Question

how do the broken window fallacy relate to fiscal stimulus . Approximately 200 words

Answer 1

Understanding Broken Window Fallacy: French economists developed theory of Broken Window of Fallacy. He does not agree with notion that destruction creates demand and demand creates output and employments.

Taking up example of broken window, he says that owner shall create jobs for mechanics by offering work of maintenance. Hence, Here new job is created but side by side, it reduces demand for other goods due to fall in income of owner. One side increase in demand is offset by decrease in demand on another side.

Thus, such theory of economics says that Keynesian theory is not successful in combating recession. But on other side, supporters of Keynesian hold view that during recession pessimism is high. Hence, people tend to save more instead of spending. Thus, there would be further fall in aggregate demand. People would grow pessimist and would like to save more money for future uncertainties. Hence, policy of destruction and construction would help to increase aggregate demand significantly. Rise in demand will increase employment and output. Thus, during recession, Broken window would be helpful to combat recession.