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Thursday, October 6, 2011

ABCT and the Flow of Credit

In the 1970s, Hayek attempted to analyse stagflation. In doing so, he acknowledged the limitations of his earlier Austrian business cycle theory (ABCT) in explaining the 1970s crisis, because the flows of credit and monetary expansion were of a different type from those he had dealt with in his earlier work:
“There is one special difficulty about accounting for the present situation. In the misdirection of labour and the distortion of the structure of production during past business cycles, it was fairly easy to point to the places where the excessive expansion had occurred because it was, on the whole, confined to the capital goods industries. The whole thing was due to an over-expansion of credit for investment purposes, and it was therefore possible to regard the industries producing capital equipment as those which had been over-expanded.

In contrast, the present expansion of money [sc. in the 1970s], which has been brought about partly by means of bank credit expansion and partly through budget deficits, has been the result of a deliberate policy, and has gone through somewhat different channels. The additional expenditure has been much more widely dispersed. In the earlier cases I had no difficulty in pointing to particular instances of overexpansion; now I am somewhat embarrassed when I am asked the question, because I would have to know the particular situation in a particular country, where the additional money flows went in the first place, etc. I would also have to trace the successive movements of prices which indicate these flows. In consequence, I have no general answer to the question.” (Hayek 1978: 212).
And this remains a severe flaw in the Austrian trade cycle theory: the original theory assumes credit expansion goes to businesses investing in capital goods, and has no role for loans for consumer durables or debt-fuelled asset bubbles. Karen Vaughn has already drawn attention to the latter failing of ABCT (Vaughn 1994: 87–88).

Even Hayek himself made a remarkable qualification of his theory with respect to conditions after the Second World War:
HIGH: The Austrian theory of the cycle depends very heavily on business expectations being wrong. Now, what basis do you feel an economist has for asserting that expectations regarding the future will generally be wrong?

HAYEK: Well, I think the general fact that booms have always appeared with a great increase of investment, a large part of which proved to be erroneous, mistaken. That, of course, fits in with the idea that a supply of capital was made apparent which wasn’t actually existing. The whole combination of a stimulus to invest on a large scale followed by a period of acute scarcity of capital fits into this idea that there has been a misdirection due to monetary influences, and that general schema, I still believe, is correct.

But this is capable of a great many modifications, particularly in connection with where the additional money goes. You see, that’s another point where I thought too much in what was true under prewar conditions, when all credit expansion, or nearly all, went into private investment, into a combination of industrial capital. Since then, so much of the credit expansion has gone to where government directed it that the misdirection may no longer be overinvestment in industrial capital, but may take any number of forms. You must really study it separately for each particular phase and situation. The typical trade cycle no longer exists, I believe. But you get very similar phenomena with all kinds of modifications.” (Nobel Prize-Winning Economist: Friedrich A. von Hayek, pp. 184–186).
Hayek’s belief that a proper application of his trade cycle theory to the modern world requires looking at the direct of credit expansion “separately for each particular phase and situation” is one lost on most modern Austrians. Instead, they flog the dead horse of Hayek’s 1930s theory, which he himself admitted had lost its relevance in modern economies.

The modern Austrians present a fossilised Hayekian relic of a theory derived from Prices and Production (1931; 2nd edn. 1935) and Profits, Interest and Investment (1939), as can be seen in Roger W. Garrison’s Time and Money: The Macroeconomics of Capital Structure (Routledge, London, 2002). Hayek himself by the 1970s had moved on from believing his 1930s work on trade cycles could be simply applied to the modern world, at least not without serious modification.

And one further observation should be made: a monetary theory that examines business cycles by looking at the flows of credit to debt-financed asset bubbles already exists: it is called Irving Fisher’s debt deflation theory (Fisher 1933), which has been developed in Hyman Minsky’s financial instability hypothesis (FIH) (Minsky 1982; 2008). This has been further developed in Post Keynesian economics, most notably by Steve Keen.

This is the true monetary theory of the trade cycle when credit flows to speculation that creates asset bubbles and their collapse spills over into severe effects on the real economy. This theory explains many 19th century trade cycles, the Great Depression, Japan’s lost decade, and now the mess that many Western nations are in.


BIBLIOGRAPHY

Fisher, I. 1933. “The Debt-Deflation Theory of Great Depressions,” Econometrica 1.4: 337–357.

Garrison, R. W. 2000. Time and Money: The Macroeconomics of Capital Structure, Routledge, London and New York.

Hayek, F. A. von, 1931. Prices and Production, G. Routledge & Sons, Ltd, London.

Hayek, F. A. von, 1935. Prices and Production (2nd edn), Routledge and Kegan Paul.

Hayek, F. A. von, 1939. Profits, Interest and Investment, Routledge and Kegan Paul, London

Hayek, F. A. von. 1978. New Studies in Philosophy, Politics, Economics, and the History of Ideas, Routledge & Kegan Paul, London.

Minsky, H. P. 1982. Can “It” Happen Again?: Essays on Instability and Finance, M.E. Sharpe, Armonk, N.Y.

Minsky, H. P. 2008 [1975]. John Maynard Keynes, McGraw-Hill, New York and London.

