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It says that the economy is very free flowing and that prices and wages freely adjust to the ups and downs of demand over time. In the classical economic system, the main of the firms is to maximize profit. Let us first explain how in classical theory price level in the economy is determined. The immediate, short‐run effect is that the economy moves down along the SAS curve labeled SAS 1, causing the equilibrium price level to fall from P 1 to P 2, and equilibrium real GDP to fall below its natural level of Y 1 to Y 2. However, the intersection of the SAS and AD 2 curves is at the lower price level, P 2, implying that the price level falls. 25. The AD/AS model describes changes in the economy by relating real GDP (output) and the price level.. A. This became a major reason for accepting the Keynes view of employment. C. wage levels D. price levels. b. falling interest rate. P = MV/Y . It is neutral in its effects on the economy. Inflation occurs in an economy when the overall price level increases and the demand of goods and services increases. Changes in the money supply could have effects on real variables like output. They have developed an alternative theory of investment in terms of the profit- maximising behaviour of a firm under perfect competition. 26. Classical Theory of Inflation says that money is the asset which is utilized by people to purchase goods and services on a regular basis. Since the classical model is a supply-determined one, it says that equiproportionate increases (or de­creases) in both money wage and the price level will not change labour supply. This is shown in Fig. Well known classical economists include Adam Smith, David Ricardo and John Stuart Mill. +Classical economists believed that flexible prices and wages in the product and labor markets were the first line of defense against unemployment and recession. Classical economists assume that AD/AS intersect at full employment. The horizontal shift in the aggregate demand curve at a given price level is determined by the increase in investment expenditure multiplied by the simple Keynesian multiplier at the given fixed price level (B’H or ΔY = ΔI 1/1-MPC) But given the upward sloping short-run aggregate supply curve SAS with new aggregate demand curve AD 1, price level does not remain fixed. However, the neo-classical economists such as Dale Jorgenson and his co-workers have abandoned the classical and the Keynesian theories of investment on the ground that both are unrealistic. The demand for labors and other factor resources are determined by the demand for the products in the market. Lecture Note on Classical Macroeconomic Theory ... be interpreted as real variables multiplied by a general price level (e.g., the CPI or GDP-deflator). Even at full employment level, there would be workers who would be frictionally or voluntarily unemployed. The Lucas aggregate supply function or Lucas "surprise" supply function, based on the Lucas imperfect information model, is a representation of aggregate supply based on the work of new classical economist Robert Lucas.The model states that economic output is a function of money or price "surprise". The Classical View on Monetary Policy: Money, according to the classicists, is a veil. If, indeed, a general price level component could be distinguished, then it would be possible to measure the difference in overall p The higher the level of effective demand, the greater would be the level of income and employment and vice versa. Ludwig von Mises agreed that there was a core of truth in the quantity theory, but criticized its focus on the supply of money without adequately explaining the demand for money. (12 points) B. 3. Classical economists provided the best early attempts at explaining capitalism's inner workings. Which of the following would explain wage rigidities? For this, they have to determine the level of output to be produced and the number of workers to be employed. In the classical view of the credit market, a rise in saving produces a rise in investment via a a. rising interest rate. If real GDP falls below its natural level, the economy's workers and resources are not being fully employed. The new (short run) equilibrium is at A 1, with lower output level Y 1, lower price level P 1 and an lower interest rate of i 1. The general price level is distinguished from a price index in that the existence of the former depends upon the classical dichotomy, while the latter is simply a computation, and many such will be possible regardless of whether they are meaningful. price level feeds back into the IS-LM model, as it raises the real money supply (M/P) and so shifts the LM Curve downwards, from LM 0 to LM 1. The Keynes theory of employment was based on the view of the short run. It is evident from above that in the Keynesian theory the general price level is determined by the same forces which determine the level of national income and employment, that is, the level of aggregate demand and aggregate supply. Question: QUESTION 1 The Keynesian Short-run Aggregate Supply Curve Is Demonstrated Graphically As A Downward Sloping Curve. +a vertical aggregate supply curve (AS) and a downward-sloping aggregate demand curve (AD) in the upper panel, with the aggregate production function in the lower panel. d. falling price level. The law views that aggregate output produced generates aggregate demand at the same level, and argues that prices and wages … Money is the mode of exchange in every economy at the present day. A. aggregate demand. If the traditional Keynesian views turn out to be accurate, an increase in government spending would: increase the equilibrium level of real GDP. The earliest classical economists developed theories of value, price… In the classical version of the quantity theory of money, which is based on the assumption of full employment and where money is only a medium of exchange, the elasticity of price level (e) and e d remain equal to unity. Vertical Line. At the same price level, P 1, equilibrium real GDP has fallen from Y 1 to Y 3. d) The Keynesian model shows that the level of real GDP is supply-determined. In the classical model of economics, the interest rate is determined by the amount of savings and investment in an economy. It simply affects the price level, but nothing else. The classical view of the good being traded real variables like output the money could. Labor markets were the first line of defense against unemployment and recession maximising behaviour of a firm perfect. Vice versa the major economy Models considered in economics are classical model with misperceptions is similar to the quantity money. 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