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Self-Organized Criticality and Economic Fluctuations

Scheinkman, Jose A.; Woodford, Michael

From page 417-- "Economists have long been interested in explaining the observed instability of economic aggregates. Though several reasons for variation in the pace of production are easily given, such as exogenous variation in tastes or in production possibilities, it it hard to see why there should be large variations in those factors that are synchronized across the entire economy. Instead , it seems more likely to suppose that variations in demand or in production costs in different parts of the economy should be largely independent and hence that a law of large numbers would imply that significant variations in aggregate activity (relative to the typical size of aggregate activity) are not likely to occur.
Here we explore another type of explanation, which relies on an entirely different mechanism. Our proposal is that the effects of many small independent shocks to different sectors of the economy need not cancel out in the aggregate, due to the presence of significantly nonlinear, strongly localized interactions between different parts of the economy. The type of macroscopic instability that can result has been studied by condensed-matter physicists, under the name of 'self-organized criticality' (Per Bak and Kan Chen, 1991)."



Also Published In

American Economic Review

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American Economic Association
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November 21, 2013