09 Oct 2012

David Glasner Needs to Re-Read Mises

Economics, Mises 71 Comments

The mischievous von Pepe dangled a recent post by David Glasner in front of me. Glasner writes:

[T]he notion of unsustainability [in Austrian business cycle theory] is itself unsustainable, or at the very least greatly exaggerated and misleading. Why must the credit expansion that produced the interest-rate distortion or the price bubble come to an end? Well, if one goes back to the original sources for the Austrian theory, namely Mises’s 1912 book The Theory of Money and Credit and Hayek’s 1929 book Monetary Theory and the Trade Cycle, one finds that the effective cause of the contraction of credit is not a physical constraint on the availability of resources with which to complete the investments and support lengthened production processes, but the willingness of the central bank to tolerate a decline in its gold holdings. It is quite a stretch to equate the demand of the central bank for a certain level of gold reserves with a barrier that renders the completion of investment projects and the operation of lengthened production processes impossible, which is how Austrian writers, fond of telling stories about what happens when someone tries to build a house without having the materials required for its completion, try to explain what “unsustainability” means.

The original Austrian theory of the business cycle was thus a theory specific to the historical conditions associated with classical gold standard.

I really don’t understand how Glasner could have written the part I put in bold. Of course Mises wrote that the boom is indeed unsustainable; he was the one who used the analogy of the master builder running out of bricks in Human Action.

Worse for Glasner, in the Theory of Money and Credit itself, Mises is crystal clear that he rejects Glasner’s interpretation above. Here is a beautiful statement: “Painful consideration of the question whether fiduciary media really could be indefinitely augmented without awakening the mistrust of the public would be not only supererogatory, but otiose.” That’s really all you need, but in case it’s not clear, let me spell it out more with further quotes:

The situation is as follows: despite the fact that there has been no increase of intermediate products and there is no possibility of lengthening the average period of production, a rate of interest is established in the loan market which corresponds to a longer period of production; and so, although it is in the last resort inadmissible and impracticable, a lengthening of the period of production promises for the time to be profitable. But there cannot be the slightest doubt as to where this will lead. A time must necessarily come when the means of subsistence available for consumption are all used up although the capital goods employed in production have not yet been transformed into consumption goods. This time must come all the more quickly inasmuch as the fall in the rate of interest weakens the motive for saving and so slows up the rate of accumula- tion of capital. The means of subsistence will prove insufficient to maintain the labourers during the whole period of the process of production that has been entered upon. Since production and consumption are continuous, so that every day new processes of production are started upon and others completed, this situation does not imperil human existence by suddenly manifesting itself as a complete lack of consumption goods; it is merely expressed in a reduction of the quantity of goods available for consumption and a consequent restriction of consumption. The market prices of consumption goods rise and those of production goods fall.

And just to make it crystal clear, Mises devotes–literally–an entire section at the end of his chapter on the trade cycle to make sure no one walks away with Glasner’s interpretation. An excerpt:

If our doctrine of crises is to be applied to more recent history, then it must be observed that the banks have never gone as far as they might in extending credit and expanding the issue of fiduciary media. They have always left off long before reaching this limit, whether because of growing uneasiness on their own part and on the part of all those who had not forgotten the earlier crises, or whether because they had to defer to legislative regulations con- cerning the maximum circulation of fiduciary media. And so the crises broke out before they need have broken out. It is only in this sense that we can interpret the statement that it is apparently true after all to say that restriction of loans is the cause of economic crises, or at least their immediate impulse; that if the banks would only go on reducing the rate of interest on loans they could continue to postpone the collapse of the market. If the stress is laid upon the word postpone, then this line of argument can be assented to without more ado. Certainly, the banks would be able to postpone the collapse; but nevertheless, as has been shown, the moment must even- tually come when no further extension of the circulation of fiduciary media is possible. Then the catastrophe occurs, and its conse- quences are the worse…

Of course, Mises could be totally wrong here; but Glasner is wildly off the mark when he says Mises (and Hayek) only presented a theory of crises applicable to the gold standard era.

Here is the Theory of Money and Credit, and here’s my study guide to it.

71 Responses to “David Glasner Needs to Re-Read Mises”

  1. Major_Freedom says:

    Inflationists tend to be rather non-rigorous when it comes to concluding that all critiques of inflation are not longer applicable.

    Glasner was a little hasty in convincing himself that ABCT depends on a gold standard, and is hence not applicable to a modern, civilized, industrial, healthy, productive, rationally managed inflatinary economy.

    What probably happened was this: he sincerely believes that there is no reason why credit expansion cannot go on forever, that the pnly thing holding it back is willingness from central bankers. Then, he probably fell upon one or two passages from Mises and Hayek, probably from third parties, that APPEAR to argue that the unsustainable boom comes to an end only when credit expansion comes to an end, and that was enough for him to close the books, slam them down, claim to have an understanding, and then rush to his blog and post what he posted.

    I feel like a broken record for saying this, but is ignorance of Austrian theory an unofficial prerequisite to challenging Austrian theory? I swear, I have not ever seen a single critic show any evidence that they understand it. Shouldn’t there be a name for this, what seems to be a law? Is this a cognitive ability issue? Or did I falsely infer from past experience?

    • Major_Freedom says:

      Sorry for typos. iPads are annpying.

      • Silas Barta says:

        You write your long-[axe] posts from an iPad??? You’re even more dedicated than I thought!

    • JFF says:

      “I feel like a broken record for saying this, but is ignorance of Austrian theory an unofficial prerequisite to challenging Austrian theory? I swear, I have not ever seen a single critic show any evidence that they understand it. Shouldn’t there be a name for this, what seems to be a law? Is this a cognitive ability issue? Or did I falsely infer from past experience?”

      How about Roddis’s Law?

  2. John says:

    this evening I was invited to a university talk on the latest research on deception.

    it was fascinating to apply the checklist presented to the writings above

  3. Jason B says:

    Bob, do these things even challenge you anymore? The reason I ask is because it seems MF and Roddis might be on to something when they say things like, ” I swear, I have not ever seen a single critic show any evidence that they understand it[Austrian business cycle theory].”

    • Tel says:

      I don’t believe there is any genuine misunderstanding about Austrian theory. There are some small variations amongst advocates, but so much well written documentation is freely downloadable along with very detailed discussion, worked examples, FAQ’s and everything you could ask for.

