[Intermediate Economic] NKE vs Structural Keynesian

Ini jawaban dosen kita untuk pertanyaan dari Adiska tentang Neo Keynesian, Neo classical dan Structural Keynesian. Kalau gak salah pertanyaannya adalah tentang Full Employment di NKE vs NCE.

NKE vs Structural Keynesian:

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Dear Adiska,
This is a big question, and not easy to answer in a short email. But I will try.
The New Keynesian Economics (NKE) approach shares most of the assumptions with the New Classical Economics (NCE) approach, including:

• optimizing economic agents, 
• rationality, 
• rational expectations (= perfect foresight = all future options are known with given probabilities), 
• and a basically unstable economic stable which has to be kept at “equilibrium” at the NAIRU. 

The big difference between NKE and NCE is that NKE assume that in the short run, markets do not work without frictions and are not efficient (in the short run). Reasons for this include the possibility that agents may be having the wrong expectations (they are “myopic”), or that there is asymmetric information due to which (financial) markets do not function in an optimal manner. This means that in the NKE approach, the short-run situation is different from the long-run (NAIRU) outcome, because adjustment process take long. (How long we don’t know). But in the long run, the economy has to converge back to the NAIRU equilibrium, which means in the long run NKE = NCE. Specifically it means that in the long run, fiscal stimulus is ineffective and monetary policy (interest rate policy) should be used to target inflation (<= 2%)

Structural Keynesianism (SK) is totally different. It argues, following Keynes, that there is fundamental uncertainty – we don’t know the risks or probabilities of possible future outcomes, and hence cannot make precise rational decisions based on optimalization. Basically what we do is to rationalize our decisions, and one major way to do this is by looking at what your peers do. This means, for instance, that our expectations about the future state of the economy are heavily influenced by what we think the others think, or by what we think is average opinion. This in turn means that expectations are socially constructed, influenced by social psychology, and often self-fulfilling, i.e. if we think there is a crisis, we reduce our spending and save more; AD goes down, the crisis becomes deeper, we feel reinforced in our pessimism, cut spending even more etc.

In addition to this, SK emphasizes structural factors including:

• the way income is distributed across wages and profits;
• the way the financial sectors supports or obstructs the real economy; 
• the way an economy is integrated into the global economy (trade deficit or trade surplus); 
• and the way technological progress affects and interacts with the economy (through the Kaldor-Verdoorn relation). 

Palley for instance argues that the wage stagnation in the US, and the decline in the wage share, lead to stagnation of AD and growth --- and only by taking on more debts, could spending and AD be raised to let the US economy grow. For the structural Keynesian view, you should carefully read Palley’s chapter 4 (America’s exhausted paradigm).

I hope this will be helpful.

Best regards,
Servaas Storm