Chapter 8

New Keynesian School

The stagflation of the late 1960s and inflation of the 1970s discredited Keynesian theories. Theoretical challenges from advocates of monetarism, Austrian economics, and rational expectations hypothesis discredited the notion of a trade-off between unemployment and inflation suggested by the Phillips curve, and cast doubt on the effectiveness and usefulness of discretionary policy, be it fiscal or monetary.1 In spite of their criticisms of Keynesian economics, monetarists have been influenced by it. One of these influences is evident through the inclusion of interest rate in their explanations of the demand for money. Keynesian economics has been influenced by monetary theory as well. One consequence of the emergence ...

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