      Opponents of the Austrian are not complete idiots, they simply find that a campaign of systematic misinformation is easier and more effective than a real argument. When they are putting about the rumour that Ron Paul is demanding a federally mandated gold standard, right alongside a link to a speech by Ron Paul saying something completely different — it’s just getting ridiculous.

      Go to Krugman’s blog and find one single post discussing Cantillon effects and what they signify. Not even a particular point of view, just any blog entry willing to even mention the fact that such a thing can happen. Could it really be that an economist could get to where Krugman is and seriously never run into the concept of a Cantillon effect? Simply not possible. He just prefers not to talk about such things. It’s not in the political script, so it doesn’t get talked about. End of story.

  4. JP Koning says:

    I think David is borrowing his Mises from Wicksell. Wicksell thought that falling reserves would eventually limit credit expansion. As you point out, Mises in TMC didn’t think so.

    Mises actually criticises Wicksell’s viewpoint here;

    “When, he [Wicksell] says, from any cause whatever, the average rate of interest is below this normal rate, by any amount, however small, and remains at this level, a progressive and eventually enormous rise of prices must occur ‘which would naturally cause the banks sooner or later to raise their rates of interest.’ Now, so far as the rise of prices is concerned, this may be provisionally conceded. But it still remains inconceivable why a general rise in commodity prices should induce the banks to raise their rates of interest. It is clear that there may be a motive for this in the regulations, whether legislative or established by mercantile custom, that limit the circulation of fiduciary media; or necessary consideration of the procedure of other banks might have the same sort of effect. But if we start with the assumption, as Wicksell does, that only fiduciary media are in circulation and that the quantity of them is not legislatively restricted, so that the banks are entirely free to extend their issues of them, then it is impossible to see why rising prices and an increasing demand for loans should induce them to raise the rate of interest they charge for loans… Consideration of the level of its cash reserves and their relation to the liabilities arising from the issue of fiduciary media cannot concern the hypothetical bank that he describes.”

  5. Edward says:

    Of course there is pathetically weak evidence for the “physical unsustainability view of capital” that we see so often in the Austrian theory. If it really were a question of the the physical shortage of resources ALONE, then we’d see soaring prices for those resources during the BUST. Instead, we see falling prices all around. (Oil crashed, along with other commodities, during the bust.) The reason why this is so is the law of supply- All things being equal, if the supply of a good contracts and the demand for it is unchanged, prices for that good will RISE not fall. The only way this is overcome is the “secondary deflation” in the parlance of the Austrians. The secondary deflation overwhelms many would be shortages of resources, and thus causes the price to fall. This suggests that the secondary deflation is MORE important, not less., and re-allocation is a separate Issue. Re-allocation can occur whether the economy is booming or busting. Evidence. Look at the earthquake in Japan. Japan recovered in a remarkably short period of time to its previous trend line, despite a huge negative supply shock from the earthquake.

    • Adrian Gabriel says:

      Edward, indeed it may seem as though prices never rise according to the CPI in its favored method of present calculation, but as has been evidenced by another more provocative and non-mainstream economist, prices do rise after busts and have continued to do so since the expansion of the money supply has become en vogue within the monopolized fractional reserve banking system. See here: http://www.shadowstats.com/alternate_data/inflation-charts

      Now it would be conspiratorial for me to make this claim with no evidence, so I thus suggest you take a look at the link. I hear Tyler Cowen and other statists at GMU make the same claim you do in regards to the rise in prices if there is a controlled inflationary rate, yet the numbers they use are the ones the government pumps out to its favor. In regards to Japan, expansion of monetary access was what resulted in them giving the perception of sustainable recovery. It is a different scenario altogether.

      The reason for falling prices is manifested in the fact that the bust phase is the evidenced reallocation of resources. Deflationary pressures are necessary to bring goods back to their benign market prices. The rise in prices of consumer goods is occurring now, despite the fact that rates have been kept low to mask a rapid spike and rise in prices. Where is oil today….? I rest my case.

    • skylien says:

      Prices rise during the BOOM not the bust… This rising prices cause the bust at some point if interest rates aren’t kept low enough! When the bust is occurred the unsustainability is already obvious, and investors pull OUT of investments because they fear to lose money, which then reduces demand and accordingly prices for these goods… Have you ever read Mises Theory of Money and Creditor Human Action?

      Right, re-allocation of capital is possible if the economy is booming and busting, provided markets are allowed to work, insolvent banks and firms are left to be taken over by new owners etc.. No propping up of markets or assets, no picking of winners and losers by politicians and central bankers etc..

      Japan proves only that endless stimulus gives you endless debt. Only very small ticks up in the interest rate could already mean game over for them. Come on please tell me that you actually believe Japan will get rid of its high debt through real growth without major crisis? Do you own JGBs?

      • skylien says:

        *Theory of Money and Credit or Human Action*

    • skylien says:

      Edward, ask yourself this: What or when is something sustainable or unsustainable? You will see that this is in part determined by existing interest rates. So what determines interest rates that allows for a sustainable structure of production? Who can determine that?

    • Major_Freedom says:

      Of course there is pathetically weak evidence for the “physical unsustainability view of capital” that we see so often in the Austrian theory.

      The evidence is perfectly consistent with the “physical unsustainability of capital” theory. Methinks you’re confusing lack of observation with lack of that which is not being observed.

      If it really were a question of the the physical shortage of resources ALONE, then we’d see soaring prices for those resources during the BUST.

      Did you not read the passages Murphy cited? In practise, the central bank usually chooses saving the currency and reducing the requisite rate of inflation, rather than continuing to accelerate inflation and manifest the physical unsustainability of capital that is the core reason why accelerated inflation appears to be necessary to prolong the bust.

      As an analogy, suppose a series of cars in a straight line are driving towards a cliff. As each car approaches the cliff, they turn left or right at the last minute, thus preventing a crash. The Austrian physical unsustainability of capital argument, and your argument, would be like the following situation: Austrians are saying “Driving towards a cliff will eventually lead to the car being totalled”. You are saying “Where is the evidence of this? I’ve never seen this alleged “cars being totalled” theory. If Austrians were right, then we should see piles upon piles of totalled cars, but we don’t, so that means driving towards the cliff can be carried on and on forever, as long as the car drivers are not skiddish and don’t listen to golf bug worry warts who cry hyperinflation.”

      Instead, we see falling prices all around.