Nobel Prize-Winning Economist: Friedrich A. von Hayek. Interviewed by Earlene Graver, Axel Leijonhufvud, Leo Rosten, Jack High, James Buchanan, Robert Bork, Thomas Hazlett, Armen A. Alchian, Robert Chitester, Regents of the University of California, 1983.

Vaughn, K. I. 1994. Austrian Economics in America: The Migration of a Tradition, Cambridge University Press, Cambridge and New York.

47 comments:

  1. Simply because credit expansion flows to different sectors of the economy that are harder to pinpoint (some of them exclusively the result of government, as Hayek pointed in the quote you highlighted), does not negate the occurrence of an Austrian Business Cycle. It just means other effects occur with the credit expansion, or as Hayek put, "very similar phenomena with all kinds of modifications.” For example, an expansion into consumer credit (credit card debt for short term consumer goods that are not expected to be resold at a profit) enhance the discrepancy between the higher or lower stages of production. With an increase in consumer debt of this kind, there is a stronger tug of war between the higher and lower stages as consumers demand more consumer goods now and aggravate the already tenuous price spread differential. Ceteris paribus, consumption always increases during the boom due to higher original factor income, capital consumption, smaller motivation to save at a artificially lower interest rate, but consumer loans of this type merely aggravate it.

    Consumer loans of another kind, such as one used to buy houses, which consumers do expect to reap a profit, constitute capital goods. Since consumers expected to be able to sell their house years into the future at a substantial profit, they embody a capital good and are indirectly serviceable in this respect. People buy houses not only to live in now, but also as an investment to earn money from.

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  2. "Consumer loans of another kind, such as one used to buy houses, which consumers do expect to reap a profit, constitute capital goods. Since consumers expected to be able to sell their house years into the future at a substantial profit, they embody a capital good and are indirectly serviceable in this respect"

    Houses are not capital goods when people live in them and sell them later when the price is higher: this is just asset price speculation.

    The "house" produces no goods sold for profit during the time the person lives in it.
    The house was a consumer durable which becomes an real asset too.

    I have had this argument with Austrian ideologues before and find it utterly unconvincing: this is just another desperate, risible attempt to beat the dead horse of ABCT.

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  3. I'm sorry, but a good can be either a consumer good or a capital good.

    Capital goods are indirectly servicable. In the production structure, capitalists save present goods (money) to spend on factors, in return for a higher amount of future goods (due to interest, and in the real world will earn more/less because of P/L).

    Consumer goods are directly servicable.

    So, excluding the banking sector for simplicity, if a person saves money to buy a house, which they expect to sell at a higher price in the future, then in this respect it is a capital good. Given this particular means-end, is an indirectly serviceable good that is reproducible and nonpermanent (its not land), so it is a capital good and is used to earn extra money in the future (for future consumption). "Extra production" physically is not needed, the passage of time is enough for it to constitute an additional stage and a capital good. Furthermore, many houses were "improved" by the consumers living in them by adding amenities (pools, expansions, redoing rooms, etc) to make them more attractive and expense for someone down the line. Given this much more obvious "transformation", are improved homes not capital goods in this respect also?

    If a speculator buys oranges (lets say they last for a long time) in the hopes that in 3 months the demand for oranges will be much higher, are the oranges not capital goods now? You can call it "speculating on assets", but in the structure of production for oranges another stage has been added by the capitalists saving and selling the good at a higher price to be bought by consumers.

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  4. The first sentence is technically incorrect. I am referring to nonpermanent reproducible goods, a good can also be labor or land.

    Land
    Labor
    Consumer Goods
    Capital Goods
    Money

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  5. Since consumers expected to be able to sell their house years into the future at a substantial profit, they embody a capital good and are indirectly serviceable in this respect.

    The vast majority of people understand that houses are an essential need: a space for families to grow, develop, and be part of a community. It would not even occur to most people that houses can even be sold. There also isn't much freedom of choice, since you can't just buy a house wherever you want, or choose not to buy. It would take a sociopath to think of them as capital goods.

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  6. Furthermore, many houses were "improved" by the consumers living in them by adding amenities (pools, expansions, redoing rooms, etc) to make them more attractive and expense for someone down the line. Given this much more obvious "transformation", are improved homes not capital goods in this respect also?

    No, they are not. Just as owning a rare coin, and merely having it cleaned while you own it, does not make it a capital good.

    Homes produce no commodities for sale when people merely live in them waiting for the price to appreciate.

    This is merely confusion caused by the mutiple meanings of capital:

    (1) any asset or stock of assets - financial or real - capable of generating income
    (2) a factor of production also called producers' goods: a capital good is a good which is used to produce a commodity for exchange.

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  7. "No, they are not. Just as owning a rare coin, and merely having it cleaned while you own it, does not make it a capital good. "

    Yes, that is a capital good. If you own it because you expect to sell it at a higher price, then you it is indirectly serviceable. Furthermore, you expend effort (cleaning) to prevent it from depreciating so it can be sold for more money. It is indirectly serviceable, and a capital good. There is another stage in the production structure, you buying, waiting, and then selling it down the road. A production (even if it involves only time), is still occurring.

