Animal Spirits Essay

Animal spirits are a product of irrational behavior and are a major driving force in the economy. Intuitive then is the notion that animal spirits are also heavily involved in the process of economic boom and bust cycles. This much is straightforward and in reality seems to be the case. Animal spirits, which were initially defined by John Maynard Keynes, characterizes a variety of exogenous variables that could not be accounted for in the mainstream rational economic theories of the time. This definition was later reclassified by Akerlof and Shiller in their title book and provided some of the mechanics behind seemingly irrational behaviors. Akerlof and Shiller described and highlighted five specific features of animal spirits that affect the

For example, a shift in confidence can drop consumer spending and investment, which as covered by Fischer, can lead to a massive cycle of underemployment of resources and a drop in aggregate demand. Confidence, which is an individual’s discounted evaluation of future income, is subject to numerous superstitions, biases, and subtle psychological influences. On its own, confidence can obviously impact economies to create recessions and growth, but its intertwining nature with other animal spirits makes it a more unpredictable function. This helps extend and exacerbate economic contractions, as the underlying causes can remain unknown. Corruption by its disposition makes confidence a multifaceted process, and helps lay the tracks for economic busts. Much like the most recent recession and as mentioned previously, corruption played a major role in stimulating the massive amounts of debt in the economy. Corrupt officials and bankers drove up debt, by misleading investors to the risk of their products and instruments. Corruption in this

A central bank’s main tool to achieve this is by influencing the interest rates by introducing or taking away cash in an economy. So by carefully watching an economy, they can change interest rates, which would ultimately stimulate or reduce demand to lessen the impact of booms and busts. In theory this would limit confidence and fairness by manipulating prices through the process of inflation, and could have a further reaching impact with money illusion. So if confidence was really high and potentially fueling a bubble, the central bank could artificially increase the interest rate. This would make lending harder and would decrease the amount of investment and potentially decrease whatever bubble was building. Most of the time too the central bank exists outside the pressures of the political world, so the bank can make informed and rational decisions. In doing so the central bank can dampen the effects of animal spirits by providing a guide for economic actors through interest rates and effecting