Expectations about Unreported Output, Bank Lending and Double-Cycle Stability Policy

Abstract

This article argues that the possibility there can be output unreported to the authorities, prompts expectations about the size of this output which can destabilize increasingly an economy experiencing otherwise a uniform oscillation. It follows logically that the “stability” of uniform fluctuations will be preserved if the policy maker aims at such fluctuations in unreported output too, but of exactly opposite direction (“double cycle” hypothesis), lessening in effect the fluctuation of overall output as well. The economy is one modeled in terms of the interplay between its banking sector and the government budget. Our conclusions hold independently of the source of unreported output allowing thus one to identify for analytical convenience this output with everything the term connotes except tax evasion. Assuming that borrower-lender asymmetric information leads to a fraction only of bank lending to be financing capital change, instability becomes a matter of the expectations about this fraction too, about credit rationing; much more so when the capital change involves both sectors of the economy. The link between the two types of expectations is that they are both shaped by the stage of the business cycle, making the “double cycle” target attainable by means of the manipulation of “lending” or the same, credit-rationing expectations. The introduction of money or bank industry structure into the analysis does not appear to alter these conclusions; nor does the examination of the subject in terms of labor in the place of capital ̶ examination enabled analytically through the use of a CES production function.