Question

Explain why economists who subscribe to classical theory think the economy is price-driven and those who subscribe to Keynesianism think the economy is income-driven?

Answer 1

Ans. Classical theory usually think that the economy is price-driven because when market is free there is mos efficient allocation of resources. When there is no market intervention, then price plays the crucial role of equating the demand to the supply and thus drives the economy to equilibrium.

Keynesians usually believed that adding incomes and profits during the boom years through tax cuts, and removing incomes and profits from the economy through cuts in spending during downturn, usually tend to increase the negative effects of the business cycle. Thus, economy is usually driven by income according to Keynesianism.