15 Oct 2012

Admission of Error Is a Rarity in the Geeconosphere

Economics, Gold, Mises 36 Comments

[UPDATE: I swapped out one of the arguments in light of re-reading Glasner and realizing I misunderstood one of his defenses.]

Consider the following hypothetical argument:

DAVIE: Man, that George Lucas doesn’t have anything to teach us about redemption. If you watch his classic Star Wars movies, he offers a warning about people succumbing to the Dark Side, but offers no guidance on how they can turn back to good.

BOBBY: What the heck are you talking about? In Return of the Jedi, Vader rescues Luke. Then his spirit is reunited in the afterlife with Yoda and Ben Kenobi. We see that one of the major themes of the entire saga is the fall and restoration of Anakin. I am stunned that someone could watch these movies and have uttered your initial statement.

DAVIE: Hmm, I’ve rewatched the sage in light of your clever riposte, Bobby, and now I realize that Lucas contradicted himself. I have a series of points to make, in defense of my original statement:
==>Yes, you’re right that Vader does perform some good deeds in Episode VI, but that’s really just a specific outcome in the fictitious world Lucas has developed. We don’t get a general theory of human redemption, applicable to the real world. For example, Lucas doesn’t work in a scene where Lucas’ own father turns back to good, after slaughtering thousands of rebels.
==>Yes Lucas offers a theme of redemption, but he bashes us over the head with it! He basically just asserts, out of nowhere, that Vader turns back to good, without giving a gradual buildup and character transformation. Classic Lucas.
==>Of course I agree that Lucas in Episode VI has offered us guidance on redemption from evil, but Victor Hugo did a much better job in Les Miserables. Lucas hasn’t taught us anything we didn’t already know.

I submit that if Bobby at this point pulled out a gun and shot Davie squarely between the eyes, no red-blooded jury of Americans would convict him.

Now then, on a completely unrelated note, let’s walk through my paraphrase of David Glasner’s recent thoughts on the work of Ludwig von Mises:

GLASNER: Mises doesn’t give us a theory of why the boom is physically unsustainable. If you read his classic work (Theory of Money and Credit), you’ll see that he offers just a theory applicable to the classical gold standard.

MURPHY: What the heck are you talking about? Mises does indeed give physical reasons for the unsustainability of the artificial boom, and he explicitly warns the reader not to walk away with the view you just attributed to him. I am stunned that someone could have read Mises’ book and still blogged your initial statement.

GLASNER: Upon further re-reading of Mises, I now see that he contradicted himself. Here are some points in defense of my original post:
==>Sure, Mises, writing in 1912, does discuss a hypothetical world where the classical gold standard doesn’t operate, and he does offer a theory as to why a credit expansion even in this world would be physically unsustainable. But, I wanted Mises in 1912 to write from firsthand experience as to why a world not operating under the classical gold standard couldn’t engineer a perpetual credit expansion. He gave us no such analysis, in 1912.
==>Yes, Mises does indeed explicitly state the claim that I said he never made. But, he doesn’t give a good reason for it. He just asserts it and moves on. Classic Mises.
==>Yes, I agree with Murphy that Mises gave a perfectly correct explanation for why a credit expansion–even in a world of fiat money–would eventually come to an end, namely hyperinflation. But we knew that before Mises told us. No contribution from “Austrian business cycle theory” on that score.

It’s a good thing for Glasner that I am a pacifist.

36 Responses to “Admission of Error Is a Rarity in the Geeconosphere”

  1. Richard Williamson says:

    Re: the title, is this going to be the first in a series of posts? 🙂 I’m dying to see an exposition of the whole debt burden debacle through the medium of a Star Wars analogy…

  2. Ken B says:

    Victor Hugo did do a much better job in Les Miserables. But on the other hand he left out Princess Leia’s metal bikini.

  3. Chris says:

    So what happened next?

    • Blackadder says:

      He fixes the cable.

  4. JP Koning says:

    Bob, I think you’re right that Glasner’s point about Mises’s theory being applicable only to a gold standard was a weak one. It would be interesting to read your views about Glasner’s more general criticism that Mises never succeeded in explaining why a central-bank fiat expansion necessarily had to be stopped. I’m going to write a post in the next few days on this if I get the time.

