1. T WO HUNDRED YEARS OF E CONOMIC THEORY Economics 2301 © Robin Foster

2. T HREE SCHOOLS OF E CONOMIC T HEORY Classical Keynesian Monetary At the end, you will be able to tell which school is best to your liking, and which the country tends to follow.

3. C LASSICAL S CHOOL OF E CONOMICS Time period-1770’s to modern times, except the Great Depression to the 1970’s Other labels-Neo-Classical, Supply-Side, Austrian School, Monetarists. Key Figures-Smith, Say, Ricardo, Marshall, Hayek, Friedman Hayek Fundamental Premise-competition is best for the market.

4. K EY P OINTS Competition creates better, cheaper products, more choices. Smith’s “invisible hand” is the mechanism that creates companies that give the market better products and cheaper products because they are encouraged to perform better than less successful companies. Less successful companies fall out of the market, leaving the more efficient with the profits. Supply creates wealth tat remains in “Long Run” balance. Supply creates it’s own demand-Say’s Law. If there is a surplus, cut production, wages and prices. Society is in “balance” because the loss of wages is balanced by lower prices. Therefore, ‘real wealth’ remains generally the same If there is a shortage, increase production, wages and prices. Society is in “balance” because the increase in prices is balanced by the increase in wages. Therefore, ‘real wealth’ remains generally the same. The market will balance near full and efficient production in the long run.

5. R OLE OF G OVERNMENT Stop any thing that blocks the market’s ability to create open competition. Three main examples of things to stop are monopolies, collusion and union attempts to stop the free flow of wages. Encourage free trade, efficiencies. Oppose excessive taxation.

6. M ODERN P OLITICAL EXAMPLES “Trickle Down” tax policies. Encourage the entrepreneurs and they will hire more workers. (David Stockman and Reganomics of the early 80’s. Flat tax arguments and other anti-tax movements. “Right to Work’ states and other anti-union movements. The EEU, NAFTA, the WTO, based on Ricardo’s Comparative advantage. Many of the modern, “anti-socialism” arguments.

7. K EY THINGS TO REMEMBER Any emphasis on policy that focuses on LRAS. Assumptions that prices and wages are flexible moving up or down. Assumptions that more demand and more money creates inflation. Assumption that more supply can lower costs and prices.

8. K EYNESIAN S CHOOL OF E CONOMICS Time Period-Post WWI, Dominant from the 1930’s to the 1970’s. Other labels-Neo-Keynesian Key Figures-Keynes, Krugman Fundamental Premise-Competitive markets are flawed and cannot stay in balance.

9. K EY P OINTS The “invisible hand’ will also create the constant presence of less efficient companies and failing companies, therefore dragging production and price flexibility. Say’s Law of balance is largely a myth because there is no real price flexibility. When surpluses occur, prices can’t be cut because they are always ‘sticky’ and inputs don’t automatically get cheaper. There will be constant pressure to cut production, cut jobs, cause recessions. Prices can go up quickly, but do not adjust downward quickly (the Ratchet Effect). The market might reach full employment and production but it will not last and then trend back to underproduction and inefficencies.

10. R OLE OF G OVERNMENT Step in and repair the constant recessions. Don’t wait for Long Run balances, there is no political “long run” anyway. Create demand during recessions with tax cuts and government spending increases. Slow inflation with tax increases and government spending reductions. Create ‘safety nets’ like unemployment insurance and social security programs to lessen the constant underperformance of the private market. These become ‘stabilizers”.

11. M ODERN P OLITICAL E XAMPLES Social Security programs, unemployment insurance, minimum wage programs. Fiscal policy options (taxes and spending adjustments by Congress).

12. K EY THINGS TO REMEMBER Any policy that focuses on manipulation of AD. Any mention of “countercyclical fiscal policies”. Any mention of “expansionary” or “contractionary” policies. Any mention of fiscal policies or economic options from Congress (C and G, taxes or spending programs.

13. M ONETARY S CHOOL OF E CONOMICS ( NOT TO BE CONFUSED WITH M ONETARISTS Time Period-1970’s to modern times Other labels-Central Bank Policies, Federal Reserve Policies. Key Figures-Volker, Greenspan, Bernacke, Yellen Fundamental Premise-Non-political fine tuning is best for stable growth.

14. K EY P OINTS Keynesians can never time the policies correctly, especially recessions. Politicians will respond to recessions with tax cuts but won’t respond to inflation with tax increases. Central banks can, and will, provide for stable currencies, realistic growth patterns, long-run thinking.

15. R OLE OF G OVERNMENT Use interest rates (i) to control AD. When more AD is needed, lower interest rates and spur more Ig. When fighting inflation, raise interest rates to slow Ig. Controlling Ig is more long run and healthier that shorter AD targets under Keynesian policies.

16. K EY THINGS TO REMEMBER Any mention of central bank policies or US Fed policies. Any mention of “monetary’ tools: bonds, FFR, discount rate, RR Any mention of ‘easy money’ or ‘tight money’ policies. ‘Open Market Operations’=bond markets and the Supply of Money=FOMC