Question

The popular theory prior to the Great Depression that the economy will automatically adjust to achieve full employment is a. supply-side economics. b. Keynesian economics. c. classical economics. d. mercantilism.

Short answer

The popular theory prior to the Great Depression that the economy will automatically adjust to achieve full employment is: c. classical economics.

Step-by-step solution

Review Option A: Supply-side economics

Supply-side economics is a macroeconomic theory which argues that economic growth can be most effectively achieved by lowering taxes and decreasing regulation. This theory gained prominence in the late 20th century and was not popular prior to the Great Depression. Therefore, option A is not the correct answer.

Review Option B: Keynesian economics

Keynesian economics, named after the British economist John Maynard Keynes, is an economic theory that emerged during the Great Depression. This theory argues that governments need to intervene in the economy, using fiscal and monetary policies to stimulate aggregate demand and achieve full employment. Since Keynesian economics emerged during the Great Depression, it cannot be the popular theory prior to it. Therefore, option B is not the correct answer.

Review Option C: Classical economics

Classical economics is a set of economic theories developed by economists such as Adam Smith, David Ricardo, and John Stuart Mill. The classical economists believed in the self-regulating nature of the economy and that with flexible prices, full employment would be achieved automatically. This belief is in line with the statement from the exercise, making option C the correct answer.

Review Option D: Mercantilism

Mercantilism is an economic theory and practice that was dominant in Europe from the 16th to the 18th century. Its main principles revolved around the accumulation of wealth through trade, protectionist policies, and a favorable balance of trade. Mercantilism does not focus on the automatic adjustment of the economy to achieve full employment, so option D is not the correct answer. In conclusion, the popular theory prior to the Great Depression that the economy will automatically adjust to achieve full employment is: c. classical economics.

Key concepts

Great Depression

The Great Depression was a severe worldwide economic downturn that occurred in the 1930s. It began in the United States following a massive crash in the stock market in October 1929, known as Black Tuesday. The effects of the Great Depression were felt across the globe, with many countries experiencing drastic declines in industrial output, soaring unemployment rates, and severe poverty.

One of the unique aspects of the Great Depression was the unprecedented scale and duration of the economic decline. It lasted for about a decade, affecting millions of lives and changing the economic policies of many nations. As a response, governments started to rethink their economic strategies, leading to the development and implementation of new economic theories and policies.

• Mass unemployment and homelessness were prevalent during this time.
• Governments had to intervene more directly in national economies.
• The period saw significant changes in banking and labor laws to prevent future crises.

The Great Depression served as a catalyst for change in economic thought, marking a shift from classical economic theories to those advocating government intervention.

Full Employment

Full employment is an economic situation in which all available labor resources are being used effectively and efficiently. This means that any remaining unemployment in the economy is minimized or considered "natural." The natural rate of unemployment includes frictional, structural, and seasonal unemployment but not cyclical unemployment, which is tied to changes in the economic cycle.

Prior to the Great Depression, classical economists believed that full employment was a natural state of the economy. They thought that the market would self-regulate through flexible prices and wages, naturally achieving full employment without the need for government intervention. However, the harsh reality during and after the Great Depression challenged these beliefs.

• Full employment does not mean zero unemployment.
• It's about optimizing the use of human resources.
• Government policies can help reach and maintain full employment.

Understanding full employment helps in forming policies that aim to balance economic growth with job creation, making sure that as many people as possible can find work that suits their skills.

Economic Theories

Economic theories are frameworks that economists use to understand how economies operate. They involve models and principles that explain various economic processes and phenomena. Throughout history, different economic theories have shaped the way governments manage economies and create policies, particularly during economic crises like the Great Depression.

Classical economics, which was popular before the Great Depression, suggested that economies could adjust themselves without government intervention. However, the widespread economic collapse of the Great Depression exposed the limitations of this theory. This led to the emergence of Keynesian economics, which posits that active government policies are essential to stabilize economic output and achieve full employment.

Some key points about economic theories include:

• They evolve over time in response to new economic challenges.
• Classical economics focuses on self-regulation of markets.
• Keynesian economics advocates for governmental fiscal and monetary intervention.

Economic theories not only explain how economies function but also guide policymakers in creating strategies to combat issues such as unemployment and inflation.