Question

2. Compare and contrast the Classical and Keynesian viewpoint regarding the likelihood of unemployment persisting in the long run and the desire for government intervention during recessions.

Answer 1

Classical Viewpoint:

Classical Economics is based upon the rule of Laissez Faire which says that government should not intervene in the market to correct the demand and supply imbalances. They argued that the economy will correct itself as both prices and wages are completely flexible. In the long run, they say that the economy reaches to full potential output and the long run supply curve becomes vertical. Classical economists critically alleged the government intervention even at the time of Recession.

The likelihood of unemployment is almost zero in the long run as the Actual Output = Potential output and economy creates efficient use of available resources and technology.

Keynesian Viewpoint:

Keynesian Economics rejected the Laissez Faire system and argued that government intervention is necessary in the market to correct the imbalances between demand and supply. The economy is not self-adjusting and both prices and wages are rigid both in short and long run. Due to this rigidity, there is always a sub-optimal equilibrium which is below the Classical Equilibrium. The actual output is always below the full potential level of output and some amount of unemployment is present in the economy. Supply curve is still upward sloping and does not become vertical. Government intervention is required to stimulate the economy through rise in Aggregate Demand.