Endogenous Growth and Wave-Like Business Fluctuations

Abstract

Schumpeter stated that “wave-like fluctuations in business...are the form economic development takes in the era of capitalism.” This paper argues that observed long lags in the implementation of innovations make modern economies to behave consistently with Schumpeter’s statement. In a simple endogenous growth model with implementation delays, the paper finds that: First, the equilibrium path admits a Hopf bifurcation where consumption, R&D and output permanently fluctuate. Innovations arrive en masse, moving the economy to a boom; the associated increase in purchasing power all over the business sphere induces research activities to flourish again; but, innovations will take a while to develop; when the new wave of innovations is eventually implemented, new products enter the market producing a second boom; a third will follow, then a forth and so on and so for. Second, this mechanism is quantitatively consistent with US aggregate data. Finally, a procyclical R&D subsidy rate moving around 10% and designed to half consumption fluctuations increases the growth rate from 2.4% to 3.4% with a 9.6% increase in welfare, 6.3% of the welfare gains due to consumption smoothing.