Answer to Question #313630 in Economics of Enterprise for jane

Question

how can policy makers (government) use the neoclassical model of production and consumption to inform policy decisions in the economy? Discuss by using an example

Answer 1

 In general, neoclassical economists favor low taxes to stimulate aggregate supply and economic growth. They also favor limited government spending–they believe in spending on national defense, but not much for transfer policies like Social Security, Medicare, Medicaid or other types of welfare spending

understand the policy recommendations of the neoclassical economists, it helps to start with the Keynesian perspective. Suppose a decrease in aggregate demand causes the economy to go into recession with high unemployment. The Keynesian response would be to use government policy to stimulate aggregate demand and eliminate the recessionary gap. The neoclassical economists believe that the Keynesian response, while perhaps well intentioned, will not have a good outcome for reasons we will discuss shortly. Since the neoclassical economists believe that the economy will correct itself over time, the only advantage of a Keynesian stabilization policy would be to speed up the process and minimize the time that the unemployed are out of work.