    I think Glasner’s point about “…but we knew that before Mises told us…” refers to the fact that Wicksell already described how hyperinflation worked.

    • Matt Tanous says:

      Mises demonstrated that the fiat credit expansion would need to accelerate, and would thus result in hyperinflation if not stopped. Now, one could disagree with this (and be wrong, IMO), but not claim that Mises made no argument about why credit expansion would need to be stopped eventually or there would be even more drastic consequences.

      • JP Koning says:

        Matt, no one disagrees that keeping the market rate below the natural rate would be hyperinflationary.

        The question is… if you put the hyperinflation question to the side for a moment, is there something else that will necessarily cause the bust?

        I think Rob makes a good point below:

        “I don’t see the question of physically unsustainability being adequately addressed anywhere (either in Mises or in this recent discussion) and I think that is Glasner’s real point.”

        Anyways, I’m writing something on this in a bit. Will post later.

        • Bob Murphy says:

          JPK wrote:

          Matt, no one disagrees that keeping the market rate below the natural rate would be hyperinflationary.

          The question is… if you put the hyperinflation question to the side for a moment, is there something else that will necessarily cause the bust?

          This makes no sense to me JPK. Here is my quick version of what Mises is saying:

          1) The banks can inflate and cause the market rate to go below the natural rate.

          2) This causes a temporary, but physically unsustainable, period of apparent prosperity. This cannot last though, because there aren’t enough real savings to finance the longer production processes. Unwitting capital consumption is what makes this illusion physically possible.

          3) This real situation manifests itself in forces tending to raise the market rate of interest. The banks can try to fight this if they want, by pumping in ever more amounts of fiduciary media.

          4) Even though an unbending commitment to monetary inflation can prolong the boom, this too must come to an end, when the public abandons the currency. The real imbalances become so strong that even a commitment to infinite inflation won’t do the trick. Thus the boom ends. That’s why I say it is unsustainable.

          Now you are arguing that if we put aside hyperinflation, Mises can’t explain the physical unsustainability of the boom? That seems weird to me.

          • JP Koning says:

            http://jpkoning.blogspot.ca/2012/10/questions-for-bob-murphy-and-other.html

            In the post I’m trying to remove the “public abandons the currency” bit of the story in order to drill down into the physical unsustainability bit of the story.

            • Major_Freedom says:

              If the state used lethal force to prevent people from using barter (i.e. the state maintains dollarization), to ever greater accelerations in inflation, then this is physical unsustainability manifesting itself as a perceived need to keep accelerating inflation to maintain a given relative pricing and capital structure (which is growing nominally very rapidly in the aggregate).

              If however the inflation pressure is relentlessly maintained by human effort, beyond what would have made people go over to some other currency, then while it is in principle mathematically possible for real corrections to be indefinitely postponed, practically this is impossible, even on the purely nominal side, due to an inability of people to even use the unit of currency for calculating gains and losses.

              The rate of inflation would get so high that people could not even conceive of a “price” of anything any longer, because prices would be increasing on astrophysical scales.

              Imagine the price of salt growing by 100^100 percent per second for the 1st second, then 100^1000 percent for the 2nd second, and so on.

              If people were forced to use this currency to coordinate the entire division of labor, production would almost certainly revert to a crawl, as no practical calculation would be possible, and billions of people, who were born, raised and have become dependent on a stable monetary system, would die.

              Before this, or after this, I don’t know, the rate of inflation would become so high that nothing physical would be able to store the monetary data. Supposing money were purely digital, for the sake of considering the form that would most easily accommodate astrophysical scale inflation, then computers would eventually run out of data space that holds the information on how much money exists, who owns it, and what prices were a microsecond ago for the many goods in the world.

              You have to respect the practical limits of a continuous acceleration of a variable. Purely mathematically, it is difficult to discern, because math can get us to tendencies towards infinity, but praxeologically speaking, tendencies towards infinity are out of the question. Everything in human life is finite.

            • JP Koning says:

              “due to an inability of people to even use the unit of currency for calculating gains and losses.”

              Ok, well say people adjust and get very good at these calculations. Then what prevents this process from continuing indefinitely?

