Question

Although not explicitly mentioned in Chapter 20, John Maynard Keynes is considered a foundational source in the understanding of macroeconomics. After performing research outside the textbook, please explain in three well-structured paragraphs the basic principles of the New Keynesian Economics and how it addresses perceived limitations to classic Keynesian theory

Answer 1

New Keynesian economics is that the school of thought in modern macroeconomics that evolved from the ideas of John Maynard Keynes. Keynes wrote the overall Theory of Employment, Interest, and Money within the 1930s, and his influence among academics and policymakers increased through the 1960s. within the 1970s, however, new classical economists like Robert Lucas, Thomas J. Sargent, and Robert Barro called into question many of the precepts of the Keynesian revolution. The label “new Keynesian” describes those economists who, within the 1980s, skilled this new classical critique with adjustments to the first Keynesian tenets.

The primary disagreement between new classical and new Keynesian economists is over how quickly wages and costs adjust. New classical economists build their macroeconomic theories on the idea that wages and costs are flexible. They believe that prices “clear” markets—balance supply and demand—by adjusting quickly. New Keynesian economists, however, believe that market-clearing models cannot explain short-run economic fluctuations, then they advocate models with “sticky” wages and costs . New Keynesian theories believe this stickiness of wages and costs to elucidate why involuntary unemployment exists and why monetary policy has such a robust influence on economic activity.

A long tradition in macroeconomics (including both Keynesian and monetarist perspectives) emphasizes that monetary policy affects employment and production within the short run because prices respond sluggishly to changes within the funds . consistent with this view, if the cash supply falls, people spend less money and therefore the demand for goods falls. Because prices and wages are inflexible and don't fall immediately, the decreased spending causes a drop by production and layoffs of workers. New classical economists criticized this tradition because it lacks a coherent theoretical explanation for the sluggish behavior of costs . Much new Keynesian research attempts to remedy this omissio

New Keynesian theory differs from classical Keynesian thinking in terms of how quickly prices and wages adjust.New Keynesian advocates maintain that prices and wages are "sticky," meaning they adjust more slowly to short-term economic fluctuations. This, in turn, explains such economic factors as involuntary unemployment and therefore the impact of federal monetary policies.In the paper, new classical economists Robert Lucas and Thomas Sargent acknowledged that the stagflation experienced during the 1970s was incompatible with traditional Keynesian models.Lucas, Sargent, et al. sought to create on Keynes’ original theory by adding microeconomic foundations thereto . the 2 major areas of microeconomics which can significantly impact the macroeconomy, they said, are price and wage rigidity. These concepts intertwine with social theory, negating the pure theoretical models of classical Keynesianism.