Minimal Modelling of Internal Macroeconomic Variability

In the climate sciences, highly simplified nonlinear models are useful tools for understanding and discussing tipping points. However, the economic models used to study their coupling to the economy, as in Integrated Assessment Models (IAMs), are typically linear and represent an inertia-free economy in equilibrium. This representation is challenged by persistent unemployment, recessions, and changing economic institutions. 

Therefore, we investigate the non-equilibrium dynamics of the economy and the corresponding tipping from equilibrium to so-called endogenous business cycles. To this end, we build a basic Solow-type equilibrium growth model that incorporates, in a highly simplified manner, frictions and delay in the labor system. When the delay exceeds a critical value of 3.4 days, business cycles with periodic unemployment and recessions arise in our minimal business cycle (MinBC) model. Given a dynamic investment mode, the MinBC's cyclic economy responds to external forcing asymmetrically throughout the cycle. Advanced time series analysis methods are applied to macroeconomic data sets to evaluate the realism of the model's response, with encouraging results.

Our study is a step towards understanding the evolution of the sources of internal economic variability. Such an understanding is needed to represent the extent of coupling between the earth system and the economy.