Lecture Notes: Classical Theory of Output, Income, and Employment

Introduction

• Host: Videe Calvary
• Channel: 5 Minute Economics
• Topic: Classical Theory of Output, Income, and Employment
• Announcement: Celebrating 20,000 subscribers
• Structure: Video series split into two parts; this video covers foundation, next covers diagrams and criticisms
• Previous recommendation: Check out the video on Say's Law

Background

Schools of Thought

• Classical vs. Keynesian Economics
  • Classical economists: Adam Smith, David Ricardo, John Stuart Mill
  • Operated in a capitalist economy
  • Emphasized minimal government intervention

Capitalist Economy

• Features:
  • Profit maximization
  • Minimal state intervention
  • Free market mechanisms ("Invisible hand")
  • Money used mainly for transactions, ignoring its role as a store of value

Beliefs of Classical Economists

• Invisible Hand

  • Economy self-corrects without government intervention

• Full Employment

  • Economy operates at or tends towards full employment
  • Criticized by Keynesian economists who view full employment as rare

Theory Structure

• Divided into four parts:
  1. Say's Law
  2. Wage-Price Flexibility Model
  3. Interest Rate Flexibility Model (Goods Market Equilibrium)
  4. Money Market Equilibrium

Say's Law

• Supply creates its own demand
• Essential understanding for classical theory

Wage-Price Flexibility Model

• Full Employment through Wage Adjustments
  • If unemployment occurs, cut wages
  • Reduction in wages lowers cost of production
  • Lower prices increase demand
  • Increased demand leads to higher employment
  • Criticized for ignoring real-world complexities like labor unions

Interest Rate Flexibility Model (Goods Market Equilibrium)

• Savings and Investments Equality
  • Savings = Investments (S = I)
  • Rate of interest (ROI) is the balancing factor
  • Higher interest rates lead to more savings, less investment
  • Lower interest rates lead to less savings, more investment
  • Equilibrium achieved when savings equal investments

Money Market Equilibrium

• Based on Quantity Theory of Money: MV = PT
  • M = Money supply, V = Velocity of money, P = Price level, T = Transaction volume
  • Change in money supply causes proportional change in price level
• Diagram illustrates how increases in money supply shift demand and affect prices

Conclusion

• Upcoming video will cover diagrams and criticisms of the classical theory
• Encouragement to subscribe and like the channel
• Reminder to check linked videos for detailed explanations on Say's Law and Quantity Theory of Money

References

• Recommended watching of related videos on Say's Law and Quantity Theory of Money for deeper understanding.