Price Flexibility and Output Stability: An Old Keynesian View
The central macroeconomic issue is the same as ever. How reliable are automatic market adjustments in maintaining full employment equilibrium in the face of aggregate demand shocks? Many modern theorists assume that nominal prices, including wages, jump instantaneously to keep supply and demand equal in all markets. No excess supply, no involuntary unemployment, can ever arise. However, since actual price adjustments take real time, greater flexibility can be destabilizing. "Real balance" effects are overrated, and the demand effects of nominal price changes are perverse. Activist macro policies are necessary, as Keynes argued, even though nominal prices are far from rigid.
|Date of creation:||1991|
|Date of revision:||Sep 1991|
|Publication status:||Published in Journal of Economic Perspectives (Winter 1993), 7(1): 45-65|
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