Real Business Cycles Flashcards
What are RBC’s primarily driven by?
Technology shocks (TFP).
Impacts of a persistent increase to TFP:
An increase to TFP entails an increase to z.
An increase to z insinuates a direct impact on output.
The labour demanded by firms thus increases as Y has potential to increase. MPL rises.
Increase In Nd implies the unemployment figure must fall.
As output demanded increases, (by the increase to labour demanded), the improvement in MPL suggests an increase to output supply. The overall effect on output is positive.
To clear the goods market, as Y increases the real interest rate (r) must fall.
Increased money supply offsets an increase to the expected inflation (πE). Increased inflation reduces the real value of a product (P): through the devaluation of a country’s currency. This therefore suggests the real price of a product (P) must fall.
What is the Keynesian Coordination failure driven by?
Animal Spirits and self-fulfilling beliefs - this is how the KCF Model differs to the generic RBC. Labour demanded (Nd) schedule can also be upward-sloping: creating multiple equilibria.
According to real business cycle theorists, an increase in total factor productivity could lead to an increase in the nominal money supply due to
the central bank’s attempts to stabilise the price level and banking sector expansion of deposit money.
A model with coordination failures has
Multiple equilibria
In the coordination failure model, the “good” equilibrium is characterized by a
lower real interest rate and a lower price level than
the “bad” equilibrium.
In the coordination failure model, the most likely explanation of business cycles are
‘Animal Spirits’ and self-fulfilling beliefs. Fluctuations between ‘good’ and ‘bad’ equilibria.
For the coordination failure model to work, it must be the case that the aggregate labour demand curve must be
upward-sloping and steeper than the labour supply curve.
Why does an economy achieve either point A or point B?
whether an economy achieves point A or point B is entirely dependent on ‘‘animal spirits’’. This is the theory whereby if an economy as a whole expects to achieve point B then it is individually rational to choose B. Fluctuations are driven by “animal spirits”.