        • Matt Tanous says:

          Again, the boom can only be sustained if the credit expansion continues and accelerates. Without this, the market has a bust that is a result of the malinvestment. This is why it is unsustainable. I don’t see why this is so difficult to grasp, but Mises made it quite clear.

        • JP Koning says:

          Bob, in the post I linked to I’ve worked backwards on your four points. What interests me is 2). Here’s the gist of what I wrote…

          4) Say the public can’t abandon the currency

          so …

          3) The central bank doesn’t have to worry about demonetization, therefore it doesn’t have to raise its interest rate.

          so…

          2) without demonetization or a rise in interest rates, what causes this process to halt? What is the trigger? Is it exogenous? Endogeneous?

          Note that I’m not saying that there is no trigger. I’m genuinely curious.

  5. Rob says:

    Bob,

    I think in a “who said what when” kind of way you may be correct. But (perhaps I am alone) I would be much more interested in seeing a good answer to the “why a credit expansion even in this world would be physically unsustainable.” question than turning this into a personal thing between you and David (who in my opinion is one of the most knowledgeable and reasonable bloggers out there and would undoubtedly acknowledge it if he had mis-stated anything ).

    • JP Koning says:

      Not alone. See above.

    • Bob Murphy says:

      Rob, this isn’t a personal vendetta. Glasner listed, as one of two objections to ABCT, that it was only really applicable to the gold standard era, and he cited Mises as his authority on this. It’s not relevant for me to quote Mises explicitly denying it?

      Then, Glasner in his follow-up post said (paraphrasing), “Among other things, Mises claims that if the banks really did try to permanently keep the market interest rate below the natural rate, there would be a hyperinflation that would bring the expansion to an end. I agree.”

      So what are we arguing about?

      • Rob says:

        Glasner said:

        “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”

        This is not really saying that the theory is “only really applicable to the gold standard” but only that it was stated in that instance in terms relevant to the gold standard.

        Both he and Mises (and I assume you) seem to agree that hyperinflation will eventually end the boom.

        But hyperinflation and physically unsustainable are two different reasons for the boom to end. I don’t see the question of physically unsustainability being adequately addressed anywhere (either in Mises or in this recent discussion) and I think that is Glasner’s real point.

        • Dan says:

          Rob said, “This is not really saying that the theory is “only really applicable to the gold standard” but only that it was stated in that instance in terms relevant to the gold standard.”

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

          • Bob Murphy says:

            If you want to continue trying, Dan, feel free, but I am moving on with my life.

            • Dan says:

              Hey, maybe Rob was just attempting to prove the point of your title.

          • Rob says:

            So are you saying that Glasner made up the bit about Mises saying in Theory on Money and Credit that under the gold standard fear of gold loss would curtail the artificial boom ?

            Also I am genuinely interested in the theory behind the statement that the boom is ” physically unsustainable” rather than just leading to hyperinflation if not ended before that point by the central bank.

            • Major_Freedom says:

              Also I am genuinely interested in the theory behind the statement that the boom is ” physically unsustainable” rather than just leading to hyperinflation if not ended before that point by the central bank.

              It’s the reason why hyperinflation SEEMS to be the only means available to prolonging the boom.

              The physical unsustainability is manifesting itself in the situation where the central bank finds itself having to accelerate credit to infinity to sustain the pricing and investment structure.

              • Rob says:

                Thanks Major_Freedom for actually addressing the important issues that I am interested in and not just trying to score points against other blogger/commentators !

                Is hyperinflation not due to ever-increasing inflation expectations leading to the money supply needing to increase at inflation_expectations + the amount needed to keep real interest rates at their below natural rates level ?

                I can see that this will eventually render the boom unsustainable but I just don’t see how this is due to lack of resources. In theory if people never developed inflation expectations or the economy could function with very high levels of inflation (and ignoring the side effects of the inflationary boom) then the forced savings could go on for ever and the economy would never run out of resources.

              • Major_Freedom says:

                Thanks Major_Freedom for actually addressing the important issues that I am interested in and not just trying to score points against other blogger/commentators !

                Well there is a comment I don’t hear very often.