      That is expected in the Austrian theory if the central bank doesn’t keep directing the cars toward the cliff, and chooses to turn left or right and save the cars, rather than be stubborn and listen to inflationists who claim there is nothing wrong with the economy as long as “spending” remains up.

      (Oil crashed, along with other commodities, during the bust.) The reason why this is so is the law of supply- All things being equal, if the supply of a good contracts and the demand for it is unchanged, prices for that good will RISE not fall.

      All things are not equal.

      The only way this is overcome is the “secondary deflation” in the parlance of the Austrians. The secondary deflation overwhelms many would be shortages of resources, and thus causes the price to fall. This suggests that the secondary deflation is MORE important, not less., and re-allocation is a separate Issue.

      Falling aggregate prices is an integral component of re-allocation. If every component in the division of labor remained nominally profitable, there would be no impetus to re-allocate anywhere, which prevents recovery.

      Re-allocation can occur whether the economy is booming or busting.

      Not quite. In the Austrian theory, when the economy is booming, the WRONG kind of re-allocation is taking place, whereas when the economy is busting, the RIGHT kind of re-allocation is taking place. Is this unfair? No, because medicine tastes bad. It is not designed to be like a dessert. It is designed to be a cure for a sickness. It is unfortunate that economic medicine is painful, but that is not the fault of the Austrian doctors, it’s the fault of the inflationist witchdoctors who tricked people into thinking they are healthier based on superficial “statistics” such as “employment” and “output”.

      Evidence. Look at the earthquake in Japan. Japan recovered in a remarkably short period of time to its previous trend line, despite a huge negative supply shock from the earthquake.

      This is data that is neither against nor in favor of your claims.

  6. John says:

    Last night I posted a very brief comment that I had attended a university lecture on deception and that, based on what was offered, it was fascinating to read the remarks above.

    Now, it seems to me that we should all, first, be alert to deception. It can arise, anywhere.

    http://www.nature.com/news/2011/111101/full/479015a.html

    A legitimate technique is to look at language, choice of words, and so forth.

    When someone writes, “Here is a beautiful statement: “Painful consideration of the question whether fiduciary media really could be indefinitely augmented without awakening the mistrust of the public would be not only supererogatory, but otiose” and then continues “That’s really all you need, but in case it’s not clear . . .

    well, it seems to me your readers should be forewarned to ask very serious questions

  7. John says:

    supererogatory is an adj meaning: 1. performed to an extent exceeding that required or expected

    clearly (isn’t use of this word ironic) , what is posted above as a reply and what is attributed to Mises are both supererogatory

    question: Why conclusions should the reader drawn about someone who is supererogatory, intentionally?

  8. Bob Roddis says:

    Keep in mind that regardless of exactly where in the economy new fiat loans will go, the impact of funny money creation is always a distortion of prices and relative prices and the impairment of economic calculation. This will result in almost all people generally thinking that they are richer than they really are and that their investment and labor choices are more sustainable than they will turn out to be. Since no Austrian critic seems aware of this central concept and/or the association to it of Cantillion effects, their focus is always inadequate when they focus upon only a single phenomenon (such as the classic ABCT) that is a mere result the more basic phenomenon.

    Joseph Salerno has written “A Reformulation of Austrian Business Cycle Theory in Light of The Financial Crisis” addressing this.

    http://mises.org/journals/qjae/pdf/qjae15_1_1.pdf

    • skylien says:

      What I do not understand is how CB and fiat money advocates can have an actual non-arbitrary and meaningful definition of solvency and insolvency if they think that there is something like too high money demand that leads to “liquidity” problems for debtors and therefore to something like “unjustified insolvency” that needs to be countered via monetary or/and fiscal policies by government monopoly agencies.

      I would like to hear how you would draw a line between solvency and insolvency if you think like that.

      • Major_Freedom says:

        A really neat game you can play when reading or debating statists/socialists/inflationists is to find out where their premises contradict. They always do.

        Cash holding is especially conspicuous. We are to believe that they think holding cash is “fine”, but they want to reserve to themselves (or to a select few who agree with them) the ultimate control of deciding just how much is fine. Individuals of course are to not be free to decide for themselves, because that necessarily leads to negative economic outcomes for those who desire central planning control over others. They believe problems arise from lack of a particular central planning enforcement.

        So cash holding is fine, as long as the central planner can re-assert their final decision making authority and counter-act that action and/or the effects of that action.

        It’s all about control. Everything else is window dressing. Employment and output? Ex post rationalizations.

        • skylien says:

          I have not yet reached the state of merely playing games with them. I try to watch and follow debates and generally hope that others say and ask the things I would say and ask. Of course there are several questions I need to ask myself, and quite often I do not really get an answer. Yet it is those questions I need answers on, if I am supposed to adopt a different opinion.

          I agree cash balances or “hoards” as many of them would call it is one big issue. It’s fine when people are able to decide what to consume, what to invest in, but not how much cash to hold?

          Not only banks hoard excess reserves, and ordinary people stuff their mattresses, even US businesses diversify in cash:
          http://www.zerohedge.com/news/2012-10-09/guest-post-are-businesses-quietly-preparing-financial-apocalypse

          They all just want more dollar notes printed, right…

    • Lord Keynes says:

      “Keep in mind that regardless of exactly where in the economy new fiat loans will go, the impact of funny money creation is always a distortion of prices and relative prices and the impairment of economic calculation. “

      And whatever distortions occur still do not lead to the effects imagined by Austrians:

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

      ” Since no Austrian critic seems aware of this central concept and/or the association to it of Cantillion effects,”

      Cantillion effects do not provide any argument against government spending or spending by private new money creation:

      http://socialdemocracy21stcentury.blogspot.com/2011/09/are-cantillon-effects-argument-against.html

      • Tel says:

        At least you make the effort to address the issue… but I think there are some details you don’t cover properly.

        You don’t actually need inflation to get the same result as a Cantillon effect (yes I’m aware that the original explanation was in the context of an inflationary scenario). Consider food stamps. What food stamps really do is force the taxpayers to buy food for poor people (or at least, buy stuff that the government considers important, which may change from time to time, for the people that the government happens to decide are deserving). One effect of food stamps is to stop people from going hungry, and another effect of food stamps is to increase the price of food (relative to everything else, including labour) and thus put more pressure on normal people with higher food prices, and overall higher cost of living.

