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Business Cycle Theory$
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Lutz G. Arnold

Print publication date: 2002

Print ISBN-13: 9780199256815

Published to Oxford Scholarship Online: October 2011

DOI: 10.1093/acprof:oso/9780199256815.001.0001

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New Classical Economics

New Classical Economics

Chapter:
(p.50) 4 New Classical Economics
Source:
Business Cycle Theory
Author(s):

Lutz G. Arnold

Publisher:
Oxford University Press
DOI:10.1093/acprof:oso/9780199256815.003.0004

This chapter begins by examining the Lucas model (1973), the ‘down-to-earth’ (Phelps 1990:42) version of Lucas' (1972) pioneering article on Expectations and the Neutrality of Money. It then discusses some subsequent developments in new classical economics. It explains that new classical economics introduces rational expectations into macroeconomics. It notes that the rational expectations assumption is essential for policy effectiveness. It discusses that under rational expectations, wage setters take into account that the AD curve shifts outward. It clarifies that in order to achieve the target wage or employment level, they raise wages in such a way that the AS curve shifts to the left such that the intersection with the new AD curve occurs at the natural state of output.

Keywords:   Lucas model, down-to-earth, Neutrality of Money, new classical economics, rational expectations, macroeconomics

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