New Classical Macroeconomics

The stagflation that afflicted the US and world economy after the late 1960s shook the economists’ faith in Keynesian economics or Monetarism. The Keynesians could explain the rising price level, as a result of an expansionary fiscal policy; the trouble, however, was the continued and persistent recession (unemployment), which was inconsistent with their theory. Monetarists, on the other hand, could explain the recession through the tight monetary policy; however, this explanation was inconsistent with the rising price level. Thus, the inability of Keynesians and Monetarists to explain the key macroeconomic events of the late 1960s and early 1970s discredited their theories and created the need for alternative explanations.