    Lets take the thought experiment a little bit more. You find old, rusty coins in your grandma's attic. You then clean the coins, turning them into a much more valuable coin (better good). Are the dirty coins not capital goods either? In this it is clear a production process is occurring.

    And what about the oranges example?

    "Homes produce no commodities for sale when people merely live in them waiting for the price to appreciate."

    What about when they improve on them? And what about when they repair them to prevent them from depreciating? These are more clear cut examples. For production to occur, there does not have to be a blatant "physical transformation" of capital.

    People buying homes with artificially created credit caused a macrodisturbance in the economy. With this tampered interest rate (along with other government signals that increased the attractiveness of home ownership), factors of production were wasted into producing homes that were unprofitable in relation to people's actual time preferences. In the unhampered market, builders would have built less homes, people would have bought less homes for the purpose of selling them, and more people would have lived in buildings more in tune with society's actual savings rate (apartments, smaller homes, etc).

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  8. "You then clean the coins, turning them into a much more valuable coin (better good). Are the dirty coins not capital goods either? In this it is clear a production process is occurring."

    There isn't a production process occurring.

    You have a second hand good (as it were) and you are selling it on a secondary market for used goods (in this case, rare coins).

    The coins would have to be used in producing some further good for sale to be a capital good.

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  9. "With this tampered interest rate (along with other government signals that increased the attractiveness of home ownership), factors of production were wasted into producing homes that were unprofitable in relation to people's actual time preferences."

    Many of these homes were not new at all - just used homes bought and sold on secondary markets.

    As for the time preferences theory of interest rates, it is utterly unconvining, as are all real theories of interest rates.

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  10. "In the unhampered market, builders would have built less homes, people would have bought less homes for the purpose of selling them, and more people would have lived in buildings more in tune with society's actual savings rate (apartments, smaller homes, etc)."

    There isn't any reliable relationship between monetary savings and real resources available in an economy. The real "time preference" theory you are assuming also requires an economy at full employment, no significant idle capacity, no significant idle resources etc.

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  11. "There isn't a production process occurring.

    You have a second hand good (as it were) and you are selling it on a secondary market for used goods (in this case, rare coins).

    The coins would have to be used in producing some further good for sale to be a capital good. "

    Let me make it clearer
    Production Process of Cleaning
    Dirty Coins--------------------->Clean Coins

    Here are more examples

    Production Process of Cleaning and Repairing
    Used Car------------------------>Repaired Car

    Which of these is a production process in your view? Does cleaning never entail a production process? The dirty coins are an indirectly serviceable good, they need to be repaired (cleaned) to transform them into clean coins for sale. Are secondary markets now excluded from the production structure?

    "Many of these homes were not new at all - just used homes bought and sold on secondary markets."

    Doesn't really change the fundamental mechanisms of the Austrian Business Cycle. People use new money to buy already existing goods, price of goods are bid up, banks contract credit, in the structure of production this means lower prices for higher order goods, prices of said good plummets, people suffer losses.Misallocation still occurs because the interest rate misled people into using their money to buy goods that were really unprofitable instead of buying/producing goods that were profitable. Losses occur in said market for goods, and now their must be a contraction in the structure of production (said exchange market for good) as people liquidate unprofitable purchases. Furthermore, in the real world, higher prices for goods will attract more resources, idle or not, to produce said good which will resort in a more visible misallocation of scarce factors of production.

    "As for the time preferences theory of interest rates, it is utterly unconvining, as are all real theories of interest rates. "

    To defend the time preference theory of interest right now would derail the thread, and probably lead to nowhere.


    "There isn't any reliable relationship between monetary savings and real resources available in an economy. The real "time preference" theory you are assuming also requires an economy at full employment, no significant idle capacity, no significant idle resources etc. "

    A higher level of monetary savings relative to consumption (lower time preference and lower interest rate) corresponds to more resources available to produce capital goods that can produce more consumer goods in the future, ceteris paribus.

    As stated above with a simplified example, ABCT does not require idle resources to occur. Furthermore, labor will only be idle if its price is too high (which is not a problem if its voluntary unemployment, i.e jobs exist but people don't want to lower wage rates and are searching for other jobs), but only a problem when government keeps wages up or stifles business expansion which slows the rate of job growth. Capital goods will only be idle from previous malinvestments, which occurred with or without credit expansion. Land may or may not be idle depending on the empirical nature of the supply of capital and labor relative to land (i.e submarginal plots of land that just wont be used in any production process). Justifying credit expansion based on the idle resource argument fails because you are still diverting resources into projects that are unprofitable, in addition to diverting complementary factors of production already in use in other sectors.

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  12. "Doesn't really change the fundamental mechanisms of the Austrian Business Cycle. People use new money to buy already existing goods, price of goods are bid up, banks contract credit, in the structure of production this means lower prices for higher order goods, prices of said good plummets, people suffer losses."

    Hayek is already quite specific above that different flows of credit mean his original theory is not sound when applied to modern economies.

    As for asset price inflation/bubbles, the effects of that are already studied in debt deflation theory/FIH.

