Using the Belief Function to Resolve Indeterminacy in Macroeconomics

For thirty years, macroeconomics has been a branch of applied general equilibrium theory. By assuming that commodities are identified by date, geographical location and state of nature, economists have applied results developed by Kenneth Arrow and Gerard Debreu, in the context of finite commodity spaces, to entire economies and infinite histories. The theory that results from this application of finite general equilibrium theory has an internal beauty; but it is not a good description of real world economies. This course explores how small deviations from the Arrow-Debreu assumptions can lead to a positive theory of real world phenomena such as financial cycles and persistent unemployment. I concentrate on two deviations, both of which lead to economic models in which the fundamentals of the economy, preferences, technology and endowments, are insufficient to determine what happens. I resolve indeterminacy by introducing the idea that what people believe will happen is an independent driver of business cycles and I draw some conclusions from this theory for the future implementation of economic policy.