CFDP 778

Walrasian Indeterminacy and Keynesian Macroeconomics


Publication Date: October 1985

Pages: 52


Overlapping generations models with or without production or a portfolio demand for money display a fundamental indeterminacy. Expectations matter; and they are not, in the short run, constrained by the hypotheses of agent optimization, rational expectations, and market clearing. No short run policy analysis is possible without some explicit understanding of how agents expect the economy to respond to the policy. In this framework of perfect foresight and market clearing prices, it is possible to make Keynesian assumptions about the rigidity of money wages and the exogeneity of “animal spirits” of investors, to use the standard IS-LM apparatus, and to derive Keynesian conclusions about the short run effectiveness of policy. Alternatively, starting from difference but no less rational expectations, one can derive the “new classical” neutrality propositions.


Overlapping generations, Perfect foresight, Short run policy effectiveness

JEL Classification Codes:  023, 021

See CFP: 1120