The Theory of Economic Policy

Abstract

Keynesian analysis leads to the conclusion that aggregate demand-management policies can and should be used to improve the economic performance of capitalist-type economies. Keynesians recommend activist fiscal and monetary policies. An activist macroeconomic policy involves setting monetary and fiscal variables in each time period at the values which are thought necessary to achieve the government’s objectives. A basic premise of Keynesian economics is that the private sector is inherently unstable. It is subject to frequent and quantitatively important disturbances in the components of aggregate demand. Left to itself the private sector will allow real national output and unemployment to deviate from the market-clearing equilibrium levels which would have obtained in the absence of such disturbances. It is the task of counter-cyclical or stabilisation policies to offset these private-sector disturbances and so keep real output closer to its market-clearing equilibrium time path.

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