General Equilibrium and Business Cycles

This chapter explains the general equilibrium models, which can give the major features of business cycles. The models include real investment, but information is costless and is available to everyone at the same time. Fluctuations in the match between resources and wants across many sectors create major fluctuations in output and unemployment, because moving resources from one sector to another is costly. Fluctuations in the demand for the services of durable goods causes much larger fluctuations in the output of durables, and causes unemployment that takes the form of temporary layoffs. Consequently, general equilibrium models take individuals as maximizing the expected value of a utility function, where utility depends on consumption at various times of various goods and services, and on state variables that can be taken to represent tastes.