Endogenous Keynesian Business Cycles
It is shown that a nominal rigidity may work as a natural mechanism for rational expectations endogenous fluctuations. By a nominal rigidity is meant that some nominal price, here the nominal wage rate, does not adjust within each short period to equate supply and demand (of labor), but adjusts competitively between any two successive periods in response to the excess supply or demand in the first of the periods. Under circumstances that would otherwise exclude endogenous fluctuations, a certain degree of sluggishness in the adjustment of the nominal wage rate implies existence of such fluctuations. The required degree of sluggishness is not unrealistic. The rate of unemployment varies countercyclically along the fluctuations studied, and welfare concerns may motivate stabilization policies attempting at keeping the economy at a steady state, where unemployment is at the natural rate all the time.
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