle is caused by variations in the rate of investment caused by fluctuations in the Marginal Efficiency of Capital that is the expected profits from new investments whereas business cycles are periodic fluctuations of employment, income and output. According to him, income and output depend upon the volume of employment. The course of a business cycle, according to the Keynesian theory, runs like during the period of expansion the marginal efficiency of capital is high.
2. Friedman’s Monetarist argued that instability in growth of money supply is the source of most cyclical fluctuations in economic activity. He proposed that stabilizing monetary supply would prevent excessive highs and lows that lead to inflation on one hand and economic downturn on the other. Therefore, the theory is called monetarist theory of business cycles
3. Austrian theory is the only satisfactory explanation of this business cycle because the principal source of economic disruption and the business cycle is irresponsible government policy. The business cycle, inflation, and high nominal interest rates are not caused by the free market, but by government's monetary and fiscal policies. The key to the economic cycle is what the Austrians call the "structure of production." Unlike the Keynesians and Monetarists, the Austrians look at the economy not as a whole, but as a collection of individual parts—not "macroeconomics," but "microeconomics." There is an order to the production of goods and services in an economy.
4. Keynesians had emphasized the role of fiscal rather than monetary policy as the key to fighting recessions. He believed that the end of full employment was the beginning of inflation.