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  13. A very weak rebuttal.
    "Hayek is already quite specific above that different flows of credit mean his original theory is not sound when applied to modern economies."

    "You must really study it separately for each particular phase and situation. The typical trade cycle no longer exists, I believe. But you get very similar phenomena with all kinds of modifications.

    Hes not giving up on his theory, hes just saying that because credit is given to other agents, such as consumers and governments, there are other events occurring. The misallocation of resources and malinvestments in production processes still happen. Similar phenomenon only means slightly different, an example being consumers use loans to buy short term is what I said earlier:

    "Ceteris paribus, consumption always increases during the boom due to higher original factor income, capital consumption, smaller motivation to save at a artificially lower interest rate, but consumer loans of this type merely aggravate it. "


    The key thing that separates asset price bubbles/debt deflation theories is that resources are misallocated and malinvested and that errors need to be corrected in markets. A readjustment in the structure of production needs to occur after it was distorted by credit expansion.

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  14. Lord Keynes,

    Do you know where i can find a good summary of debt deflation/FIH/Keen's theory? I am quite interested in it

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  15. Where are my arguments/responses in this thread, LK?

    ReplyDelete
  16. I do not require a lecture from you on the meaning of "capital goods".

    By all means, if you want to make a relevant contribution here do so.

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  17. There really needs to be stages of argumentation that Austrians go through similar to the 5 stages of grief. The first stage is the accusation that "you want force people" to do X,Y,Z. Second they usually congratulate themselves that they know logic but apparently NOBODY else has heard of this obscure subject... except just about every school of intellectual thought in history. At this point, they will usually refer to you as a "retard." Third, they say that everybody is "economically illiterate" except for the few paid "intellectuals" at the Mises Institute and a handful of 17 year kids on the internet. Apparently to be an Austrian you have to live in this cocoon where all of history, economics thought, and political philosophy can be found at one website. If these arguments fail, they try to throw all of the below at you including the kitchen sink (Major_Freedom/Pete) by writing long boring paragraphs that have nothing to do with the subject. Next, you get the whole, "you don't understand Austrian economics" even though you've handed them like a million quotes while they provide nothing except their stupid interpretation of the subject in the form of dogma. Finally, at the very end, you get a bunch of word games and sophistry. At this point you get to hear about how words that have meant something for the past 50 to 1000 years actually means something else. I know that Austrians like to think of themselves as critical independent thinkers but from what I can see they are nothing more than a stereotype. A stereotype created by the LvMI for a bunch of lonely and angry teenagers too scared to interact with the rest of the world.

    -Jane

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  18. LK,

    We've been through this before - that houses can be treated as a capital good if the possessor views it as a stock-in-trade. Anonymous is now making the same point. All you seem to be doing is making baseless assertions and mindlessly refusing to understand what we are saying.

    Guess that fits the propaganda objectives of this "blog".

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  19. Do you know where i can find a good summary of debt deflation/FIH/Keen's theory?

    There are plenty of sources:

    http://fraser.stlouisfed.org/docs/meltzer/fisdeb33.pdf

    http://www.debtdeflation.com/blogs/2008/03/10/time-to-read-some-minsky/

    http://www.levyinstitute.org/pubs/wp74.pdf

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  20. Jane,

    Which particular post(s) in this thread are you referring to?

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  21. I do not require a lecture from you on the meaning of "capital goods".

    Clearly you do, because you're making gross errors in your "lecture" to AnonymouS.

    By all means, if you want to make a relevant contribution here do so.

    You're lying. You're pretending that I am not contributing, when I most certainly am. Please post my arguments/responses regarding capital goods and why your claims about it are wrong. Or else, just admit that you are now openly engaging in censoring your blog.

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  22. "The misallocation of resources and malinvestments in production processes still happen."

    That "misallocation of resources and malinvestments" has occurred in a debt-fuelled asset bubble is no doubt true. That it requires a liquidationist solution does not follow at all.

    As Hayek himself believed, political circumstances might make the degree of suffering inflicted on the population of dubious purpose when likely to result in disastrous political outcomes (Weimer Germany in 1932/1933). Later even Hayek retreated from his die hard, idiotic "liquidationist" stance - instead urging monetary stabilisation and even fiscal policy to stop secondary deflation:

    http://socialdemocracy21stcentury.blogspot.com/2011/09/did-hayek-advocate-public-works-in.html

    http://socialdemocracy21stcentury.blogspot.com/2011/01/hayek-on-secondary-deflation.html

    Futhermore, there is no reason why malinvestments will not clear in the modern workings of the market, even with fiscal policy. If people do not wish to purchase commodities a, b, or c, the producers of those commodities will go bankrupt.

    When people are paid dollars by a government fiscal policy action they will spend that money on what satisfies their utility preferences.

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  23. "We've been through this before - that houses can be treated as a capital good if the possessor views it as a stock-in-trade."

    Indeed I have been through it before. Readers of this blog can view the prolix and tiresome exchange with you on the subject here and make up their own minds:

    http://socialdemocracy21stcentury.blogspot.com/2010/10/austrian-business-cycle-theory-its.html

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  24. "That "misallocation of resources and malinvestments" has occurred in a debt-fuelled asset bubble is no doubt true. That it requires a liquidationist solution does not follow at all.

