Analytical Political Economy

2 TAKING STOCK: A RIGOROUS MODELLING OF ANIMAL SPIRITS IN MACROECONOMICS

Reiner Franke

University of Kiel (GER)

Frank Westerhoff

University of Bamberg (GER)

1. Introduction

A key issue in which heterodox macroeconomic theory differs from the orthodoxy is the notion of expectations, where it determinedly abjures the rational expectations hypothesis. Instead, to emphasize its view of a constantly changing world with its fundamental uncertainty, heterodox economists frequently refer to the famous idea of the ‘animal spirits’. This is a useful keyword that poses no particular problems in general conceptual discussions. However, given the enigma surrounding the expression, what can it mean when it comes to rigorous formal modelling? More often than not, authors garland their model with this word, even if there may be only loose connections to it. The present survey focusses on heterodox approaches that take the notion of the ‘animal spirits’ more seriously and, seeking to learn more about its economic significance, attempt to design dynamic models that are able to definitively capture some of its crucial aspects.¹

The background of the term as it is commonly referred to is Chapter 12 of Keynes' General Theory, where he discusses another elementary ‘characteristic of human nature’, namely, ‘that a large proportion of our positive activities depend on spontaneous optimism rather than on a mathematical expectation’ (Keynes, 1936, p. 161). Although the chapter is titled ‘The state of ...