keynes

The Limits of the
ECONOMIC CYCLE
an exercise in nonlinear economic dynamic modelling

by Andrew Rowson, supervised by Prof. A.R.Champneys
Home A Dismal Science Economic Theory Classical Neoclassical Keynesian Cycles and Crises Measuring cycles Economic Time Series Data Processing Spectral Analysis Cycle Modelling Kaldor's Trade Cycle A Kaldorian model Conclusion Full Report	Keynsian economics A framework for modelling cycles J.M.Keynes The monetarist Milton Friedman is often (mis)quoted as saying "We are all Keynesians now" and while his comments may have been taken out of context they are at least indicative of the influence of Keynes' magnum opus, The General Theory of Employment, Interest, and Money(1936). Macroeconomics is concerned with the dynamics of aggregates in the economy. The extent to which microeconomic theories generalise to the level of the economy is questionable. However, before Keynes, most macroeconomic theories were indeed based on classical market clearing mechanisms. Keynes was not convinced that the equilibrium prices and the "divine or scientific harmony ... between private interest and public advantage" would necessarily deliver optimum output. According to Keynes, prices are 'sticky', especially in the downwards direction, so that the economy's automatic tendency to correct itself operates slowly if at all. Instead he proposed that quantities adjust so that excess demand would be met by an increase in supply. Under this framework the level of employment and hence wages are determined by the required level of output and demand becomes the driving force in an economy. Equally, insufficient demand reduces output and therefore employment levels will fall. Depressed wages cause further falls in ouput snd the economy will find itself in a state of sub-optimal equilibrium. This situation can become persistent because there is no internal process to stimulate demand. Keynes' solution is to drive demand through additional government spending in the form of investment projects. Keynes reveals a structure where the utilization of resources can be persistently sub-optimal and where variation might be considered natural rather than exceptional. This may be considered as a starting point for the development of dynamic models in an attempt to capture cyclic behaviour.