        Personally, I’m not against the idea of offering food as a charitable thing to tide people over hard times, but somehow it has gotten way out of hand. The number of families depending on food stamps just keeps going up — no recovery is in sight. The price of food is also going up, and the total government intervention in the market is increasing. It isn’t a temporary charitable effort to get people back on track, it has become a way of life.

        In order to feed this expanding balloon, either tax must increase or borrowing (i.e. future tax) must increase. That in turn pumps the balloon of poverty and people who can’t keep up with the cost of living. What started as a good idea, turns into a problem as it gets out of control — because of the distortion it has on markets.

        And if governments had good sense and were able to draw a line somewhere and say, “absolutely this is as far as we go” then I’d be a lot happier, but they have no common sense.

      • Major_Freedom says:

        And whatever distortions occur still do not lead to the effects imagined by Austrians:

        Yes, they do.

        Repapis’ claim that equilibrium does not empirically exist is a red herring and does not address MISESIAN ABCT theory. You keep citing Hayek’s early work as if he had a monopoly on ABCT.

        The key concepts of ABCT are divergences between nominal interest rates and “natural” interest rates, distortion of relative prices due to inflation, and the malinvestment of real resources.

        None of these principles are called into question by Repapis’ misguided complaint that the mental tool of equilibrium by which the real world DIVERGES from it, does not empirically exist. It is not supposed to exist.

        Cantillion effects do not provide any argument against government spending or spending by private new money creation:

        They do when people are forced to accept inflationary US dollars in order to pay taxes.

        It would be like Microsoft threatening you with violence if you don’t pay them “protection money” in the form of Microsoft stock, which coerces into acquiring them in the market, during which time Microsoft issues more shares to their preferred friends (not you). The Cantillon Effect WOULD be a valid argument against Microsoft’s behavior.

        At any rate, the Cantillon Effect is important to understanding the mechanics of inflation. How it effects some goods and assets before others, and thereby exacerbating bubbles.

        The links you keep copy pasting have been refuted a zillion times. Are you insane?

  9. Bill Woolsey says:

    Mises error is the “capital goods prices must fall.”

    In the context of a money growth target, inflation target, or nominal GDP target, what happens is that consumer goods prices rise faster for a time, and capital goods prices rise more slowly for a time. Then both beging growing at the trend implied by the inflation. The relative prices of consumer goods rises and the relative price of capital goods fall.

    Anyway, it is the boom in consumer goods (and capital goods producing them in the near future) that pulls resources out of the capital goods industries.

    And it never stops. There is a reallocation of resources and what we would today call structural unemployment, but there is no decrease in demand for any type of good, or decrease in their prices. It is just that capital goods industries cannot keep up with the consumer goods industries.

    If the goal of the policy were a permanently lower (real) interest rate and reallocation of resources towards the production of capital goods (and in the background, and shift in the factor distribution of income away from capital towards labor,) then the policy will fail.

    If the goal of the policy is steady money growth, steady inflation, or stable spending growth on output, with the goal of having no impact on interest rates or the allcoation of resources, then any errors in setting interest rates or in investment due to expecations of future interest rates don’t make the policy unsustainable. People who make those mistakes lose money.

    • skylien says:

      “…with the goal of having no impact on interest rates or the allcoation of resources,…*

      How can you make that sure? How would you know? Sounds more like wishful thinking to me.

      “People who make those mistakes lose money.”

      I am not sure if this counts for Goldman Sachs, JP Morgen, GM etc…

    • Matt Tanous says:

      “Anyway, it is the boom in consumer goods (and capital goods producing them in the near future) that pulls resources out of the capital goods industries.”

      This is in direct contradiction with the fact that every single business cycle theory has endeavored to demonstrate why it is that exactly the opposite happens.

      Actually, the capital goods industries are heavily invested in, but there is no future consumer demand to meet it. Thus, capital goods prices rise, followed by consumer prices, which makes much of the long production processes recognizable as unsustainable investments, meaning that everyone involved has to find new work and readjust to meet actual existent demand.

    • Major_Freedom says:

      Mises error is the “capital goods prices must fall.”

      Bill’s error is not understanding that this is meant to be taken as relative fall, not necessarily absolute fall.

      In the context of a money growth target, inflation target, or nominal GDP target, what happens is that consumer goods prices rise faster for a time, and capital goods prices rise more slowly for a time. Then both beging growing at the trend implied by the inflation.

      This is the theory, but the theory is wrong, because it falsely presumes that inflation has the same effect on all prices at some point in the future after continuous policy targeting.

      Money is not neutral in the long run. If it changes relative prices at first, then to the extent this relative price change affects relative employment and resource allocation away from what is sustainable, then in order to maintain the given price inflation trends, accelerating inflation is necessary. If this inflation does not accelerate, then market monetarists and other inflationist types will observe a rising cash preference and claim that this means the market just wants more money and the Fed has to give it to them, in accordance with the arbitrary targeting rule.

      The problem with that is that the observation of rising cash preference is not a signal to print more money, but that something is wrong with the capital structure of the economy, and that to fix these problems, that which caused it (inflation) must cease, or else the inevitable outcome is acceleration of inflation towards infinity, and monetary breakdown.

      The relative prices of consumer goods rises and the relative price of capital goods fall.

      That is the Austrian argument.

      Anyway, it is the boom in consumer goods (and capital goods producing them in the near future) that pulls resources out of the capital goods industries.

      With lower than market interest rates, it is possible for resources to be pulled into higher order capital goods, or consumer goods, or both. Whatever shift occurs, the key thing to understand is that the shift is not one that sees all productive stages expand beyond what they otherwise could have done without inflation, such that the economy is put onto a new normal, a new sustainable output trend. Inflation doesn’t work that way. It always enters the economy at distinct points, and because of that, what you consider to be innocuous, or even beneficial, aggregate statistic targeting, is in fact a targeting of relative statistics.

      It is not true that continuous inflation statistic (NGDP, price index, etc) targeting of, say 3%, over the long term, will eventually lead to a permanent 3% rise in all prices (after an initial relative statistic change). Continuous targeting will put a continuous pressure on relative statistics, due to the fact that the mechanics of inflation hasn’t changed; it is still always entering the economy at distinct points, and when that money is initially spent, it is initially spent on only some things, but not anything else. That keeps the relative pressure on.