                Is hyperinflation not due to ever-increasing inflation expectations leading to the money supply needing to increase at inflation_expectations + the amount needed to keep real interest rates at their below natural rates level?

                There is another aspect to inflation that typically gets overlooked when discussing these types issues.

                It is one thing for people to have “inflation expectations”, which is typically of the form X% price increase per year for consumer goods.

                It is another thing to consider the relative pricing structure of the economy. This cannot be expected, let alone measured. The more important aspect of the pricing system is, to Austrians, relative prices, how prices compare to each other. Aggregate price levels are only a small part of the whole inflation story.

                Let us abstract away from money and prices for a moment. The lack of resources idea takes the form of real capital structure unsustainability at the individual project level. By this I mean the following: In order for the entire division of labor economy to be in a sustainable configuration, each component has to be extended in terms of planning, only so far relative to other component, and no further. If a component is extended too far in terms of intended time horizon, then it won’t “fit” with the other components which require that component in question to be extended differently.

                The monetary system not only results in heights of prices and relative prices in the nominal sense, but it also regulates the physical allocation of capital and the time horizons of each project by way of relative profit and loss signals.

                Even if I expected inflation next year to generate a 2-3% price increase, I would not be able to observe any “natural” rates of interest, because they are eliminated. The nominal rates that exist are a combination of both real and inflation factors, but investors cannot separate nominal interest rates into “free market” and “central bank influenced” components. Even if a few investors could, the incentive to earn profits is just too great, and inflation can allow investors to earn temporary profits from projects that are unsustainable, by selling the project before the original investor incurs the loss.

                Austrians say that a given capital structure is “physically unsustainable” if the relative extensions of each project, when considered together, cannot be physically completed as intended. For example, suppose too many bricks and nails are produced, but not enough paint and tiles, for the purposes of completing the construction of houses. The brick and nail industries will face a physical bottleneck. In terms of pure productivity dynamics, in terms of resources only, the brick and nail industries will have to WAIT, and hold onto excess bricks and nails until the other stages are ready with more paint and tiles.

                What the price system does is it tends to prevent undue expansions of the brick and nail industries. Austrians hold that this regulating mechanism is distorted with non-market based central bank inflation, even correctly expected inflation rates. They hold that no investor can actually discern from inflation affected prices, what the relative pricing structure would have otherwise looked like if that pricing structure did regulate the brick and nail industries and did prevent them from over-expansion.

                It’s one thing to correctly expect that consumer prices will be 2-3% higher next year. It is another thing to expect the relative pricing structure if it is going to be consistent with market based preferences separate from non-market based central bank activity.

                The key concept is individual time preferences.

                I can see that this will eventually render the boom unsustainable but I just don’t see how this is due to lack of resources. In theory if people never developed inflation expectations or the economy could function with very high levels of inflation (and ignoring the side effects of the inflationary boom) then the forced savings could go on for ever and the economy would never run out of resources.

                It’s not so much about price inflation expectations as it is about individual time preferences.

                A permanent lowering of real interest rates (“forced saving”) cannot go on indefinitely if people actually don’t have those preferences. There will be an increasing pressure on relative prices to reverse course, as over time, more and more investments pile on that are not consistent with actual time preferences. As the market counter-pressure grows, the central bank, in order to maintain the prevailing relative pricing structure, would have to accelerate credit expansion.

                Austrians reject the notion that a permanent, delimited forced saving can occur on the back of a constant inflationary credit expansion, because a constant credit expansion will eventually be overwhelmed by the increasing counter-pressure from the market as more and more malinvestments are made over time. If the central bank only maintains the same credit expansion, then the temporary lowering of interest rates will peter out, the boom will end, and a recession will ensue, along with the typical increased cash preferences associated with them.

                In other words, Austrians reject the theory of neutral money.

            • Dan says:

              I’m saying the quote I used for you is not compatible with the quote I provided from Glasner.

              • Rob says:

                I agree that Glasner may have initially overstated the extent to which Mises tied his theory to the Gold Standard.

                But I also think Murphy is not really addressing Glasner’s informed critique of ABCT.

              • Major_Freedom says:

                I like how you put “informed” in front of the word “critique”, as is=f Murphy’s exposition showing Glasner to be misinformed doesn’t even exist.

