Real Business Cycle theory Thesis Proposal Example | Topics and Well Written Essays - 2000 words

Real Business Cycle theory - Thesis Proposal Example This is completely different form the supply shocks model in which technological or supply shocks would be the major driving force of the cycle. Real business cycle show growth in economic activity and Real Business cycle helps in explaining economic boom time as also recessions. This discussion draws out a comparison between Real Business Cycle theory and Theories of Business Cycle which highlights that demand shocks cause the cycle. The various aspects of the economy such as effects of wage hikes, productivity, and employment resources are also discussed in terms of business cycle models. Real Business Cycle theory explored by Muth (1961) and Lucas and business cycles were studied with the assumption that they were driven by technological rather than monetary shocks and changes in expectations. In real business cycle model, shocks in government purchases are also taken into consideration. Real Business Cycle Theory or RBC holds that the business cycle is caused by random fluctuations in productivity and recessions and periods of growth are seen as responses of output. The RBC theorists argue that the level of national output indicates that the government should not intervene through fiscal or monetary policy that could either minimize effects of recession or that of a rapidly growing economy. Business cycles, according to Real Business Cycle theory are considered as real and reflect the most efficient operation of the economy. This is different from Keynesian economics and Monetarism which consider recessions as the failure of some markets to clear. Some examples of the business cycles would be graphical representation on how advanced economies exhibit sustained growth over time and also depict higher levels of economic activity. There may even be random fluctuation in the growth trend and this would show how the latter economic activity could predict the earlier ones. The time series of an economy's output and gross national product or GNP indicating value of goods and services produced by a country would be useful for determining economic behavior. The first part of the discussion is about defining Real Business Cycle theory. Recessions are seen as a condition of market failure by mainstream macroeconomists. There is lack of demand, of workers and income and there is an adjustment of output but not the prices. The economy in certain cases is driven away from equilibrium and the output adjusts although if markets are in equilibrium, how are fluctuations in business activity explained' When people's marginal productivity drops, the real wage also drops and shifts work decisions. The real business cycle shows that a certain cyclical pattern of economic activity could hold over a longer period and when there is a technological shock that raises real wage, people work more and output increases and when technological shock lowers real wage, people tend to withdraw from work and output falls. Economic booms and recessions are explained with Real Business Cycle models although many economists do not endorse the real business cycle theo ry as technological shoc