Answer to Question #194502 in Macroeconomics for rachel

Question

Analyze the implications of the New Keynesian Approach for rational Expectations. State your assumptions very well.

Answer 1

The new Keynesian economics has ramifications. Because of its various components, proponents of modern Keynesian economics do not embrace a coherent perspective of economic policy. Their theories are based on imperfectly competitive marketplaces with asymmetrical knowledge and sticky wages and prices in the actual world. These factors cause a drop in demand, market failures across the economy, recessions, and involuntary unemployment. The following assumptions are made: the economy is at full employment, unions and firms have reasonable expectations, and aggregate demand falls after wage contracts are signed and before they are renewed, based on these expectations.

Prices and incomes agreements between employers and unions are also part of the New Keynesian framework. Asymmetries and defects in the labor market, according to the new Keynesian theory, tend to split the market in terms of employment chances. Such flaws result in involuntary unemployment. To address this issue, price and income policies can boost outsider power in respect to insiders by minimizing the impact of market defects and limiting the use of insider power, lowering outsider unemployment.

Price and wage stickiness are emphasized in new Keynesian theories, which re-establish money's non-neutrality and policy effectiveness. When the market-clearing assumption is abandoned, nominal demand disturbances have real impacts in theories that contain rational expectations. Monetary policy can aid in economic stabilization. As a result, new Keynesian economics restores the effectiveness of monetary policy, as opposed to the ineffectiveness of new classical macroeconomics. Involuntary unemployment equilibrium has been maintained by New Keynesian economists. In efficiency wage models, for example, employers do not reduce pay even when there is an excess supply of labor due to prolonged unemployment because this would reduce efficiency and productivity.