Quiz 9: The Monetarist Counterrevolution


The spending hypothesis is the Keynesian version of what caused the Great Depression.The Keynesians believe that the primary causes of the Depression were autonomous declines in consumption,investment,and exports.These declines in the components of aggregate demand were the result of the stock market crash of 1929,overbuilding in the construction sector by the late 1920s,and the breakdown of the international monetary system.

Monetarist see the economy as inherently stable except for the fact that policymakers insist on using discretionary policy,which makes the economy unstable.They would prefer to tie the hands of policymakers and prohibit discretionary policy.Keynesians see the economy as inherently unstable because of unstable expectations which drive changes in investment and consumption.They see the appropriate use of discretionary policy as a potential source of stabilization.

According to Friedman,the monetarists believe in a stable money demand function,with money demand determined only by the level of income.Keynesians believe money demand is unstable and fluctuates with both the interest rate and the level of income.Monetarists believe that velocity is always roughlyconstant,while Keynesians believe it rises during recessions and falls during expansions because of changes in the precautionary and speculative demands for money.