Classical vs new classical monetary economy

A great topic in economics!

The Classical and New Classical monetary economies are two distinct schools of thought that have shaped the understanding of monetary policy and the behavior of economic agents. Here's a brief overview:

Classical Monetary Economy (18th-19th centuries)

The Classical school, also known as the "Old Classical" or "Pre-Keynesian" school, emerged in the 18th and 19th centuries. Key figures include Adam Smith, David Ricardo, and Thomas Malthus. The core principles of the Classical school are:

  1. Laissez-faire: The economy is best left to its own devices, with minimal government intervention.
  2. Say's Law: Supply creates its own demand, meaning that production is the primary driver of economic activity.
  3. Full Employment: The economy is always at or near full employment, as wages and prices adjust to clear labor and goods markets.
  4. Price Flexibility: Prices are flexible and adjust quickly to changes in supply and demand.
  5. Money is Neutral: Monetary policy has no long-term effects on the economy, as the money supply is endogenously determined by the banking system.

The Classical school believed that the economy is self-correcting and that government intervention would only lead to inefficiencies and distortions.

New Classical Monetary Economy (20th century)

The New Classical school emerged in the mid-20th century, particularly in the 1970s and 1980s. Key figures include Milton Friedman, Robert Lucas, and Thomas Sargent. The core principles of the New Classical school are:

  1. Rational Expectations: Economic agents form expectations about future economic outcomes based on all available information, including past data and policy announcements.
  2. Microfoundations: Macroeconomic phenomena are the result of individual economic agents' decisions, rather than aggregate demand and supply curves.
  3. Monetary Policy Ineffectiveness: Monetary policy is ineffective in the long run, as the money supply is endogenously determined by the banking system and the economy adjusts quickly to changes in the money supply.
  4. Price Stickiness: Prices are sticky, meaning that they do not adjust immediately to changes in supply and demand.
  5. Fiscal Policy Ineffectiveness: Fiscal policy is also ineffective, as government spending and taxation have limited impact on the economy.

The New Classical school emphasizes the importance of microfoundations and the limitations of monetary and fiscal policy. They argue that government intervention can lead to inefficiencies and distortions, and that the economy is better left to its own devices.

Key differences

The main differences between the Classical and New Classical monetary economies are:

  1. Monetary policy: The Classical school believed that monetary policy is ineffective, while the New Classical school argues that it is ineffective in the long run but can have short-term effects.
  2. Price flexibility: The Classical school assumed that prices are flexible, while the New Classical school argues that prices are sticky.
  3. Fiscal policy: The Classical school believed that fiscal policy is ineffective, while the New Classical school argues that it is also ineffective.
  4. Microfoundations: The New Classical school emphasizes the importance of microfoundations, while the Classical school focused on aggregate demand and supply curves.

In summary, the Classical school believed in the power of laissez-faire economics, while the New Classical school emphasizes the limitations of government intervention and the importance of microfoundations.