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4.6. Concluding Remarks

Shackle attempted to synthesise Keynes's insights into the implications of decision-making under uncertainty, especially with regard to investment, with ideas, normally associated with Schumpeter, concerning the effects of the bunching of innovations. He also considered the implications of nonlinearities, in the form of ratchet effects and an implied nonlinear consumption function, for the asymmetry of the cycle. Finally, he considered the implications of introducing a banking system into the model. His work could be extended using New Keynesian insights, such as wage contracts and implicit price contracts. The mechanism for the diffusion of innovations and the role of input-output interactions clearly require further examination. Long and Plosser (1983), and others working with real business cycle (RBC) models, have also begun to explore the implications of input-output interactions for the business cycle, while work on the diffusion of technical progress has so far been mainly associated with long-cycle analysis.26 However, using a multi-sectoral model, Goodwin and Punzo (1987) make a major contribution to the analysis of the role of technical change in dynamic economic development. Goodwin ignores the bunching of innovations stressed by Schumpeter and Shackle in explaining the lower turning point, and also the role of the financial sector in general and the banking sector in particular, although he acknowledges that financial instability may contribute to the upper turning point. There is, therefore, still some way to go, but they point us in the right direction.

By stressing the importance of real as opposed to monetary shocks, the RBC approach has neglected the role of the banking and the wider financial sector in cycle propagation. Lucas (1987) and Eichenbaum and Singleton (1986) have suggested a synthesis of real and monetary shock-induced equilibrium business cycle theories. The Keynesian econometric models of the 1960s and the early 1970s also tended to have underdeveloped monetary and financial sectors. Further work clearly needed to be done to develop a model in which money and banking played an important part in the propagation of cycles. Some progress has been made in modelling the monetary transmission mechanism since the mid-1970s and numerous non-Keynesian models have been developed, but the essential role of the financial sector in cycle generation is perhaps still not fully understood.

More generally, greater attention needs to be paid to the propagation model. The tendency has been to adopt the Frisch-Slutsky approach without question and, if the propagation model cannot generate realistic cycles from random impulses, to assume that the shocks are themselves serially correlated. Convincing explanations of why shocks should in fact generally be serially correlated have yet to be presented. This approach begs the question of whether an endogenous theory of the cycle, or a theory which at least relies less heavily on shocks, should be sought. The existing endogenous theories utilise nonlinearities but a systematic attempt to identify the nonlinearities that form the basis of such theories has not been undertaken. As Zarnowitz (1985) concludes, following a sifting of the evidence derived from confronting the various testable hypotheses with economic data, a synthesis of competing business cycle theories is required.

The synthesis model will have to be a structural one. It will, therefore, be necessary to move away from the quasi-reduced form vector-autoregressive models (VAMS) that have been prevalent in the literature since the mid-1970s. More complex econometric models, in the spirit of those abandoned in the face of the 'Lucas critique' (Lucas 1976) and Sims's (1980) warnings concerning 'incredible identification' restrictions, will have to be built. Such models will need to pay more attention to microfoundations than their predecessors and will perhaps incorporate New Keynesian insights and sectoral analysis based on input-output relationships. They will also need to pay more attention to the role of money and the modelling of the banking and wider financial sector and its interaction with the other sectors. Additionally they should exploit the profession's improved understanding of time series analysis. The over-identifying exclusion restrictions should be analytically and empirically justified. Finally, the models should aim to explain dynamic economic development as a combined process of growth and the business and perhaps other cycles. In order to take account of the 'Lucas critique', the game-theoretic context of economic decision-making will need to be given further consideration27 and the implications of the uncertain environment for decision-making will have to be considered further. In the presence of uncertainty, as opposed to risk, the rational expectations hypothesis is inadequate (see section 2.1) and alternative expectations formation mechanisms and their implications must be considered.

Finally, developments in the field of open economy macroeconomics must be acknowledged in the modelling of dynamic economic development. It is widely accepted that the world's economies have become increasingly interdependent and that the greater capital mobility permitted since the early 1970s has accelerated this process. There seems to be a growing international synchronisation of cycles among OECD countries and this has major implications for North-South relationships. In the pre-war period there was also evidence of an increased synchronisation of cycles. In the post-war period there was little evidence of synchronisation but it has emerged again since the early 1970s as globalisation has progressed. The causes and implications of this require further investigation. Eichengreen and Portes (1987) made a start by attempting to identify the most important international linkages and the major similarities and differences between the 1920s and 1930s and the 1970s and 1980s and 'global imbalances' (Rajan, 2010) persist between trade surplus countries, such as China, and trade and fiscal deficit countries, such as the US, were a major cause of the GFC. The global imbalances got worse and persisted in the run up to the 2007-9 Global Financial Crisis and worryingly, did not unwind in its aftermath. The re-emergence of synchronisation appears to have been combined with the return of the 'classical' business cycle, in place of the 'growth cycles' of the 1960s,30 and a decline in the growth rate. This suggests a clear link between cycles and growth which requires further investigation. An explanation of why shifts in the revealed statistical growth trend occur from period to period is also required. Students of long cycles may well have a contribution to make here.

 
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