Classical Economists believed free play of the market economy. They believed that the economy has the capacity to self regulate and hence no interference is required.
•Self adjusting markets: The economy can adjust to the changes in the economy and no need of government or any other interference is required.
•Prices are flexible
•Supply creates its own demand: Say’s Law, Production will generate income and the income is spend to buy goods and services, means supply will create its own demand.
•Flexible interest rate: Saving and Investment will self regulate
•Full employment: The economy is always in Full employment.
Keynesian economics analyses the total spending in the economy (aggregate demand) and its effect on output and inflation. Aggregate demand needs to be regulated and it can be done by government interference. Fiscal and monetary policy can be used to influence aggregate demand.
Classical Thinking on Aggregate Demand and Supply
The classical economists believe on full employment. It means there are open environment and free play of economic factors like demand, supply, production, investment etc and the economy is self-regulating according to the situations. The economy always tries to be in full employment by self adjusting. For eg, if there is less than full employment in a sector, it will trigger to invest more inputs and will achieve full employment. Clssicals believe full employment without inflation is the normal situation in economy.
Keynesian Thinking on AD and AS, Unemployment and inflation.
Keynesian economists believe that a change in aggregate demand will have its short run impact on output and employment and not on prices. Philips Curve explains a rise in inflation will lead to fall in unemployment and vice versa. Keynesians believe that wages or prices respond slowly to changes which will create shortages in supply and demand the short-run. Keynesian economists are more concerned with tackling unemployment than inflation. It considers only short-run effects and believe that in the long-run, we are all dead.