The Derivation and Interpretation of the Lucas Supply Function

Deskripsi

Critical re-examination of the microfoundations of the Lucas Supply Function, a cornerstone of early New Classical business cycle models. Their key finding is that when derived rigorously, the coefficient on the price expectation error in the supply function is not a "deep" structural parameter but depends on the variance of aggregate demand shocks. This implies the Lucas Supply Function is a semi-reduced form, not a structural equation, and thus suffers from the Lucas Critique it was meant to circumvent. The paper also demonstrates that the form of the supply function is highly sensitive to the specification of the interest rate and its informational role, and discusses the conceptual difficulties of reconciling the island paradigm with Friedman's hypothesis of informational asymmetries between workers and firms.