chapter  9
International linkages in a Keynesian two-country model
Pages 35

Economists have long been concerned with understanding the causes of the seemingly regular fluctuations in aggregate economic quantities. The extensive research on this topic has both an empirical and a theoretical dimension. The empirical research has focused on various statistical features and stylized facts of observed business cycles, refining considerably the early measures of Burns and Mitchell (1946). The focus of theoretical developments has been to seek a better understanding of the underlying economic mechanisms driving the business cycle. One may loosely categorize these developments into two broad camps. One approach has a distinctly microeconomic focus with a utility maximizing representative agent inter-temporally optimizing in reaction to external shocks. It would be fair to state that the way in which the stochastic processes for the external shocks are modeled plays an important role in the dynamic behavior of these models. Real business cycle theory is of course the prominent, currently very much in vogue, example of this type of modeling, and Cooley (1995) probably still provides the best overview. The other approach focuses on the macroeconomic aggregates themselves and models their interaction as dynamic adjustment processes in a disequilibrium or nonmarket-clearing framework. According to this view, business fluctuations come about when economic conditions are such that the destabilizing feedback chains dominate. For an exposition of this approach, one may consult Dore (1993) and Chiarella and Flaschel (2000a).