Friday, August 9, 2013

Matias Vernengo on the Natural Rate of Interest

Matias Vernengo has a great post here on Austrians and the natural rate of interest:
Matias Vernengo, “On Austrians and the Natural Rate of Interest,” Naked Keynesianism, August 9.
The highlight is Vernengo’s observation that Juan Ramón Rallo’s re-interpretation of the Austrian business cycle theory, in which there is a mismatch between real savings and investment, requires an equilibrium natural rate, despite Rallo’s protestations to the contrary.

23 comments:

  1. It was fairly obvious to me that this was just a case of renaming and not retheorising. Rallo was just renaming the terms on which the natural rate rests and then pretending that this avoids all the critiques of the natural rate. The Austrians cannot get away from the natural rate concept unless they are willing to admit that interest rates alone are insufficient to bring savings and investment into full employment equilibrium. But they cannot do this as then their whole theoretical edifice would fall to pieces.

    Until then they will just be calling cats 'dogs' and dogs 'cats' and pretending to themselves that they are avoiding the criticisms thrown at them. You'll especially know that this is crankish chicanery when you realise that each particular Austrian has their own particular "reason" as to why the ABCT still works. This indicates that there is a very high chance that they are just altering nomenclature and that due to this no real communication is taking place between them (how can you communicate effectively when everyone has their own interpretation of a word or concept?).

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  2. http://juanramonrallo.com/2013/08/a-vueltas-con-el-tipo-de-interes-natural/

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  3. Equilibrium monetary interest rates cannot be thought as natural interest rates. That does not make any sense. Maturity mismatching does not assume the existence of any barter economy interest rate to which refer: it only assumes the intertemporal distortion implied in borrowing short and lending long.

    By the way, my answer is here: http://juanramonrallo.com/2013/08/a-vueltas-con-el-tipo-de-interes-natural/

    JRR

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    1. Yes. Even if this is true it still, as Vernengo says, runs into the capital controversies problem and the problem of re-switching.

      There are lots of ways to avoid the Sraffa critique. You can also assume arbitragers create a single interest rate by arbitraging various commodities. But the ABCT still falls due to the capital controversies and re-switching.

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    2. "Maturity mismatching does not assume the existence of any barter economy interest rate to which refer: it only assumes the intertemporal distortion implied in borrowing short and lending long."

      Don't you mean lending "short" (or in demand deposits) and borrowing "long"??

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    3. No: banks borrow short (deposits) and lend long (mortgages, consumers loans...)

      JRR

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    4. Philip,

      That is another debate we may hold. But in this post we are discussing whether ABCT requieres to assume the existence of natural interest rates or not. And in truth, it does not. Unless one wrongly thinks that natural interest is the same as real interest rates: http://juanramonrallo.com/2013/08/tipo-de-interes-natural-versus-tipo-de-interes-real/

      JRR

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    5. I don't think there's a difference between what you're calling the "equilibrium monetary rate" is fundamentally different from the "natural rate" of Wicksell. I think you're just changing the terminology. Here is a response to a debate I don't really want to have:

      http://fixingtheeconomists.wordpress.com/2013/08/09/austrian-business-cycle-theory-dinosaur-economics/

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    6. "No: banks borrow short (deposits) and lend long (mortgages, consumers loans...)"

      OK, yet banks do not just borrow "short": banks borrow and promise to repay on demand (demand deposits).

      How can demand deposits exist in such a system?

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    7. Demand deposits it the shorts way of borrowing by the bank. One restrictive way would be that banks could only create demand loans. One more realistic way is accepting the discount of commercial short-term credit backed by present consumer goods in high demand (highly liquid consumer goods).

      That is the traditional Real Bills Doctrine of Adam Smith (of Adam Smith: not of the antibullionist guys).

      JRR

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    8. Philip,

      Wicksellian natural interest rate is not hayekian natural interest rate. Wicksell called "natural interest rate" the interest rate that kept price level unchanged. Hayek called natural interest rate the rate of interest that would prevail in a barter economy. It is not the same. My concept is closer to the wicksellian one, but with one crucial difference: Wicksell thought that interest rate was solely determined by the marginal producivity of wating. I think the existence of interest rates cannot be explained without the concept of time preference and risk aversion.

      JRR

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    9. JRR, I'm aware of the differences. From my perspective they are inconsequential. If you believe in a rate of interest that generates full employment equilibrium then your theory fell apart in the 1960s. That's just the end of story really.

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    10. What I say is that you cannot critize that concepto of equilibrium rate of interest by appealing to Sraffa's articles against Hayek. They do not match.

      On the other hand, a) neo-ricardian theory is flawed from its very foundations: http://juanramonrallo.com/2013/08/critica-a-la-teoria-neo-ricardiana-y-clasica-del-valor/ b) you do not need to assume full employment in order to have a cycle as described by ABCT.

      JRR

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    11. (1) You're responding in a comments section in which the piece links to an article that brings up the capital controversies. So you have to engage on that basis.

      (2a) I don't read Spanish. But I'd be VERY surprised if you found a flaw in the Sraffian critique that two Nobel Prizewinners missed. If you have, however, I'd suggest writing an article in English and publishing it in the relevant journals... if you can.

