Classical versus Keynesian Economics

As we look at our future it might seem grim. Especially since we have been in a

recession for the past 2 years. It might seem like all hope is lost and it is time to move to

another country. When you asked me who to vote for, I was thankful that I had taken

Econ 2020. Without that class, I would be in the same boat you are in. How would you

know what option was the best to choose? Between the two candidates, I would pick

the one that is in support of Keynesian economics. I do want to explain why I

recommend this option instead of the other. I wouldn’t want you to just make choices

based on what I recommend but because of the reasons I recommend them.

To start we need to go back in time and first learn about classical approach so we

can better understand the Keynesian approach. It starts way back in the 1770s when

people like Adam Smith, David Ricardo, and John Stuart Mill started to wonder why the

economy what the way it is. They set out to determine why unemployment, GDP,

savings and investments work but also when they fail.

For 200 years these scholars studied the economy and came up with a few

simple rules. The first is what is called pure competition. They believed that the

economy functioned on a pure competition, meaning anyone can enter and exit as they

wish. The entering and exiting of suppliers are determined by the demand from

consumers.

This in return creates the second rule, and that is that wages and prices are

flexible. Since suppliers can enter and exit as demand increases and decreases the
wages and prices charge changed depending on the demand of the market. This is the

perfect example of capitalism in its purest form. When people want more, they get more

and when they want less, they get less. As you can see in the graph below, the

aggregate supply curve stays the same in GDP, but when more is demanded (AD2) the

price level increases as stated in their second rule.

The third and fourth rules come next and fall right in line with the first two. The

third is people are motivated by self-interest. This means that somebody wouldn’t

purposefully hurt themselves or their self-interest. This goes directly into the fourth rule

and that states that people will not fall for money schemes. A great example of this is

when employees are paid more, but the price of goods increase. Therefore, they are still

at the same purchasing power as they were before.

You might be thinking, of course, that makes so much sense. If you are

questioning my suggestion, I understand why but let me help you see why Keynesian

makes more sense. Keynesian economics started in the 1930s during the great
depression. This was things got a lot trickier. People started realizing that the world had

changed with the industrial revolution and the advancements in technology. The

economy was not what it was 200 years before. The economy had advanced with a

more powerful government that was not so vulnerable to change. With the government

and people sticking together there came about unions and government jobs that didn’t

happen before. With these new models, it made prices and employment stickier.

Meaning that just because demand changes doesn’t mean the price of labor or product

changes. Unions could now fight that and stick up for people’s rights. This made it

harder for prices to jump up and down.

The picture above shows a more realistic example of our economy. The price

level for a certain good is 110. This good cannot change due to government involvement

and unions. If the demand for the item changes it affects the GDP and not the price.

This is different from classical who didn’t have to deal with unions and bigger

government.
 If this doesn’t hit it home fore, you then let me talk about the modern Keynesian

model. The modern Keynesian model plays into the fact of the long run and the short

run. When the economy is in trouble it is much like a car that is flooded. The car needs

a jump start, which in this case is government spending. This jump starts the economy

to prevent a recession into a depression.

So, as you can see the reason, I choose the Keynesian model is that it is a faster

way to jump-start the economy. It allows people to get out of a recession and to prevent

depression. Since we have been in a recession for 2 years the Keynesian model will

help people get back to work and help this economy going.