      You may believe that expectations can eliminate this, but expectations that a particular statistic will grow at 3% per year or whatever, is still an aggregate statistic. In order to achieve that aggregate statistic target, relative statistics are always changing due to the mechanics of how inflation actually enters the economy.

      If I expect NGDP to rise 5% every year, then this does NOT mean that I and every other individual can successfully ask a 5% higher wage income or selling prices of goods every single year. I and other individuals have to WAIT until the nominal demand for our particular goods and services rises sufficiently such that we can ask for 5% higher prices. But that waiting time is exactly when relative prices are changing, and it is this time that you and other “money is neutral” folks are ignoring. You are failing to grasp the true meaning of the Cantillon Effect. Aggregate statistic targeting and “correctly shaped” expectations taken together cannot overcome the Cantillon Effect. As long as inflation enters the economy at only distinct points, there will necessarily be relative spending and price changes. If the inflation is continuous, then there will be a continuous relative spending and price change pressure on the demand side.

      And it never stops. There is a reallocation of resources and what we would today call structural unemployment, but there is no decrease in demand for any type of good, or decrease in their prices.

      That is a problem that prevents recovery. If no production center (economic stage) experiences a reduction in nominal demand, then the required resource re-allocation won’t take place. Nominal profits will continue to be made for those lines that should go bankrupt such that resources are re-allocated in the only way investors and entrepreneurs know how, via the profit AND LOSS system.

      Capitalism without losses is like Christianity without hell.

      It is just that capital goods industries cannot keep up with the consumer goods industries.

      If the goal of the policy were a permanently lower (real) interest rate and reallocation of resources towards the production of capital goods (and in the background, and shift in the factor distribution of income away from capital towards labor,) then the policy will fail.

      Not quite. Even if the goal ISN’T intended to be permanently lower real interest rates, then this does not mean that policy won’t have an unintended effect on real interest rates anyway.

      If I am a legalized counterfeiter, and my goal is not to change nominal interest rates, but to target an aggregate spending statistic, then if I keep sending checks to those who are in the business of lending, then my actions will be having an effect on nominal interest rates. Since nominal interest rates are the only rates observable to investors and entrepreneurs, my actions will necessarily affect their actions in a way associated with them not knowing what the observable market rates would otherwise have been. It is this change that Austrians say causes economic problems. No expectations, no constant statistic targeting, can turn investors into supernatural beings who can discern from observable nominal interest rates which component is market and which component is (unintentionally) driven by the policy.

      Thus, the policy is doomed to fail regardless.

      If the goal of the policy is steady money growth, steady inflation, or stable spending growth on output, with the goal of having no impact on interest rates or the allcoation of resources, then any errors in setting interest rates or in investment due to expecations of future interest rates don’t make the policy unsustainable. People who make those mistakes lose money.

      It is truly remarkable how you cannot even see the difference between intentions and outcomes. You are actually claiming that as long as a policy does not intend to affect something, then it does not affect that something. Wow.

    • Tel says:

      Yes, I completely agree. Inflation is the only thing that governments can reliably and sustainably deliver.

      However, inflation is not actually a particularly useful product, and most people do their best to hedge against it wherever possible, so I’m not sure why a deliberately inflationary policy would be seen as desirable.

  10. Rob says:

    I think Glasner’s view “one finds that the effective cause of the contraction of credit is not a physical constraint on the availability of resources with which to complete the investments and support lengthened production processes, but the willingness of the central bank to tolerate a decline in its gold holding” has merit.

    Here is an example that shows why.

    Suppose the economy starts in equilibrium with a structure of production with an average length of 2-years and 50% of output going into I.

    The CB wishes to length of the structure of production by increasing I to 60% of output. lets assume this will lengthen the structure of production to 3 years. The CB print money and lends it out until the desired I ratio is reached. The economy embarks on changing to the new structure of production. As the ABCT predicts problems will arise when the new money reaches labor and other factor of production who will wish to consume 50% of their income not the required 60% and demand for these resources will also push their relative prices up. However the CB can counter this by printing and lending sufficient money to keep I at 60%. As the new money circulates prices will rise. Both businesses and wage earners will start to factor this inflation into their plans (and wage demands). However as long as the CB keeps targeting 60% Investment level then there is no reason (in pure theory) why the new longer structure of production cannot be achieved.

    What will stop the new structure being achieved is not its viability but secondary factors associated with the inflationary boom. (savings levels dropping as levels of consumption rise). Either the CB will pull back from its commitment to forced savings, or the population will rebel against it. If that doesn’t happen then hyperinflation may occur. It is these practical reasons rather than “a physical constraint on the availability of resources “ that will prevent forced savings from achieving its goals.

    • Major_Freedom says:

      It’s funny how you make it seem like the requirement of a continued acceleration of inflation (ultimate hyperinflation) to maintain 60% I somehow isn’t physical scarcity manifesting itself, but is rather solely a monetary choice by the CB.

      The whole reason why a CB would be faced with having to continually accelerate inflation in order to sustain 60% I, is precisely the physical constraint on the availability of resources, which is the result of consumers releasing only 50% to investment rather than 60%.

      If resources were infinite, then even if consumers released only 50% to investment, then the CB could bring I to 60%, 70%, 80%, 10,000,000%, literally anything, because, of course, infinity means resources aren’t constrained to 100%.

      The very fact that you are saying “50% I” and “60% I”, is because you are taking resource scarcity for granted. You are literally saying that resources are scarce, so if consumers only release 50%, then the CB cannot bring I to 60%. They can only bring it to 50%, but a 50% that consists of malinvestments, which requires C to go down to 40%.

      • Major_Freedom says:

        But of course, to be more accurate, ABCT isn’t a theory of OVER-investment, it is a theory of malinvestment. It is like going from investing in a project whose horizon is 5 years out, to investing in a project whose horizon is 10 years out. Nominal or real Investment hasn’t “increased”, it just got redirected to a trajectory that requires more resources that are or will be available.

        Focusing on the time element makes this point more clear.

  11. Lord Keynes says:

    Obviously Glasner is wrong in this critique of the ABCT.

    Other well known critiques, however, are absolutely right:

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

    • Major_Freedom says:

      Obviously Glasner is wrong in this critique of the ABCT.

      This is true, but this statement is not be a product of any knowledge of ABCT on your part, since you don’t understand it. It would be like a pundit saying Mickelson and Morley were wrong about the luminiferous aether. OK, sure, the pundit is right, but I wouldn’t think he understands why.

