From Stochastics to Complexity in Models of Economic Instability

Sixty years ago, the leading lights of the economics profession chose to model economic fluctuations as if they were caused by stochastic disturbances to an underlying stable, heavily damped system, in the mistaken belief that a mathematically unstable system does not fluctuate; it just breaks down. A perceptive minority instead concluded that the fundamental relations in economics must be nonlinear. It is shown that a single sector model with nonlinear behavior by workers, capitalists and the government generates a chaotic explanation for the most extreme of economic fluctuations, a Great Depression. A multi-sectoral model of a stylized economy confirms the judgment that economics is fundamentally a nonlinear discipline, by establishing that the input-output nature of production generates substantive nonlinearities, even when linear behavioral functions are assumed.