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A Near-Rational Model of the Business Cycle, with Wage and Price Inertia

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  • George A. Akerlof
  • Janet L. Yellen

Abstract

This paper presents a model in which insignificantly suboptimal behavior causes aggregate demand shocks to have significant real effects. The individual loss to agents with inertial price-wage behavior is second-order in terms of the parameter describing the shock, while the effect on real economic variables is first-order. Thus, significant changes in business activity can be generated by anticipated money supply changes provided that some agents are willing to engage in nonmaximizing behavior which results in small losses.

Suggested Citation

  • George A. Akerlof & Janet L. Yellen, 1985. "A Near-Rational Model of the Business Cycle, with Wage and Price Inertia," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 100(Supplemen), pages 823-838.
    • Handle: RePEc:oup:qjecon:v:100:y:1985:i:supplement:p:823-838.
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    File URL: http://hdl.handle.net/10.1093/qje/100.Supplement.823
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