      Other well known critiques, however, are absolutely right:

      That critique you cited is absolutely wrong, based on a false interpretation of Hayek in particular, and ABCT in general.

      Hayek did not hold that real world free markets have 100% full employment, no deviation. Hayek used the concept of equilibrium as a mental tool, as a starting point, to explain why in the real world market there are fluctuations of production, unused resources, and so on.

      “To start from the assumption of equilibrium has a further advantage. For in this way we are compelled to pay more attention to causes of changes in the industrial output whose importance might otherwise be underestimated. I refer to changes in the methods of using the existing resources. Changes in the direction given to the existing productive forces are not only the main cause of fluctuations of the output of individual industries; the output of industry as a whole may also be increased or decreased to an enormous extent by changes in the use made of existing resources. Here we ave the third of the contemporary explanations of fluctuations which I referred to at the beginning of the lecture. What I have here in mind are not changes in the methods of production made possible by the progress of technical knowledge, but the increase of output made possible by a transition to more capitalistic methods of production, or, what is the same thing, by organising production so that, at any given, moment, the available resources are employed for the satisfaction of the needs of a future more distant than before. It is to this effect of a transition to more or less ” roundabout ” methods of production that I wish particularly to direct your attention. For, in my opinion, it is only by an analysis of this phenomenon that in the end we can show how a situation can be created in which it is temporarily impossible to employ all available resources.” – Prices and Production, pg 36.

      Hayek wanted to explain the real world where not all resources are employed and not all labor is hired, BY WAY OF the mental tool of tendency towards equilibrium. Sort of like how one can better understand change by starting with the mental concept of rigidity.

      “The necessary starting point for any attempt to answer the theoretical problem seems to me to be the recognition of the fact that the identity of demand and supply, which must necessarily exist in the case of barter, ceases to exist as soon as money becomes the intermediary of the exchange transactions. The problem then becomes one of isolating the one-sided effects of money—to repeat an expression which on an earlier occasion I had unconsciously borrowed from von Wieser,—which will appear when, after the division of the barter transaction into two separate transactions, one of these takes place without the other complementary transaction.” – ibid, pg 129-130.

      In other words, Hayek makes it clear that the concept of equilibrium is not intended as a maxim for modern monetary economies, i.e. as an actual real world code of conduct, but rather as a theoretical instrument only.

      The idea that markets tend towards equilibrium, but never reaching it, is not a false idea. It is based on the real world phenomena of action, which entails individuals tending to seek to improve their circumstances by using scarce means to achieve their subjective ends. A “seeking to improve” tendency is another way of saying a tendency towards equilibrium but never reaching it.

      ————–

      Then there is Mises:

      “In plain saving and in the capitalist saving of isolated economic actors the difference in the valuation of want-satisfaction in various periods of the future manifests itself in the extent to which people provide in a more ample way for nearer than for remoter periods of the future. Under the conditions of a market economy the rate of originary interest is, provided the assumptions involved in the imaginary construction of the evenly rotating economy are present, equal to the ratio of a definite amount of money available today and the amount available at a later date which is considered as its equivalent.” – Human Action, pg 532.

      and

      Originary interest can therefore in the changing economy never appear in a pure unalloyed form. It is only in the imaginary construction of the evenly rotating economy that the mere passing of time matures originary interest; in the passage of time and with the progress of the process of production more and more value accrues, as it were, to the complementary factors of production; with the termination of the process of production the lapse of time has generated in the price of the product the full quota of originary interest. In the changing economy during the period of production there also arise synchronously other changes in valuations. Some goods are valued higher than previously, some lower. These alterations are the source from which entrepreneurial profits and losses stem.” ibid, pg 534.

      Mises also did not presume that “equilibrium” is a real world market phenomena either.

      The Wicksellian unique natural rate of interest was to both Hayek and Mises a theoretical construct only. Denying this is just absurd.

      • Lord Keynes says:

        “Hayek did not hold that real world free markets have 100% full employment, no deviation. Hayek used the concept of equilibrium as a mental tool, as a starting point, to explain why in the real world market there are fluctuations of production, unused resources, and so on.

        The critique of Hayek used above does not assume 100% full employment or the real world existence of general equilibrium states, so none of your comments refute anything argued either in my post or in Repapis 2011.

        Better luck next time.

        “The Wicksellian unique natural rate of interest was to both Hayek and Mises a theoretical construct only. Denying this is just absurd.”

        In the case of Hayek, you’d better break the sad news to Robert Murphy, and ask him to explain why he totally missed that point in this paper:

        Robert P. Murphy, “Multiple Interest Rates and Austrian Business Cycle Theory.”
        http://consultingbyrpm.com/uploads/Multiple%20Interest%20Rates%20and%20ABCT.pdf

        • Major_Freedom says:

          The critique of Hayek used above does not assume 100% full employment or the real world existence of general equilibrium states, so none of your comments refute anything argued either in my post or in Repapis 2011.

          Wrong. You made the following comments:

          “Hayek is quite clear that a tendency to general equilibrium in the real world is an assumption of his work:”

          “Yet the existence of equilibrium is “not an empirically relevant state of affairs” (Repapis 2011: 703). The idea of equilibrium and a tendency to equilibrium requires that agents have expectations that are fulfilled and nothing is unforeseen (Repapis 2011: 703–704). That is to say, the agents in Hayek’s model of the cycle live in a world of “certain outcomes” (Repapis 2011: 713). But obviously this ignores the reality of fundamental uncertainty in the world and economic life.”

          The assumption of real world equilibrium is being used a trump card against Hayek, so your response is contradictory.

          In the case of Hayek, you’d better break the sad news to Robert Murphy, and ask him to explain why he totally missed that point in this paper:

          I was addressing you and what you said. Nice red herring though. Better luck next time.

          • Major_Freedom says:

            Interestingly, Murphy’s paper has a passage that should, but we all know doesn’t, help in your misunderstanding of ABCT:

            “Thus, when Hayek laments that the banks cause a divergence of the money from the equilibrium rate of interest, he is referring to the fact that the false interest rate disrupts the intertemporal coordination between producers and consumers. Sraffa clearly missed the entire essence of ABCT, because—as Hayek pointed out—Sraffa’s suggested barter example would actually increase the subsistence fund; it was (by stipulation) a mistake, but only because consumers would have preferred that some other goods had been produced rather than the increment in wheat output. In other words, Sraffa’s example of an erroneous (and unprofitable) increase in wheat production would not count as a “malinvestment” in the Misesian sense.”

