Wednesday, September 25, 2013

Wicksell’s Natural Rate and Homogenous Capital

Colin Rogers points out an interesting assumption of Wicksell’s natural rate.

The concept of capital can be divided into two ideas:
(1) real capital, or the physical goods themselves, e.g., machines, tools, or raw materials, or
(2) capital defined in terms of a sum of exchange value (or in monetary terms). (Rogers 1989: 27).
Real capital in sense (1) can be measured in technical units, but that would mean that there would be as many technical units as there are types of capital goods (Rogers 1989: 28).

But in order to calculate the rate of interest (the return on capital), capital has to be measured in monetary terms.

Rogers continues:
“Apart from pointing out the technical necessity of defining capital in value terms, Wicksell also suggests that it is necessary for theoretical reasons; namely, that in equilibrium the rate of interest must be the same on all capital. This condition is, of course, the classical condition of long-period equilibrium defined in terms of a uniform rate of return on all assets. It is the notion of equilibrium employed by Wicksell to define the natural rate of interest. To define such an equilibrium, however, capital must be treated as a mobile homogeneous entity so that it may move between sectors to equalize the rate of interest/profit. Capital defined as value capital (financial capital) can fulfil this role but capital defined in technical or quantity terms cannot.” (Rogers 1989: 28).
It well known that Wicksell’s unique “natural rate of interest” was taken over by Mises and Hayek in their early formulations of the Austrian business cycle theory. In essence, the classic Austrian business cycle theory borrowed the “real” natural rate idea from Wicksell that required an assumption of homogeneous capital: something that modern Austrians are at pains to deny, since they accept (as Post Keynesians do) that capital is heterogeneous.

This is serious problem for Austrians. Austrians use a concept – the Wicksellian natural rate of interest – that is incompatible with their heterogeneous capital theory.

Rogers, C. 1989. Money, Interest and Capital: A Study in the Foundations of Monetary Theory. Cambridge University Press, Cambridge.

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