              • Dan says:

                “I agree that Glasner may have initially overstated the extent to which Mises tied his theory to the Gold Standard.”

                You still are not getting it. Have you read Mises’s Theory of Money and Credit? I’m not asking to be insulting, I just don’t see how you are missing this unless you are not familiar with Mises’s work.

                Glasner didn’t overstate anything. He said something that is absurd to accuse Mises of doing. Not only did Mises not do what Glasner said, he devoted a lot of space in the very book Glasner was quoting from to refute that very idea.

                So when you say Glasner overstated the extent to which Mises tied his theory to the gold standard, I can only assume you are just ignoring what Mises actually wrote.

                His theory is not tied to the gold standard at all. If you state that Mises tied his theory to the gold standard to any extent then you are making a false statement.

                “But I also think Murphy is not really addressing Glasner’s informed critique of ABCT.”

                It is pretty tough to say he is making an informed critique of ABCT when he thinks the originators of the theory tied it to the gold standard. That’s about as uninformed as you can get.

                If you want to say that, “yeah, Glasner was wrong to make the claims he did in the initial post, but I would like to know why, exactly, the boom is considered unsustainable”, then fine. I have no problem with that question. I would recommend reading The Theory of Money and Credit, and using Murphy’s study guide for it to get that answer.

                If you read the Austrian literature and believe that it is mistaken, that’s fine, but the answer to that question has already been written about thoroughly enough so that it isn’t necessary to reinvent the wheel here. Read what the Austrians have said themselves and agree with it or not.

              • Rob says:

                I’m not meaning to upset you guys.

                I’m relatively new to economics and actually consider myself to be a supporter of the Austrian school/.

                But I have never understood that one aspect of ABCT – why interest rates below the natural rates cause a boom that is ” physically unsustainable” rather than just being likely to lead to hyperinflation if not stopped by the CB before then.

                I genuinely appreciate MF’s attempt to address that questions.

                I do think Glasner is raising some interesting issues in this debate. At the moment I feel Glasner is ahead on points but I will re-read all the posts tomorrow and go back to source and see if I can understand why you guys are making me feel bad about not being 100% happy with Bob;s responses on this.

              • Bob Murphy says:

                Rob, I am sorry for being somewhat of a jerk to you on this. It’s just that I am frustrated when Glasner gets pinned on one mistake, then moves on to a new argument like it’s nothing. It’s not worthwhile for me to debate someone like that, because he will never concede even if I happen to be right. It would be like you asking me to play chess with someone who keeps changing the rules if he’s about to be checkmated.

              • Dan says:

                Rob, if you are generally interested in this then start with this article from the economist Krugman is scared to debate. http://mises.org/daily/3155

              • Rob says:

                Thanks for the response Bob and I don’t think you were a jerk – I can sort of see your frustration when you state it like that.

                I am an avid reader of both your and Glasner’s blogs. I have learned a lot from both and hope this can be a serious discussion of serious issues and not descend into something that neither of you would feel proud of later on.

              • senyoreconomist says:

                Dr. Murphy,
                It is funny, because in your complaints about Glasner you seem to be paraphrasing Hayek’s complaints about Keynes…(I am refering to the post of yours addressed to Rob regarding Glasner and his, Glasner’s, tendency to move on to a new argument as if nothing happened after he, Glanser, had been refuted on a previous argument.)

              • senyoreconomist says:

                That should be Glasner, not Glanser.

        • skylien says:

          Just like oil will not be physically unavailable from one day to another (just its price will go up so high that there is only a handful of people who still will be able to buy it), also such an artificial boom doesn’t mean that suddenly e.g. bricks aren’t physically available anymore from one day to another.

          Their prices just become so high that it is not profitable for lots of people who started building houses to finish them, except the central bank keeps the interest low enough by accelerated money printing that builders still can borrow seemingly “profitable” and the boom goes on…

          Yet at some point prices rise so fast, that the people lose the confidence in the store of value function of money, which means it becomes profitable to use non-money as store of value. And then you have hyperinflation. That’s the way I see it working…

          So there is definitely a connection between hyperinflation and a physical unsustainable structure of production in an economy with a fake boom induced by credit expansion..

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