            • Lord Keynes says:

              “Interestingly, Murphy’s paper has a passage that should, but we all know doesn’t, help in your misunderstanding of ABCT:”

              The passage you cite does not support your claim that the “Wicksellian unique natural rate of interest was to both Hayek and Mises a theoretical construct only” – in fact just the opposite.

              Nice work. Way to refute yourself.

              • Major_Freedom says:

                The passage you cite does not support your claim that the “Wicksellian unique natural rate of interest was to both Hayek and Mises a theoretical construct only”

                I didn’t claim it was a passage that supported my claim that it is a theoretical construct only. That’s why I prefaced it with “Interestingly”. It is a side argument that was influenced by your red herring of Murphy’s paper, as if this has anything to do with your lack of understanding the fact that Mises and Hayek held the concept of equilibrium as a mental tool only.

                I cited that passage because it relates to your misunderstanding of ABCT.

            • Lord Keynes says:

              And from the same paper:

              In his brief remarks,
              Hayek certainly did not fully reconcile his analysis of the trade cycle with the possibility
              of multiple own-rates of interest. Moreover, Hayek never did so later in his career.
              His
              Pure Theory of Capital (1975 [1941]) explicitly avoided monetary complications, and he
              never returned to the matter.
              Unfortunately, Hayek’s successors have made no progress on this issue, and in fact, have
              muddled the discussion. As I will show in the case of Ludwig Lachmann—the most
              prolific Austrian writer on the Sraffa-Hayek dispute over own-rates of interest—modern
              Austrians not only have failed to resolve the problem raised by Sraffa, but in fact no
              longer even recognize it.

              p. 11.

              • Major_Freedom says:

                And from the same paper:

                Oh no, ABCT is all wrong because one person got a super low mortgage rate of 2.346% while another got a super low mortgage rate of 2.347%.

                That’s it, we should all go home. Artificially low interest rates that distort economic calculation cannot take place if there are instances of different interest rates in the real world.

                LOL

          • Lord Keynes says:

            “Wrong. You made the following comments:

            “Hayek is quite clear that a tendency to general equilibrium in the real world is an assumption of his work:””

            More sheer dishonesty, or just stupidity.

            The existence of a

            (1) “tendency to general equilibrium in the real world” is different from

            (2) the assumption of “100% full employment or the real world existence of general equilibrium states”.

            • Major_Freedom says:

              I know they’re different, that was my point.

              You kept trying to play the card that because there is no equilibrium in the real world, that this means Hayek’s theory is blown up.

              • Lord Keynes says:

                “You kept trying to play the card that because there is no equilibrium in the real world, that this means Hayek’s theory is blown up.”

                Simply false.

                That argument is not made anywhere in my post cited above or in Repapis 2011, or in any comment above.

                The critique focuses on the role of subjective expectations of entrepreneurs in disequilibrium, the non-existence of a market tendency towards GE, and criticisms of the Austrian capital theory.

              • Major_Freedom says:

                Simply false.

                I’ve already cited comments you made that it is simply true.

                Once again:

                “Hayek is quite clear that a tendency to general equilibrium in the real world is an assumption of his work:”

                and

                “Yet the existence of equilibrium is “not an empirically relevant state of affairs” (Repapis 2011: 703). The idea of equilibrium and a tendency to equilibrium requires that agents have expectations that are fulfilled and nothing is unforeseen (Repapis 2011: 703–704). That is to say, the agents in Hayek’s model of the cycle live in a world of “certain outcomes” (Repapis 2011: 713). But obviously this ignores the reality of fundamental uncertainty in the world and economic life.”

                So you’re either incompetent, or a liar.

                The critique focuses on the role of subjective expectations of entrepreneurs in disequilibrium, the non-existence of a market tendency towards GE, and criticisms of the Austrian capital theory.

                So you admit that the critique does center on “equilibrium does not exist in the real world.”

                You say “subjective expectations….of entrepreneurs”. What, as if the expectations of regulators are…objective? If entrepreneur’s expectations are subjective, then so are regulator’s expectations. If entrepreneur’s expectations are X, then those are the most informed expectations, since they have the most knowledge over their particular markets. Regulators are backward looking and are not as informed.

                If you say the critique focuses on subjective expectations in disequilibrium, this too presupposes that ABCT is blown up if it can be proven that equilibrium doesn’t exist in the real world.

                The claim that a tendency towards equilibrium does not exist, on account of “subjective expectations”, misses the mark. It is precisely subjective expectations that are the backbone of the tendency towards equilibrium.

                If you can grasp that workers will tend to choose lower wages over starvation, and if you can grasp that employers will tend to chase profits instead of losses, then it is not a leap to then understand that market actors will maintain this tendency even during depressions. Economic laws don’t change just because a certain percentage of people are out of work.

              • Lord Keynes says:

                “no equilibrium in the real world,”

                If this is supposed to mean “the existence of a GE state in the real world”, as I assume it does, then your statement is wrong.

                If it means “a mere tendency towards a GE state without reaching it”, you’ve phrased it poorly, but that is indeed part of the critique, but I’ve already said that above.

              • Major_Freedom says:

                Huh?

                You said:

                “Hayek is quite clear that a tendency to general equilibrium in the real world is an assumption of his work:”

                And then you said:

                “Yet the existence of equilibrium is “not an empirically relevant state of affairs” (Repapis 2011: 703). The idea of equilibrium and a tendency to equilibrium requires that agents have expectations that are fulfilled and nothing is unforeseen (Repapis 2011: 703–704).”

                You considered the concept “tendency towards GE”, but then you responded with “Yet the existence of equilibrium is not an empirically relevant state of affairs”.

                You casually just went from tendency to GE to existence of GE without batting an eye, and you used the same premise “subjective expectations” to challenge BOTH.

                So far from me poorly phrasing anything, I was actually just responding to your (seemingly poorly phrased) statements. You’re arguing against yourself.

                I was only attempting to make it clear that what you did argue against (existence of GE) was held by Mises and Hayek as a mental construct only.

                Regardless of whether you try to climb out of the hole by trying to feign misunderstanding over “tendency towards GE” and “existence of GE”, none of this does anything to support your case against Hayek, or Mises, or ABCT.

