Supply-side economics
An economic theory which holds that reducing tax rates, especially for businesses and wealthy individuals, stimulates savings and investment for the benefit of everyone. also called trickle-down economics.
Supply-side economics is a school of macroeconomic thought that argues that economic growth can be most effectively created by lowering barriers for people to produce (supply) goods and services, such as lowering income tax and capital gains tax rates, and by allowing greater flexibility by reducing regulation. According to supply-side economics, consumers will then benefit from a greater supply of goods and services at lower prices. Typical policy recommendations of supply-side economics are lower marginal tax rates and less regulation.
The term "supply-side economics" was thought, for some time, to have been coined by journalist Jude Wanniski in 1975, but according to Robert D. Atkinson's Supply-Side Follies [p. 50], the term "supply side" ("supply-side fiscalists") was first used by Herbert Stein, a former economic adviser to President Nixon, in 1976, and only later that year was this term repeated by Jude Wanniski. Its use connotes the ideas of economists Robert Mundell and Arthur Laffer. Today, supply-side economics is viewed by critics as a form of "trickle-down economics"
Supply-side economics developed during the 1970s in response to Keynesian economic policy, and in particular the failure of demand management to stabilize Western economies during the stagflation of the 1970s, in the wake of the oil crisis in 1973. It drew on a range of non-Keynesian economic thought, particularly Austrian school thinking on entrepreneurship and new classical macroeconomics. The intellectual roots of supply-side economics have also been traced back to various early economic thinkers, such as Ibn Khaldun, Jonathan Swift, David Hume, Adam Smith, and Alexander Hamilton.
Monetarism
Monetarism is an economic school of thought that stresses the primary importance of the money supply in determining nominal GDP and the price level. The "Founding Father" of Monetarism is economist Milton Friedman. Monetarism is a theoretical challenge to Keynesian economics that increased in importance and popularity in the late 1960s and 1970s. In fact, the tide was so strong that in 1979 the Federal Reserve switched its operating strategy more in line with Monetarist theory, though they subsequently abandoned the strategy in 1982 for a number of reasons.
Monetarism is a tendency in economic thought that emphasizes the role of governments in controlling the amount of money in circulation. It is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over longer periods and that objectives of monetary policy are best met by targeting the growth rate of the money supply.
Monetarism today is mainly associated with the work of Milton Friedman, who was among the generation of economists to accept Keynesian economics and then criticize it on its own terms. Friedman and Anna Schwartz wrote an influential book, A Monetary History of the United States, 1867-1960, and argued that "inflation is always and everywhere a monetary phenomenon." Friedman advocated a central bank policy aimed at keeping the supply and demand for money at equilibrium, as measured by growth in productivity and demand. The former head of the United States Federal Reserve, Alan Greenspan, is generally regarded as monetarist in his policy orientation.[clarification needed][citation needed] The European Central Bank officially bases its monetary policy on money supply targets.
Monetarism is an economic theory which focuses on the macroeconomic effects of the supply of money and central banking. Formulated by Milton Friedman, it argues that excessive expansion of the money supply is inherently inflationary, and that monetary authorities should focus solely on maintaining price stability.
Monetarism is a mixture of theoretical ideas, philosophical beliefs, and policy prescriptions. Here we list the most important ideas and policy implications and explain them below.
- The theoretical foundation is the Quantity Theory of Money.
- The economy is inherently stable. Markets work well when left to themselves. Government intervention can often times destabilize things more than they help. Laissez faire is often the best advice.
- The Fed should be bound to fixed rules in conducting monetary policy. They should not have discretion in conducting policy because they could make the economy worse off.
- Fiscal Policy is often bad policy. A small role for government is good.
Influential monetary Economists:
Keynesian Revolution
The Keynesian Revolution was a fundamental reworking of economic theory concerning the factors determining employment levels in the overall economy. The revolution was set against the then orthodox economic framework: neoclassical economics.
The early stage of the Keynesian Revolution took place in the years following the publication of Keynes's General Theory in 1936. It saw the neoclassical understanding of employment replaced with Keynes's view that demand, and not supply, is the driving factor determining levels of employment. This provided Keynes and his supporters with a theoretical basis to argue that governments should intervene to alleviate severe unemployment. With Keynes unable to take much part in theoretical debate after 1937, a process swiftly got under way to reconcile his work with the old system to form Neo-Keynesian economics, a mixture of neoclassical economics and Keynesian economics. The process of mixing these schools is referred to as the neoclassical synthesis, and Neo-Keynesian economics can be summarized as "Keynesian in macroeconomics, neoclassical in microeconomics".
Summary
The revolution was primarily a change in mainstream economic views and in providing a unified framework – many of the ideas and policy prescriptions advocated by Keynes had ad hoc precursors in the underconsumptionist school of 19th century economics, and some forms of government stimulus were practiced in 1930s United States without the intellectual framework of Keynesianism.
The central policy change was the proposition that government action could change the level of unemployment, via deficit spending (fiscal stimulus) such as by public works or tax cuts, and changes in interest rates and money supply (monetary policy) – the prevailing orthodoxy prior to that point was the Treasury view that government action could not change the level of unemployment.
