John Maynard Keynes

(1883-1946)

John Maynard Keynes wrote The General Theory of

Employment, Interest and Money in 1936 to explain how
a depression was caused and to recommend effective
policies to overcome it. The Great Depression of the 1930s
exposed the inadequacy of Neo-Classical economics.
The General Theory began the Keynesian Revolution,
putting macroeconomic issues such as spending, output
and employment to the forefront of the policy debate.

The Economics of Keynes

Keynes attacked the Neo-Classical assumption of full
employment equilibrium, saying that equilibrium was
possible at below full employment. His critique was based
on a rejection of Says Law. Says Law stated that supply
created its own demand because the income generated
by the production of goods and services would be spent
in buying all of the goods and services produced. The
Neo-Classicists also believed that markets would be self
adjusting through changes in prices to clear any surplus
output. Keynes developed a comprehensive theory of
macroeconomics based on aggregate demand which he
argued was the main determinant of economic activity
including output and employment.
Keynes held that the Great Depression was caused by a
lack of aggregate demand in relation to aggregate supply,
resulting in the equilibrium level of income being less
than the full employment level of income. The result was
falling output, price deflation and rising unemployment.

Keynesian Fine Tuning

Keynes recommended the use of discretionary fiscal policy
(such as spending and taxation measures) to stimulate
aggregate demand to eliminate a deflationary gap. For
example, increased government spending on public works
would boost spending and reduce unemployment, helping
to overcome deflation. Keynes argued that fiscal policy
was more effective than monetary policy in achieving this
outcome because of a liquidity trap for money, if low
confidence restrained borrowing and spending.

Milton Friedman
(1912-2006)

Milton Friedman was one of the most influential

economists of the twentieth century and won the
Nobel Prize for Economic Science in 1976, largely for
his work on the permanent income hypothesis and the
theoretical explanation for stagflation. Conservative and
liberal academic colleagues alike viewed him as one of
the twentieth centurys leading economic scholars along
with intellectual giants such as John Maynard Keynes,
Joseph Schumpeter, John Kenneth Galbraith and Paul
Samuelson.
Milton Friedman was a strong advocate of positive
economics which is concerned with the formulation of
economic theory and its empirical testing, which can be
used for accurate forecasting of economic phenomena
and events. Friedman taught at the University of Chicago
between 1948 and 1979 and was one of the key members
of what was to become the Chicago School of Economics.
He is credited with the revival of the quantity theory of
money and was the driving force behind the modern day
school of economic thought known as Monetarism.

The Free Market

Friedman was a strong advocate of the efficiency gains
from the operation of free markets. He believed that
government interference in markets led to inefficiency
and a lack of freedom of choice. Friedman echoed the
thoughts of Adam Smith whose belief in the invisible
hand of the price mechanism was one of the foundations
for a strong economic system. Friedman advocated freely
operating markets and minimal government intervention.
Milton Friedman became widely known for his research,
writing and public speaking. His most well known
academic books were Studies in the Quantity Theory of
Money (1956) and the Monetary History of the United States
1867-1960 (1963) co-authored with Anna Schwartz. In
1968 he wrote a paper entitled The Role of Monetary
Policy, in which he outlined the concept of the natural
rate of unemployment and the vertical long run Phillips
Curve, which provided a theoretical explanation for the
new phenomenon of stagflation in the 1970s.