AP MacroeconomicsEconomic Systems & Schools of Thought
Classical Dichotomy
The classical dichotomy is the idea that real variables (output, employment) and nominal variables (prices, money) can be analyzed separately in the long run.
Classical economists held that real variables are determined by real forces (technology, resources, preferences) while the money supply determines only the price level, so the two can be studied independently. This dichotomy implies money neutrality and a vertical LRAS. Modern economists generally accept it as a long-run property but argue it breaks down in the short run, where sticky prices let money affect real output. It is a foundational assumption distinguishing classical/long-run analysis from Keynesian short-run analysis.