    As Hayek himself believed, political circumstances might make the degree of suffering inflicted on the population of dubious purpose when likely to result in disastrous political outcomes (Weimer Germany in 1932/1933). Later even Hayek retreated from his die hard, idiotic "liquidationist" stance - instead urging monetary stabilisation and even fiscal policy to stop secondary deflation:

    http://socialdemocracy21stcentury.blogspot.com/2011/09/did-hayek-advocate-public-works-in.html

    http://socialdemocracy21stcentury.blogspot.com/2011/01/hayek-on-secondary-deflation.html"

    It is true that later in his years Hayek dropped any liquidationist policies in favor of a more "politically tenable" position to alleviate downturns. He even said he changed his opinion:

    “Although I do not regard deflation as the original cause of a decline in business activity, such a reaction has unquestionably the tendency to induce a process of deflation – to cause what more than 40 years ago I called a ‘secondary deflation’ – the effect of which may be worse, and in the 1930s certainly was worse, than what the original cause of the reaction made necessary, and which has no steering function to perform. I must confess that forty years ago I argued differently. I have since altered my opinion – not about the theoretical explanation of the events, but about the practical possibility of removing the obstacles to the functioning of the system in a particular way” (Hayek 1978: 206)."

    Although its interesting to speculate why Hayek said this, since he is not refuting his theory but simply offering a different alternative because it could be politically easier to execute. Hayek was known to be considerably less "laissez faire" than Mises and Rothbard (I'm sure you know of some of his comments in Road to Serfdom), and after the 1940s he became much more favorable to Neoclassical theory (along with dropping his research on capital theory and instead focusing on "spontaneous order" and other nonsense). Even Rothbard preferred to distinguish between the two "Hayeks", labeling them "Hayek 1" and "Hayek 2"


    Indeed, as I'm sure you know, the effects lower prices induced by a change in the money relation from an increase in the reservation demand or a decrease in the supply of money is one of the main arguments between Rothbardians and Free Bankers along the lines of Horowitz, White, Selgin, etc.

    Rothbard always had a benevolent attitude to deflation (I also see your well read on his deflation remarks). However, he was also aware of the stickiness of wages and prices induced by government in the 1980s, which gives good reason as to why he talked about the downside of a "deflationary wringer" in Mystery of Banking. Even though it was "equally sound" to just raising the price of gold, raising the price of gold would not entail a possible large scale unemployment (if no other policies were undertaken to break price stickiness). Nor was it inflating.

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  25. "Furthermore, there is no reason why malinvestments will not clear in the modern workings of the market, even with fiscal policy. If people do not wish to purchase commodities a, b, or c, the producers of those commodities will go bankrupt.

    When people are paid dollars by a government fiscal policy action they will spend that money on what satisfies their utility preferences. "

    The problem is the diversion of resources and prices caused by this, the "cantillion effects", is not based off the acumen of private profit and loss, so the praxeological austrian would still reject it. The government spending money prevents the economy from adjusting by keeping prices and wages up, and by boosting the consumption savings ratio which aggravates the need for a further fall in prices.

    (I have read your article on Cantillion effects, btw)

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  26. If mere changes in relative prices (Cantillon effects) were a serious argumnet against government spending, it would apply equally to the private sector.

    "The government spending money prevents the economy from adjusting by keeping prices and wages up"

    Wage and price flexibility is no solution to recession/depression. Business expectations are subjective; their investment decisions are made under fundamental uncertanty. Cutting wages and prices will not induce them to invest if their expectations are still pessimistic. The equilibrating forces (say, some equilibrium interest rate that supposedly equates loanable funds with investment demand) are non-existent, mythical fantasies.

    You clearly subscribe to the same tired and erroneous ideas that any neoclassical holds - ideas that Keynes overthrew back in the 1930s.

    Furthermore, allowing wages to fall in an economy with very high private debt is a recipe for crippling debt deflationary depression - just like America 1929-1933 or Australia in the 1890s. If you cut wages and debtors cannot service their debt, what happens? Bankruptcy - first for debtors, then creditors.

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  27. and after the 1940s he became much more favorable to Neoclassical theory (along with dropping his research on capital theory and instead focusing on "spontaneous order" and other nonsense)

    He did not.
    His "neoclassical" period was before 1940, when he used Walrasian general equilibrium theory and Wicksellian monetary equilibrium theory in his business cycle research.

    From his famous paper "Economics and Knowledge" (1937) he began to abandon his neoclassical framework, and even the whole concept of equilibrium as a useful tool for economic analysis, replacing it with his idea of plan coordination and then "spontaneous order".

    http://socialdemocracy21stcentury.blogspot.com/2011/09/hayek-and-concept-of-equilibrium.html

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  28. Wage and price flexibility is no solution to recession/depression. Business expectations are subjective; their investment decisions are made under fundamental uncertanty.

    Not an argument against the market, because the government is also composed of individuals, and they too have subjective expectations concerning Keynesian spending, and their spending also is made under fundamental uncertainty.

