Since the Great Depression, economists have been arguing about Keynesian and Monetarist Theories. They argue which theory was best suited based on its infrastructure for the situation. It causes them to argue today on which theory would be best for the nation’s economy. While the two theories overlap slightly, they are vastly different, with one focusing on the economic stimulation the central bank can provide, and the other focusing on the central bank’s monetary supply. While both have faced criticism, and both have been used to manipulate the country’s economy, it seems Keynesian Theory is best suited for the American economy’s needs.
Keynesian economics was argues to be the answer to the issues caused during the Great Depression, as well as the Great Depression itself. The theory stated the economy needed to be stimulated through a reduction of interest rates, while the government invested in the country’s infrastructure to generate jobs . Interest rates would lower, allowing business and consumers to maintain investments, which were once unprofitable for gain. A second goal for lowered interest rates was to allow large purchases, normally debt-financed, to be more affordable. The central banks responsible for monetary policy have the power to raise and lower interest rates in an effort essentially to control affordability of certain purchases, profitability of investments and, ultimately, they hold the ability to stimulate the economy. This expansionary monetary policy can be jumpstarted by lowering taxes, enabling the public to spend more, or generating the economic atmosphere for both. Deficits in the economy are not essential to enact expansionary monetary policy.
Monetarism specializes primarily in macroeconomic effects based on how much money is in central banking, e.g. central banking’s supply of funds . The theory states expanding too quickly or too much causes inflation, and focuses on stabilizing prices, rather than fluctuating supply. Monetarism blames excessive inflation solely on an excess money supply the central bank generates. The theory also blames the subsequent deflationary spirals on the central bank, as it is the opposite effect of excess money supply, and a failure on the central bank’s part to support said supply. A fixed monetary rule was once proposed to side step this issue. Friedman’s k-percent rule would automatically increase the money supply by a certain percent each year, disallowing the central bank any negotiation. Corporations would know beforehand and would be able to prepare for the raise and adjust, but even with this rule, it is widely believed manipulating the supply would throw the economy into chaos.
The Monetarist and Keynesian Theories agree on a few key things. For example, both theories support the idea that unemployment, business cycles, and economic deflation begin due because of supply and demand. Too many employees will cause a drop in demand, for example. Both theories believe the central bank is the backbone of a stable economy. The two theories differ considerably in most other areas, however, primarily concerning economic equilibrium and the government. Keynesian Theory would ask society exercise flexible fiscal and monetary policies. Monetarist Theory demands believes monetary policy should be based on stringent rules. Recent economic issues and the near collapse of 2008 have made many economists of all theories wonder if more government intervention is not needed .
Much like any other theory, there is controversy following both Monetarist and Keynesian Theory. Concerning Monetarists, fiscal policy is most important when demand for money regarding the interest-elasticity becomes zero . This never happens, but there are many options for if it does happen. However, it the number often reaches near zero, and there are few policy options for such a time of crises. Keynesian Theory suffered controversy after WWII. Prior to it, inflation was seen as an evil for the economy and the rules of Keynesian Theory were used to model many economies. However, after WWII, the United States’ period of stagnation was over, and prosperity prevailed. Not all previous predictions, including the Phillip’s curve prediction occurred, and inflation occurred, causing controversy over the theory. People were happy and inflation was seen as a good thing.
Between the two theories, Keynesian Theory appears to be the safer, better bet. It helped drive America out of the Great Depression, and its guidelines helped rebuild the country. After WWII, the country became more prosperous. The spoils of war partially went to the United States, and it showed. However, simply because projections did not come to fruition did not mean inflation was the answer. When the country prospered, the population became greedy. We forced ourselves into a Monetarist economy, which we now cannot control. The projections concerning that Theory are proving to be true: whether we moderate the inflation or not, our economy balances on the brink of chaos at all times. Keynesian Theory would have allowed us to maintain stability, even in prosperity, while Monetarist Theory assures we never know what will happen.
In sum, Keynesian and Monetarist Theory have few similarities. Primarily, they are different economic theories that will illicit different economies. Keynesian Theory seeks to have a more flexible monetary policy with the central bank, and recognizes the central bank has the power to stimulate the economy. Monetarism focuses more on the supply of money in the bank, dealing primarily with inflation. The inflation of the monetary supply, whether fixed or not, typically sends the economy into disorder, making it unfit. Many economists advise against inflation, making Keynesian Theory a more profitable option.
Kindleberger, C. P. (2013). Keynesianism Vs. Monetarism: And Other Essays in Financial History. New York: Routledge.
Mason, W. E., & Butos, W. E. (2012). Classical versus Neoclassical Monetary Theories: The Roots, Ruts, and Resilience of Monetarism — and Keynesianism. Chicago: Springer Science & Business Media.