An Inquiry into Modern Business Cycle Theory
Abstract
This paper provides a synthetic insight into the main business cycle theories emerged during the twentieth century, following Keynes’ General Theory, namely the New Classical and the New Keynesian theories. Essentially, economists today are addressing the same issues that they did several decades ago: How can we account for the different growth rates and various fluctuations observed in national economies? Which are the economic policies most suitable to solve these issues? The New Classicals believe that business cycles can best be understood within the market-clearing model, whereby markets are perfectly competitive and prices adjust instantly. To explain fluctuations, these economists focus on monetary disturbances, technology shocks or the intertemporal substitution of leisure. Conversely, the New Keynesians believe business fluctuations reflect market failures of various sorts. The New Keynesians investigate the role of nominal and real imperfections and analyze the business cycle in terms of monopolistic competition, menu costs or efficiency wages.
Keywords: Monetary business cycles, Real business cycles, Monetary neutrality, Nominal and Real rigidities, Menu costs.
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