Tyler Cowen - Risk and Business Cycles (Foundations of the Market Economy)

Entrepreneurs seek to match their production to market demands. To the extent that chosen outputs satisfy market demands and earn profits, the plans of consumers and producers are coordinated. How this coordination ever comes about, and why it might sometimes fail to occur, remain central questions for macroeconomics. In this book I shall focus on the coordination of investment and product purchase plans over time.

More specifically, I will examine whether intertemporal coordination provides a useful organizing theme for business cycle research. This investigation pursues the research program of the Austrian school of economics (e.g., Menger, Mises, Hayek), using modern treatments of risk, finance, and expectations, and drawing upon contemporary methods of empirical and econometric research. I examine how changes in risk, real interest rates, and finance constraints alter the likelihood of intertemporal plan coordination. I will attempt to synthesize modern real business cycle theory, the work of David Lilien and Fischer Black on sectoral shifts, and the older Austrian analyses of monetary and capital theory, with the purpose of constructing an investment-based approach to business cycles in its most plausible form.

The questions I address include the following:

1. What risk-return trade-offs do entrepreneurs face in evaluating alternative investments, and how might these trade-offs account for some features of business cycles? examines this initial question in purely real terms, focusing on intertemporal coordination.
2. Can changes in the nominal money supply create real sectoral shifts? considers whether real and monetary theories of business cycles can be unified in terms of a general theory of sectoral shifts towards and away from riskier investments.
3. What are the policy implications of intertemporal coordination theories of the business cycle? money growth rules, interest rate smoothing, nominal GNP rules, and other policy options, including fixed and floating exchange rates.
4. Does the traditional Austrian theory of the trade cycle satisfactorily unify real and monetary business cycle theories? argues that the traditional Austrian approach fails to establish its central contention the link between positive rates of nominal money growth and excessive capital-intensity.
5. How might an investment-based approach to business cycles avoid some of the problems with the traditional Austrian approach? Chapters .
6. Does the evidence support risk-based, investment-based, and Austrian theories of the business cycle? Does the evidence support the case for real effects of monetary policy, operating through an investment channel? surveys the empirical work that has been done on these issues.