A New Approach for the General Equilibrium Analysis: Increase of the Output with Monetary and Fiscal Boosts

Abstract

The purpose of this paper is to present an approach with regard to the dynamic process of the general equilibrium during the business cycle fluctuations following monetary and fiscal interventions, which, I think, could contribute to bridging the differences between the different schools of mainstream economics, that have been minimized but still remain following the long debates and controversies between the Classicals, Neoclassicals, Keynesians, New Keynesians, Monetarists, RBC (Real Business Cycle) economists and the recent DSGE (Dynamic Stochastic General Equilibrium) economists. Further to the presentation of a new principle and mechanism associated with the dynamic process of the general equilibrium through a series of temporary equilibria following monetary and fiscal interventions, the fundamental outcomes of this approach are the following: After a monetary or fiscal expansion there will always be a temporary increase in the production and employment, even if information is perfect and expectations are rational. Furthermore, this temporary increase in production would occur, even if the labor market was absolutely flexible and happened to clear temporarily with higher real wage rates than the original one. Moreover, in the case of a permanent fiscal expansion, e.g. a permanent increase of the annual government expenditures, there will be not only a temporary short-term increase in the production and employment, but furthermore a permanent long-term one, regardless of the evolution and the eventual level of the real wage (higher or lower than the original one). On the contrary a fixed long-term production reflecting a fixed full employment level underlies the conventional theory, unless a long-run growth of production takes place due to long-run growth of the labor force, capital stock, productivity or due to technology improvement etc.