    If you say the government's Keynesian spending can be given more credence due to induction inference of past spending, then so too can businessmen and entrepreneurs and consumers be given credence due to induction inference of past investment/spending. And not only that, but it can be given MORE credence because the individual has the least amount of uncertainty about his own preferences and spending, and thus a free market of millions of individuals would have the least uncertainty.

    Keynesians are more uncertain about the effects of government spending than individuals are about their own spending. The individual is there to experience the effects of his own spending and learn from it. Keynesians are blinded because they can't read minds.

    Subjective expectations is ubiquitous. Just because someone has a gun and is able to coercively take money from others and spend it, that doesn't mean their expectations all of a sudden become objective.

    Your constant nonsense that "the free market doesn't work because expectations are subjective and there is fundamental uncertainty" is not overcome by anyone just because they are elected, have the authority to use force, and can print their own money. That's the biggest knee slapper on this blog yet.

    Are you going to censor this too now?

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  29. Or else, just admit that you are now openly engaging in censoring your blog.

    Technically, the word "censorship" only applies to what states do to public fora. What LK is doing with his personal property is called "none of your business". It's telling, though, that your tantrums are framed as state oppression, even when it doesn't apply.

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  30. "If mere changes in relative prices (Cantillon effects) were a serious argumnet against government spending, it would apply equally to the private sector."


    "The problem is the diversion of resources and prices caused by this, the "cantillion effects", is not based off the acumen of private profit and loss, so the praxeological austrian would still reject it."

    Changing demands, time preferences, resource availability, etc, all send signals for prices and the structure of production to adjust. When this structure of production is based off profit and loss, then it is a good adjustment, and the "distortions" in relative prices, employments, income distribution is for the better.

    But when it is based off government "coercion" (via tax revenue, nonvoluntary increases in the money supply, government borrowing), it is not based off the voluntary profit and loss, so the reallocation becomes a "distortion", because it distorts and perverses the market structure away from consumer preferences. Cantillion effects based off voluntary action (profit and loss) is good, otherwise, it is a distortion and is bad.

    "Wage and price flexibility is no solution to recession/depression. Business expectations are subjective; their investment decisions are made under fundamental uncertanty. Cutting wages and prices will not induce them to invest if their expectations are still pessimistic. "

    Cutting wages and factor prices increases their rate of return (bringing it closer to the higher rate of interest that would prevail in an economy with a shorter production structure, which unless agents save more is what needs to occur during a recession) which improves expectations. Absolute spending does not need to increase, all that is needed is their rate of return to rise. Wages and other factor prices were bid up too high during the boom (in an economy with a smaller rate of return factor prices are higher relative to selling prices), so they need to fall to conform to the new reality. Unfortunately, real wages need to fall. But the sooner they fall now, the sooner the recession will end and they can start to rise again.

    "Furthermore, allowing wages to fall in an economy with very high private debt is a recipe for crippling debt deflationary depression - just like America 1929-1933 or Australia in the 1890s. If you cut wages and debtors cannot service their debt, what happens? Bankruptcy - first for debtors, then creditors. "

    Debt with deflation is not a disaster in itself. During a recession, businesses and people that cannot pay their debts will have them taken over by the loaner. The businesses do not have to shut down, the loaner, who has actually been the owner all along since he fronted the money, will just hire someone else to run the business. In an economy with secular deflation, businesses/consumers will shift from debt to equity.

    "He did not.
    His "neoclassical" period was before 1940, when he used Walrasian general equilibrium theory and Wicksellian monetary equilibrium theory in his business cycle research.

    From his famous paper "Economics and Knowledge" (1937) he began to abandon his neoclassical framework, and even the whole concept of equilibrium as a useful tool for economic analysis, replacing it with his idea of plan coordination and then "spontaneous order".

    Not considering the above, he became much more friendly to the Neoclassical tradition in general. Before, he could have been classified as an Austrian under the Mises-Rothbard paradigm (except for his methodology/epistemology), but later in his life started to have a different outlook on changes in the money relation, indifference curves, etc. Hayekian Austrians are much closer to neoclassicals than are Misesians.

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  31. "But when it is based off government "coercion" (via tax revenue, nonvoluntary increases in the money supply, government borrowing), it is not based off the voluntary profit and loss, so the reallocation becomes a "distortion", because it distorts and perverses the market structure away from consumer preferences. Cantillion effects based off voluntary action (profit and loss) is good, otherwise, it is a distortion and is bad.

    This simply reduces to a moral argument.- presumably derived from natural rights theory, which I reject.

    Supposing (1) all people in the community agree to taxes, what then?

    Are you saying there would then by no economic arguments against government spending?

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  32. "and consumers be given credence due to induction inference of past investment/spending. And not only that, but it can be given MORE credence because the individual has the least amount of uncertainty about his own preferences and spending, and thus a free market of millions of individuals would have the least uncertainty."

    That is precisely the reverse of reality. Decentralised decision-making by millions of agents in an economy is a non-ergodic stochastic process, subject to fundamental uncertainty.

