This document provides an overview of classical economics and compares it to modern/Keynesian economics. Some key points: - Classical economics is based on flexible prices and wages, and the belief that savings will automatically equal investment through Say's Law. It sees the economy as self-regulating in the long run. - Modern/Keynesian economics, developed by John Maynard Keynes, recognizes situations where savings and investment are not equal in the short run. It advocates for government intervention through spending and policies to stimulate demand and pull the economy out of slumps. - Compared to classical economics which sees little role for government spending, Keynesian economics relies on government spending as a key part of

1. Classical Economics
VS Modern Economics
Classical economics theory and Keynesian Economics Theory and their
differences
12/22/2014
Name: Haish N Patel
Class :B.com H F sec
Roll No :525

2. Economics: An
Introduction
Economics is the study of how people choose to use resources.
Economics is the social science studying the production,
distribution and consumption of goods and services
it is the study of what constitutes rational human behavior in the
endeavor to fulfill needs and wants
It is a complex social science that spans from mathematics to
psychology.
Resources include the time and talent people have available, the land,
buildings, equipment, and other tools on hand, and the knowledge of
how to combine them to create useful products and services.
Important choices involve how much time to devote to work, to school,
and to leisure, how many dollars to spend and how many to save, how
to combine resources to produce goods and services, and how to vote
and shape the level of taxes and the role of government.

3. TYPES OF ECONOMICS
1. Microeconomics
2. Macroeconomics
Microeconomics is one of the main fields of the social science
of economics. It considers the behaviorof individual
consumers, firms, and industries  Macroeconomics
Macroeconomics is the economics sub-field of study that
considers aggregate behavior,and the study of the sum of
individualeconomic decisions.
MACRO ECONOMICS
The field of economics that studies the behavior of the
aggregate economy. Macroeconomics examines economy-wide
phenomena such as changes in unemployment, national
income, rate of growth, gross domestic product, inflation and
price levels.

4. Macroeconomicsis focused on the movement and trends in the
economy as a whole, while in microeconomics the focus is
placed on factors that affect the decisions made by firms and
individuals. The factors that are studied by macro and micro
will often influence each other, such as the current level of
unemploymentin the economy as a whole will affect the supply
of workers which an oil company can hire from, for example.
Phases of Macroeconomics development
 Classical Economics
 Modern/Keynesian Economics
CLASSICAL ECONOMICS
The fundamental principle of the classical theory is that the
economy is self‐regulating. Classical economists maintain that
the economy is always capable of achieving the natural level of
real GDP or output, which is the level of real GDP that is
obtained when the economy's resources are fully
employed. While circumstances arise from time to time that
cause the economy to fall below or to exceed the natural level
of rea1 2SFX 0l GDP, self‐adjustment mechanisms exist
within the market system that work to bring the economy back
to the natural level of real GDP.

5. The classical doctrine—that the economy is always at or near
the natural level of real GDP—is based on two firmly held
beliefs: Say's Law and the belief that prices, wages, and interest
rates are flexible.
Three Key Assumptions Flexible Prices. Says
Law. Saving-Investment Equality

6. MODERN/KEYNESIAN ECONOMICS
An economic theory of total spending in the economy and its
effects on output and inflation. Keynesian economics was
developed by the British economist John Maynard Keynes
during the 1930s in an attempt to understand the Great
Depression. Keynes advocated increased government
expenditures and lower taxes to stimulate demand and pull the
global economy out of the Depression. Subsequently, the term
“Keynesian economics” was used to refer to the concept that
optimal economic performance could be achieved – and
economic slumps prevented – by influencingaggregate demand
through activist stabilization and economic interventionpolicies
by the government. Keynesian economics is considered to be a
“demand-side” theory that focuses on changes in the economy
over the short run.

7. Classical VS Modern Economics
Point Classical Modern
Founder Many Economicstnamely
Adam Smith and others
John Maynard Keynes
Defination According to Say’s law,
supply creates its own
demand. Excess income
(savings) should be
matched by an equal
amount of investment by
business.Interest rates,
wages and prices should be
flexible. The classical
economists believe that the
market is always clear
because price would adjust
through the interactions of
supply and demand.Since
the market is self-
regulating, there is no need
to intervene.
Keynes provided some
explanations: 1) savings and
investments are not always
equal; 2) producers may lower
output instead of prices to
reduce inventories; 3) Lower
production may increase
unemployment rate and
decrease incomes; 4)
monopoly power on the part of
producers and labor unions
would prevent prices and
wages to adjust downward
freely.
Basic Theory Classical economic theory is
rooted in the concept of a
laissez-faire economic market. A
laissez-faire--also known as
free--market requires little to no
government intervention. This
ensures economic resources are
allocated according to the
desires of individuals and
businesses in the marketplace.
Classical economics uses the
value theory to determine prices
in the economic market
Keynesian economic theory relies
on spending and aggregate
demand to define the economic
marketplace. Keynesian
economists believe the aggregate
demand is often influenced by
public and private decisions.
Public decisions represent
government agencies and
municipalities. Private decisions
include individuals and businesses
in the economic marketplace.
Government spending is not
a major force in a classical
Keynesian economics relies
on government spending to

8. Government
Spending
economic theory. Classical
economists believe that
consumerspending and
business investment
represents the more
important parts of a
nation’s
economic growth. Too
much government spending
takes away valuable
economic resources
needed by individuals and
businesses.
jumpstart a nation&amp
economic growth during
sluggish economic
downturns. Similar to
classical economists,
Keynesians believe the
nation’s
economyis made up of
consumerspending,
business investment and
government spending.
Run Long Run Short Run
VALUE THEORY:
Classical economists developed a theory of value, or price, to investigate
economic dynamics. William Petty introduced a fundamental distinction
between market price andnatural price to facilitate the portrayal of
regularities in prices.Market prices are jostled by many transient influences
that are difficultto theorize about at any abstract level. Natural prices,
according to Petty, Smith, and Ricardo, for example, capture systematic
and persistent forces operating at a point in time. Market prices always
tend toward natural prices in a process that Smith describedas somewhat
similar to gravitational attraction
Some historians of economic thought, in
particular, Sraffian economists,[12][13]
see the classical theory of prices as
determined from three givens:
1. The level of outputs at the level of Smith's "effectual demand",
2. technology, and
3. wages.

9. KEYNESIAN MUTIPLIER EFFECT :
The expansion of a country's money supply that results from banks being able to
lend. The size of the multiplier effect depends on the percentage of deposits that
banks are required to hold as reserves. In other words, it is money used to create
more money and is calculated by dividing total bank deposits by the reserve
requirement.
The multiplier effect depends on the set reserve requirement. So, to calculate the
impact of the multiplier effect on the money supply, we start with the amount
banks initially take in through deposits and divide this by the reserve ratio. If, for
example, the reserve requirement is 20%, for every $100 a customer deposits
into a bank, $20 must be kept in reserve. However, the remaining $80 can be
loaned out to other bank customers. This $80 is then deposited by these
customers into another bank, which in turn must also keep 20%, or $16, in but
can lend out the remaining $64. This cycle continues - as more people deposit
money and more banks continue lending it - until finally the $100 initially
deposited creates a total of $500 ($100 / 0.2) in deposits. This creation of
deposits is the multiplier effect.