Knowledge that Transforms

The theoretical literature on innovation has been concerned with a single innovation produced by a number of identical agents. By contrast, we consider a market in which one firm is the current incumbent, while the remaining firms are challengers. Moreover, we consider a sequence of innovations, so that success does not imply that the successful firm reaps monopoly profits forever after, but only until the next, better innovation is developed. We begin with a fully optimizing behavioral model and derive the equivalent of the Schumpeterian “process of creative destruction.” That is, a firm enjoys temporary monopoly power but is soon overthrown by a more inventive challenger. The essential point to grasp is that in dealing with capitalism we are dealing with an evolutionary process…The fundamental impulse that sets and keeps the capitalist engine in motion comes from the new consumers' goods, the new methods of production or transportation, the new markets, the new forms of industrial organization that capitalist enterprise creates [Schumpeter, 1942, pp. 82–83].

The formation of individuals' horizons, which is central to the theory of life-cycle behavior, has been completely neglected. This is especially surprising, since the life expectancy of adults has recently increased rapidly in Western countries. This study analyzes responses to a questionnaire designed to elicit subjective expectations and probabilities of survival. People do extrapolate past improvements in longevity when they determine their subjective horizons, and they are fully aware of levels of and movements within today's life tables. The subjective distribution has greater variance than its actuarial counterpart; and the subjective variance decreases with age. The implications of these findings for optimal Social Security, for the construction of annuities, for the analysis of savings behavior, and for evaluating lifetime earnings are discussed.

This paper presents a model in which insignificantly suboptimal behavior causes aggregate demand shocks to have significant real effects. The individual loss to agents with inertial price-wage behavior is second-order in terms of the parameter describing the shock, while the effect on real economic variables is first-order. Thus, significant changes in business activity can be generated by anticipated money supply changes provided that some agents are willing to engage in nonmaximizing behavior which results in small losses.

Journal Article Small Menu Costs and Large Business Cycles: A Macroeconomic Model of Monopoly Get access N. Gregory Mankiw N. Gregory Mankiw Massachusetts Institute of Technology Search for other works by this author on: Oxford Academic Google Scholar The Quarterly Journal of Economics, Volume 100, Issue 2, May 1985, Pages 529–538, https://doi.org/10.2307/1885395 Published: 01 May 1985

Society can sometimes make itself better off by appointing a central banker who does not share the social objective function, but instead places "too large" a weight on inflation-rate stabilization relative to employment stabilization. Although having such an agent head the central bank reduces the time-consistent rate of inflation, it suboptimally raises the variance of employment when supply shocks are large. Using an envelope theorem, we show that the ideal agent places a large, but finite, weight on inflation. The analysis also provides a new framework for choosing among alternative intermediate monetary targets.