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  33. "This simply reduces to a moral argument.- presumably derived from natural rights theory, which I reject. "

    No, it does not go into a moral argument, or natural rights. There is a conceptual difference between voluntary choice and forced choice. Morals have nothing to do with this. Economic analysis (Austrian) just simply analyzes "what is". It is up to the person who wishes to advocate/implement policies what to support according to their morals/ethics and decide what "should be". That is where morals enters the scene.

    Someone could still, according to their system of beliefs, argue to X government spending even though they know analytically it distorts the preferences of the market but still prefer it because it benefits a selected group.

    "Supposing (1) all people in the community agree to taxes, what then?"

    Then its not a tax. If everyone voluntarily decides to pool money for a "public works project", then they will contribute the money individually, or even if it is communally, then voluntarily. It will be a benefit to the market because it is based off profit and loss.
    Then its not really vol

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  34. "Debt with deflation is not a disaster in itself. During a recession, businesses and people that cannot pay their debts will have them taken over by the loaner."

    If enough debtors go bankrupt, and ther is no intervention, the financial sector will collapse: e.g., as in Australia 1890s, the US 1929-1933.

    What you say is devoid of any understanding of history.

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  35. "No, it does not go into a moral argument, or natural rights. There is a conceptual difference between voluntary choice and forced choice. Morals have nothing to do with this. "

    Concepts like "voluntary" and "forced" are obviously moral/ethical language.

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  36. "If enough debtors go bankrupt, and ther is no intervention, the financial sector will collapse: e.g., as in Australia 1890s, the US 1929-1933.

    What you say is devoid of any understanding of history. "

    Why was their a rash of bankruptcies from 1839-1843 in banks and other businesses in the U.S, but real GDP actually increased during this period? Bear in mind the money supply and prices decreased roughly the same as they did during the Great Depression.

    ^^Peter Temin, The Jacksonian Economy

    During the 70s after the Panic of 1873, why did the economy continue to grow robustly (with some of the highest growth rates in the period) even though many railroad companies along with other businesses go bankrupt, along with steadily falling prices and a declining money stock (roughly 8% in total)?

    ^^^Milton Friedman A Monetary History of the United States
    ^^^Tycoons Charles Morris


    To give some examples. I'm not devoid of historical knowledge. I'm sure you heard of the Austrian explanation of the Great Depression. I have not had time to look at the Australian recession.

    "Concepts like "voluntary" and "forced" are obviously moral/ethical language. "

    So you are saying there is no conceptual difference between me buying a newspaper because I want to read it and the newspaper man threatening to shoot me unless I buy one of his newspapers? To give an example that has nothing to do with government.

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  37. "Concepts like "voluntary" and "forced" are obviously moral/ethical language."

    No. They are not. It's quite objective, actually. It just boils down to the choices that the acting individual has. If it is "What I want or your life" or "What I want or I use violence to hurt you" or "What I want or your liberty", it is quite objectively forced.

    "Voluntary", by definition is action engaged in/choice made on one's own volition without the use of force/threat of the use of force by another individual. Do note that it is only the use of force or the threat of the use of force by another individual that is regarded as 'force'. No bullshit such as 'forced by circumstances'.

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  38. What you fail to understand is that "voluntary" actions demonstrate preferences and hence enable construction of value scales by comparing choices against each other while "forced" actions do not permit us to do so. "Voluntary" actions thus make economic theory possible while "forced" actions vitiate theory. "Voluntary" actions move individuals to a higher (ordinal) utility while "forced" action moves individuals to a lower (ordinal again) utility. This is obvious because if there were no lowering of utility, force would never have been needed in the first place.

    None of this has any moral/ethical constructs. It is plain, simple logic.

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  39. None of this has any moral/ethical constructs. It is plain, simple logic.

    Your entire post is just a redundant reiteration of your dogma, not an argument.

    If I hold a gun to your head and tell you to buy my widgets, I'd expect that your subjective preference scale would take that into account.

    Absent an ethical construct, this action is as legitimate as any other action, and so the categories "voluntary" and "forced" have no basis. After all, if you rank your freedom to choose higher than your life, then I can shoot you and it's an ordinary market transaction.

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  40. "Your entire post is just a redundant reiteration of your dogma, not an argument.

    If I hold a gun to your head and tell you to buy my widgets, I'd expect that your subjective preference scale would take that into account.

    Absent an ethical construct, this action is as legitimate as any other action, and so the categories "voluntary" and "forced" have no basis. After all, if you rank your freedom to choose higher than your life, then I can shoot you and it's an ordinary market transaction. "

    No, sorry it is not. It is clearly different than a voluntary action. The person, before being held up, had a desired end he wished to satisfy (perhaps spending his money on something other than your widgets). Now, with the threat of violence, if he wishes to live he can no longer buy what he wanted to buy and instead must deal with your widgets. A clear and visible constraint has been added into his decision making, and his utility has been lowered since he can no longer achieve his highest end.

    Societal utility is indeterminate.