                ——————–

                The mere fact that entrepreneurs have “subjective expectations” does not in the slightest weaken the use of the mental construct of GE. If anything, it strengthens it, because the only way that a “tendency” towards it can make sense is if expectations are subject to error.

                No Austrian has ever held that entrepreneurs have perfect foresight, such that GE is actually attainable. It is for this reason that Mises went out of his way to present the GE (what he called ERE) as only attainable in a hypothetical world of perfect foresight (among other things), so that he could better understand the real world where such things do not exist.

                It’s like using the concept of infinity to assist in understanding the real world of finitude.

                You’re getting sidetracked by failing to separate mental tool abstractions, and empirical observations. You seem to know how to do the latter, but you fail miserably in the former. You’re like a data muncher who has no idea how to integrate the data at the cognitive level.

    • Major_Freedom says:

      Repapis’ abstract is already problematic:

      “Hayek’s business cycle theory in the 1930s was pioneering both in developing the general equilibrium framework…”

      1930s Hayek didn’t pioneer general equilibrium framework. General equilibrium predated his work by decades. Hayek just adopted it because that’s what the dominant workhorse of economics was at the time.

      • Lord Keynes says:

        “1930s Hayek didn’t pioneer general equilibrium framework.”

        No kidding. This comment suggest s either incompetence or just plain dishonesty.

        The abstract doesn’t say Hayek invent/pioneered GE theory.

        The full abstract:

        Hayek’s business cycle theory in the 1930s was pioneering both in developing the general equilibrium framework and in integrating capital with monetary theory. From published and unpublished work and correspondence a more complete picture of the evolution of Hayek’s thought emerges. This article traces how Hayek’s effort to produce a consistent business cycle theory led him to redevelop important parts of capital theory and the theory of expectations. The inherent difficulties of dealing with the durability of capital goods in an Austrian framework, as well as his evolving views on knowledge and expectations, led him to abandon his project of developing a definitive version of Austrian business cycle theory. “

        That is correct: Hayek’s business cycle theory in the 1930s developed/pioneered a general equilibrium framework for his innovative trade cycle model, that is, applying GE theory to trade cycle research with monetary analysis.

        • Bob Roddis says:

          In lieu of actually learning and understanding the Austrian concept of economic calculation, “Lord Keynes” has produced a magnificent bibliography listing the vast horde of socialists who tried and failed to refute Mises on the socialist calculation debate in the 1920s. He gets a gold star for being the champion of subject changers. You see, Gary North was wrong about the number of socialists who tried and failed to refute Mises during the 1920s. And that’s why no one takes Austrian economics seriously.

          http://socialdemocracy21stcentury.blogspot.com/2012/10/bibliography-on-socialist-calculation.html

          • Major_Freedom says:

            I once heard a Post-Keynesian say that demand and supply are a function of prices. That means I don’t have to engage Post Keynesian arguments, and I can declare their entire paradigm false.

            Although, I am not sure if I am confusing my profound sense of relief with a profound intellectual demolition. I’ll go with the latter for now and hope nobody notices…

          • Lord Keynes says:

            “in lieu of actually learning and understanding the Austrian concept of economic calculation”

            So says someone who declares that Walrasian market clearing GE is an *Austrian* concept never understood by any critic.

            • Matt Tanous says:

              Mises formulation of the ERE is not the same as the Walrasian mathematical model. That would be just one more mistake you have made.

        • Major_Freedom says:

          No kidding. This comment suggest s either incompetence or just plain dishonesty.

          It’s from Repapis’ own abstract. The full abstract:

          “Hayek’s business cycle theory in the 1930s was pioneering both in developing the general equilibrium framework and in integrating capital with monetary theory. From published and unpublished work and correspondence a more complete picture of the evolution of Hayek’s thought emerges. This article traces how Hayek’s effort to produce a consistent business cycle theory led him to redevelop important parts of capital theory and the theory of expectations. The inherent difficulties of dealing with the durability of capital goods in an Austrian framework, as well as his evolving views on knowledge and expectations, led him to abandon his project of developing a definitive version of Austrian business cycle theory. “

          The words “both” and “and” suggest that Repapis believes Hayek pioneered general equilibrium theory.

          • Lord Keynes says:

            “The words “both” and “and” suggest that Repapis believes Hayek pioneered general equilibrium theory.”I

            No, it doesn’t.

            “Hayek’s business cycle theory in the 1930s was pioneering both in developing the general equilibrium framework and in integrating capital with monetary theory.”
            =
            Hayek’s ABCT pioneered the use of GE theory as part of business cycle research as well as integrating capital with monetary theory

            • Major_Freedom says:

              How does that follow?

  12. Keshav Srinivasan says:

    Bob, off-topic, but did you see Steve Landsburg’s reply to your comment here:

    http://www.thebigquestions.com/2012/10/03/the-great-debate/#comment-64615

    I’d be interested to hear your response.

    • Jason B says:

      Yeah, I was curious about that too. This one had me scratching my head, so perhaps Steve can clarify: “Allowing drilling on federal land does not change the supply of oil”.

  13. Bob Roddis says:

    I’ve read that the reason internet scams are written the way they are is that so they appeal only to the dumbest of the dumbest people. Otherwise, more sophisticated people might be initially taken in only to think hard about the scam and then report it. That is why LK’s insistence that multiple rates vs. a single natural rate of interest is allegedly fatal to the ABCT is such a marvelous thing. Anyone he might find to agree with that allegation would have to be dumber than a load of bricks. LK separates the wheat from the chaff for our benefit.

    • Major_Freedom says:

      Sometimes I think about whether or not that is how states form.

  14. Bob Roddis says:

    Glasner tries to make the general analysis more complicated than it really is. The various squirts of fiat funny money result in the investors and the buyers thinking that they and everyone else are richer than they really are due to price distortions. People engage in borrowing to support lines of production and purchases of products from those lines which only appear to make sense because of the newfound funny money. Cut off the supply of new funny money, and everyone will have to face the reality of the actual prices of everything. Because the entire charade is based upon the totality of false prices and false information, at some point reality will overwhelm even continued creation of new funny money.

  15. MamMoTh says:

    Roddis is still the funniest of you all, and he manages to keep a straight face when he types.

    • Major_Freedom says:

      I agree. Every time he makes fun of you, I laugh.

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