      (2b) This may be the case. I've heard the argument and I'm not convinced. But even so if it is true the theory becomes extremely wishy-washy and really doesn't say very much at all. It also continues to rest on the implicit rational expectations idea that capitalists will both (i) price interest rates correctly given a limited supply of funds and (ii) that capitalists will always invest in solid projects if this interest rate prevails. Both of these are matters of Faith and not of anything resembling Science. In order to buttress these claims you would have to either prove that capitalists are omniscient or get some serious empirical research showing results. In lieu of this the Austrian doctrines will continue to be tautological statements of Faith.

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    12. 1) No, I am not responding in a comments section of a piece about capital controversies, but about natural interest rates.
      2) No, you do not neither need to assume rational expectations. You only need to assume that a) without cheap credit facilities (maturity mismatching), capitalists' mistakes will not endure for long (bankruptcy), b) that maturity mismatching necessarily creates new and general clusters of errors.

      JRR

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    13. (1) You obviously did not read Vernengo's piece. He discusses the CCCs.

      (2a) Yes, this is a faith-based argument. In order to substantiate this scientifically you would have to do two things. First of all, you would have to establish the rate of interest at which mismatch does not take place. Then you would have to empirically verify that such a mismatch led to less "malinvestment" firms surviving.

      The second part would be complicated by the fact that you have to establish robust criteria for what constitutes a "malinvestment" firm and what constitutes a "real investment" firm.

      In lieu of doing this work the ABCT is a faith-based theory and should be treated as such.

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    14. 1) Vernengo discusses that topic. But this post is about Vernengo's discussion of natural interest rate (title: "Matias Vernengo on the Natural Rate of Interest").
      2) First, there is no rate at which mismatch does not take place. Mismatch takes place when assets and liabilities maturities do not match. What happens is that the mismatching modifies the yield curve in an unsustainable way. But it does not work the way you say it works. Secondly, projects are not "purely" malinvestment or purely "real investments". Entrepreneurial plans coordinate or do not coordinate agents intertemporally. If they do not and cannot be corrected without wholesale liquidations, bankruptcies, defaults and capital reallocations, then you have malinvestments. But intertemporal coordination may be brought a posteriori by an increase in savings, for instance.

      JRR

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    15. (1) Yes which he ties to the CCC.

      (2) What you are calling "inter-temporal coordination" I am calling "a state in which mismatch does not take place".

      So, let's try this again shall we: do you believe that there is a level of interest rates at any given time that allows for greater "inter-temporal coordination"?

      If the answer to that question is "yes" then you have to prove this broadly in line with the criteria I laid out above. I.e. you have to establish criteria for inter-temporal coordination and then prove this occurs at a given rate of interest. Otherwise you are making a faith-based argument.

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    16. 1) No, it does not. As I explained, natural interest rate refers to barter interest rate. Capital structures do not play necessarily a role in Sraffa's criticism.
      2) I believe that you may have different shapes of the yield curve. Some of those shapes are brought about by maturity mismatchings, other don't. Some levels of interest rates may be too low if you have long term demands for capital satisfied by short term supplies. Intertemporal coordination means that savers must be in a position to control their desired present goods just in the moment where the term of their investment ends. If not, you have an intertemporal discoordination.

      JRR

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    17. (1) Wicksell's natural rate does not rely on barter. You said that yourself. You're getting awfully confused here.

      (2) JRR says: "I believe..."

      Precisely. Thank you.

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    18. Juan Ramón Rallo,

      (1) Your theory of making all money loans have strict "maturity matches" simply assumes that these monetary interest rates will coordinate real saving and investment. That is, the convergence of loan rates towards an equilibrium rate must also provide intertemporal equilibrium of real saving and real capital investment.

      (2) but (1) requires a loanable funds theory: a theory where some monetary rate really does reflect underlying forces of productivity and thrift.

      (3) Your Keynesian opponents reject classical loanable funds theory: monetary interest rates do not reflect the "underlying forces of productivity and thrift". There is no reason to expect an interest rate emerging from a yield curve of interest rates (even with no "maturity mismatch" loans) to reliably coordinate real saving with real investment.

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    19. Philip,

      1) Wicksellian natural rate, does not. Hayekian, it does. We are discussing Sraffa's critique to Hayek.
      2) I tried to answer to your question stablished in those terms.

      Lord Keynes,

      1) Yes.
      2) Not exactly. Demand for money has some influence on the interest rates, because demand for money implies saving in a very short term/liquid asset (so must you have the profile of your investment)
      3) I have not heartdso far any reason why loanable funds theory is not correct. The only seemingly reasonable argument is that of hoarding, but I refer to my point (2), which I developed much more in our previous debate.

      JRR

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  4. By the way, thinking on it, I believe that you both are confusing "natural interest rate" with "interest rate not determined by monetary factors". All natural rates are determined by real factors, but not all interest rates determined by real factors are natural rates: http://juanramonrallo.com/2013/08/tipo-de-interes-natural-versus-tipo-de-interes-real/

    JRR

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