2 - AS-AD growth theory: a complete analysis of the textbook model

Summary

Introduction

As indicated in the previous overview chapter, the hierarchy of disequilibrium growth theories discussed in this book starts with a supply-side model at a textbook level, which has originally been put forward by Sargent (1979, 1987, chap. 5). Being rooted in the neoclassical synthesis and conventional AS-AD growth theory, it is a prototype model that integrates into a consistent whole what has been – and still is – regarded by many economists as being representative of Keynesian macroeconomic theory. It can, in particular, be considered a first complete Keynesian model, insofar as it includes dynamic interactions between all three of the main market groups: the markets for goods and labour, and financial markets.

The model ensemble is impressive in its purposeful and parsimonious design. However, although the building blocks are most elementary, Sargent's subsequent investigation of the resulting dynamic system remains incomplete and inconclusive. Besides slightly extending Sargent's framework, the present chapter identifies what is missing in his treatment and sets out to provide a full analysis of the local dynamics of this model.

While the models in the chapters to follow are more demand-oriented and also, as we believe, in many respects more satisfactory, it is nevertheless useful to begin with a careful study of Sargent's contribution. The reason is that his system already exhibits a variety of properties that will later be encountered in our more advanced model variants as well.