Topic 6 - Laissez faire economic models Flashcards
what are the traditional ways to teach macroeconomics based on:
there is a single equilibrium in the economy
should allow markets to achieve this equilibrium without intervention
if there are imperfections in economy, then policy should work to move or correct them
there is limited role for the government except to ensure the free functioning of markets
since the market successfully allocates resources, there is no need to talk about the role of financial markets in the economy, the role power relations is in the economy, or the level of income and wealth distribution.
what supports this laissez-faire approach to economics?
The simple classical model is a supply side model
With price flexibility, changes in the money supply only affect prices. The government should focus on steady money supply growth.
no real role for the government in the economy except to ensure markets function properly. Even if there is market failure, any gov intervention in the economy will have limited to no effect (e.g Ricardian equivalence and full crowding out (exogenous money))
What does this evidence suggest
We need more sophisticated analysis
what is this 21st century improved model
Blanchard IS-LM-PC model
Key features of the Blanchard IS LM PC model
Imperfect competition between firms and labour bargaining power over real wages
Can incorporate cost shocks
Build the model with an endogenous money LM curve.
The central bank sets interest rate to conduct monetary policy
The IS curve is derived from the Keynesian cross with a consumption function, an investment function and a risk premium that allows analysis of frictions in financial markets
Government spending multipliers can be large
How does the model compare to data
Does a reasonable Job of matching data for monetary and fiscal shocks.
Can provide a good explanation of real-world crises from the Great Depression, stagflation, the 2008 financial crisis and the pandemic