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  41. "Societal utility is indeterminate. "

    Sorry, I wrote this late last night. A better statement would be "Due to the Constraints imposed by Demonstrated Preference and Pareto Optimality/Unanimity , we can say that social utility has not increased. However, in absence of a cardinal utility and interpersonal utility comparisons we can not say whether social utility has decreased or remained the same. It is indeterminate in this respect."

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  42. This simply reduces to a moral argument.- presumably derived from natural rights theory, which I reject.

    That's not an argument, LK.

    By that evasion, EVERY economics argument you make can be responded with "this all simply reduces to a moral argument - presumably consequentialist theory, which I reject."

    You can't judge moral theories against each other unless there is a common ground. That common ground for judging moral theories is just natural rights theory.

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  43. "and consumers be given credence due to induction inference of past investment/spending. And not only that, but it can be given MORE credence because the individual has the least amount of uncertainty about his own preferences and spending, and thus a free market of millions of individuals would have the least uncertainty."

    That is precisely the reverse of reality.

    No, it is precisely consistent with reality. Mises and Hayek's emphasis on the knowledge problem inherent in government economic intervention has shown that your position is precisely the reverse of reality. Just because an individual is armed, and is legally allowed to use force, or is legally allowed to counterfeit money because it has a violence backed monopoly, that doesn't turn their knowledge into centralized knowledge. They too only have their own knowledge, subjective expectations, and uncertainty about the future. The only difference is that they are using violence whereas others are using trade.

    Decentralised decision-making by millions of agents in an economy is a non-ergodic stochastic process, subject to fundamental uncertainty.

    Government decision making is also included in that process. Governmental individuals are also individuals included in a population of millions of people! Decision-making by one or 10 or 100 governmental individuals within a greater context of millions of individuals in an economy is also a non-ergodic stochastic process, subject to fundamental uncertainty.

    Just because some individuals can steal or counterfeit money, that does not mean that they are no longer individuals who are making subjective expectations based choices, which are fully subject to uncertainty.

    You're not making any sense. You're attributing God-like, non-human attributes to people just because they were elected or have the legal authority to use violence or counterfeit and spend money. You're claiming that individuals who can't initiate violence legally, and who can't counterfeit legally, are all of a sudden subject to fundamental uncertainty and whose expectations are subjective.

    How can someone who is armed and is able to use violence legally, and is able to counterfeit money legally, how does this transform an individual human into an omnipotent non-human God that is no longer subject to fundamental uncertainty and whose judgments and expectations are no longer subjective?

    Your whole worldview of government is like that between a cultist and his priest.

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  44. Governmental individuals are also individuals included in a population of millions of people!

    No wonder you're confused about the functioning of the state.

    On a different note, this is an interesting take on the fallacy of voluntary choice in the market:

    L. Preston - Freedom, Markets, and Voluntary Exchange

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  45. "No wonder you're confused about the functioning of the state."

    Oh!! Does this mean that government individuals are not individuals included in a population of millions of people? So which planet do they live on? Or is it that they are not individuals? On a deeper note, is it that they are not people? Very interesting.....

    "On a different note, this is an interesting take on the fallacy of voluntary choice in the market:"

    How do I read the entire article? I'm reserving comments till I read the entire article, but my well-being would be greatly enhanced f I could read it all, as indicated by the sample I could see. Thanks (in anticipation).

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  46. The theory is that credit expansion will cause disruptions, first in the form of malinvestment in margined assets and then spilling over into the entire economy. This translated, when the only margined assets were capital assets, into a disconnect, as the same credit expansion induced reduced savings and increased spending. The way this plays out presently has more moving parts, solely because there are now more margined assets. Hayek's statement is simply that you need to follow the flow of credit through those assets, and that, because they are different assets, it will play out differently. I am not seeing how this is a failure of the theory itself. As long as what is different about the present bubble-bust events is driven by the differences in the asset at hand, I would say that this validates the theory.

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    Replies
    1. Anonymous@February 12, 2013 at 9:51 AM

      (1) "The theory is that credit expansion will cause disruptions, first in the form of malinvestment in margined assets and then spilling over into the entire economy."

      The classic ABCT says nothing about financial or real asset bubbles, if that is what you mean by "assets", Anonymous.

      And, secondly, highly developed and deep real and financial asset markets existed in the West from at least the 18th century long before Mises first published the outline of the ABCT.

      You making the absurd claim that real and financial asset markets suddenly just appeared after the development of the ABCT.

      (2) Asset bubbles have quite different economic effects from increases in the nature and number of capital assets via credit expanasion.

      Also, I would point out to you the many, many other problems with the ABCT: the non-existence of the unique Wicksellian natural rate of interest; the need for a real world tendency to GE for the theory to work; its unrealistic model of capital goods in it, etc.

      http://socialdemocracy21stcentury.blogspot.com/2012/10/hayek-on-his-simplified-capital-theory.html

      http://socialdemocracy21stcentury.blogspot.com/2012/10/repapis-on-hayeks-business-cycle-theory.html

      http://socialdemocracy21stcentury.blogspot.com/2012/01/hayeks-trade-cycle-theory-equilibrium.html

      http://socialdemocracy21stcentury.blogspot.com/2011/06/natural-rate-of-interest-wicksellian.html

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