Review Questions

1. Why did the “Great Stagflation” present a huge problem to the Keynesian Theory? Why

could this theory not explain the phenomenon of stagflation?

2. Summarize Friedman’s critique of managing aggregate demand to maintain full

employment.

3. How did Friedman’s theory provide an explanation for the phenomenon of stagflation?

4. State the key proposition of Say’s Law. What insight does it contain regarding the nature

of human cooperation under a system of division of labor?

5. Using the insight provided by Say’s Law, explain the consequences of a significant

distortion of the structure of production relative to consumer preferences. How does

the initial crisis or cluster of errors snowball into a recession?

6. Explain the concept of the “order of goods” as used by the Austrian Economists. How

does this relate to the concept of “stages of production”?

7. Draw, label and explain the Hayekian Triangle. How does this diagram provide a concise

depiction of the process of production in a market economy?

8. Explain the process of inter-temporal coordination that takes place in response to an

increase of savings on the free market. In doing so, utilize the Hayekian Triangle, the

loanable funds market and the PPF.

9. What are the consequences of an artificial lowering of the interest rate by the central

bank in the Austrian framework? How does this lead to inter-temporal dis-coordination?

In doing so, utilize the Hayekian Triangle, the loanable funds market and the PPF.

10. When the cluster of entrepreneurial errors that result from an artificial lowering of the

interest rate are revealed, what, according to the Austrian School, is the best policy

response to minimize the length of the recession that will follow?

11. How does this policy response differ from those advanced by the Keynesians? What are

the theoretical differences that drive these differing policy recommendations?