Today, we shall look at a really brief idea of Real Business Cycle (RBC) Theory. I decided to touch a bit on this, since some students have asked me about financial mathematics and mathematical modelling topics. So I thought I can do a brief introduction of them.

Business cycle theory aims to explain the fluctuations in aggregate economy. Specifically, we seek to answers two questions:

(i) what are the sources (shocks) of business cycles?

(ii) what is the propagation mechanism of these shocks?

Like we probably know, there are mainly two school of economist: the Keynesian and the Classical. The former supports that demand determines supply, while the latter supports that supply determines demand.

The classical economist supports that supply shocks are major source of business cycles while Keynesian economists supports that demand shocks are the major source.

We will look at the benchmark model next time. And also some mathematical modelling.

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