The driving force was the economic crisis of the Great Depression and the 1936 publication of The General Theory of Employment, Interest and Money by John Maynard Keynes, which was then reworked into a neoclassical framework by John Hicks, particularly the IS/LM model of 1936/37. This synthesis was then popularized in American academia in the very influential textbook Economics by Paul Samuelson from 1948 onward, and came to dominate post-World War II economic thinking in the United States. The term "Keynesian Revolution" itself was used in the 1947 text The Keynesian Revolution by American economist Lawrence Klein.[1] In the United States, the Keynesian Revolution was initially actively fought by conservatives during the Second Red Scare (McCarthyism) and accused of Communism, but ultimately a form of Keynesian economics became mainstream; see textbooks of the Keynesian revolution.
The Keynesian revolution has been criticized on a number of grounds: some, particularly the freshwater school and Austrian school, argue that the revolution was misguided and incorrect;[citation needed] by contrast, other schools of Keynesian economics, notably Post-Keynesian economics, argue that the "Keynesian" revolution ignored or distorted many of Keynes's fundamental insights, and did not go far enough.
Significance
Professor Gordon Fletcher stated that Keynes's General Theory provided a conceptual justification for policies of government intervention in economic affairs which was lacking in the established economics of the day – immensely significant as in the absence of a proper theoretical underpinning there was a danger that ad hoc policies of moderate intervention would be overtaken by extremist solutions, as had already happened in much of Europe back in the 1930s before the revolution was launched.[3] Almost 80 years later in 2009, Keynes's ideas were once again a central inspiration for the global response to the Financial crisis of 2007–2010.
Rational Expectations Theory
Economic-behavior observation according to which: (1) On average, people can quite correctly predict future conditions and take actions accordingly, even if they do not fully understand the cause-and-effect (causal) relationships underlying the events and their own thinking. Thus, while they do not have perfect foresights, they construct their expectations in a rational manner that, more often than not, turn out to be correct. Any error that creeps in is usually due to random (non-systemic) and unforeseeable causes. (2) In efficient markets with perfect or near perfect information (such as in modern open-market economies) people will anticipate government's actions to stimulate or restrain the economy, and will adjust their response accordingly. For example, if the government attempts to increase the money supply, people will raise their prices and wage demands to compensate for the inflationary impact of the increase. Similarly, during periods of accelerating inflation, they will anticipate stricter credit controls accompanied by high interest rates. Therefore they will attempt to borrow up to their credit capability, thus largely nullifying the controls. This theory was proposed not as a plausible explanation of human behavior, but to serve as a model against which extreme forms of behavior could be compared. It was developed by the US economist Robert Lucas (born 1937) who won the 1955 Nobel Prize for this insight. Not to be confused with rational choice theory. Also called rational expectations hypothesis.
An economic idea that the people in the economy make choices based on their rational outlook, available information and past experiences. The theory suggests that the current expectations in the economy are equivalent to what the future state of the economy will be. This contrasts the idea that government policy influences the decisions of people in the economy.
The idea is that rational expectations of the players in an economy will partially affect what happens to the economy in the future. If a company believes that the price for its product will be higher in the future, it will stop or slow production until the price rises. Because the company weakens supply while demand stays the same, price will increase. In sum, the producer believes that the price will rise in the future, makes a rational decision to slow production and this decision partially affects what happens in the future.
If we think of a stock price. It is common to assume that the price reflects all of the available information about the stock. If there was other information, someone would make money on the poop stock. This is a similar idea to the expectation that the Rational Expectations economist has when looking at economic agents. While acknowledging that the market for stocks has few of the distortions that other markets have, this paradigm allows for pretty good predictions of behavior, largely as a result of the observation that with large numbers the deviations start to cancel out.
Business cycle
- A predictable long-term pattern of alternating periods of economic growth (recovery) and decline (recession), characterized by changing employment, industrial productivity, and interest rates. also called economic cycle.
- The recurring and fluctuating levels of economic activity that an economy experiences over a long period of time. The five stages of the business cycle are growth (expansion), peak, recession (contraction), trough and recovery. At one time, business cycles were thought to be extremely regular, with predictable durations, but today they are widely believed to be irregular, varying in frequency, magnitude and duration
- The business cycle describes the phases of growth and decline in an economy. The goal of economic policy is to keep the economy in a healthy growth rate -- fast enough to create jobs for everyone who wants one, but slow enough to avoid inflation. Unfortunately, life is not so simple. Many factors can cause an economy to spin out of control, or settle into depression. The most important, over-riding factor is confidence -- of investors, consumers, businesses and politicians. The economy grows when there is confidence in the future and in policymakers, and does the opposite when confidence drops.
The Stages of the Business Cycle
There are four stages that describe the business cycle. At any point in time you are in one of these stages:
- Contraction - When the economy starts slowing down.
- Trough - When the economy hits bottom, usually in a recession.
- Expansion - When the economy starts growing again.
- Peak - When the economy is in a state of "irrational exuberance."
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