In a business blog post, London’s Economist did a piece praising the Austrian business cycle of F.A. Hayek, Ludwig von Mises, Murray N. Rothbard, and others:
Why is the Austrian explanation for the crisis so little discussed?
(The Economist: Buttonwood) Nov 18th 2010
JOHN MAYNARD KEYNES is back. The British economist has modern intellectual champions in Paul Krugman and Robert Skidelsky. For all today’s talk of austerity, a policy of Keynesian fiscal stimulus was adopted by most governments in the immediate aftermath of the credit crisis.
In contrast policymakers seem to show a lot less interest in the economic ideas of the “Austrian school” led by Ludwig von Mises and Friedrich Hayek, who once battled Keynes for intellectual supremacy. Yet the more you think about recent events, the odder that neglect seems.
A one-paragraph explanation of the Austrian theory of business cycles would run as follows. Interest rates are held at too low a level, creating a credit boom. Low financing costs persuade entrepreneurs to fund too many projects. Capital is misallocated into wasteful areas. When the bust comes the economy is stuck with the burden of excess capacity, which then takes years to clear up.
Take that analysis piece by piece. Were interest rates held too low? The case seems self-evident for Ireland and Spain, where the European Central Bank was setting a one-size-fits-all monetary policy. Many people would also argue that the Federal Reserve kept rates too low. Some lay the housing boom of 2003-06 at the Fed’s door, others criticise the central bank’s tendency to slash rates whenever the financial markets wobbled.
Was capital misallocated? Again most people would accept that too many houses and apartments were built in Ireland and Spain, as well as individual American states like Florida and Nevada. In some places these dwellings may sit idle for a while, keeping downward pressure on property prices.
Economists who would not describe themselves as Austrian have reached conclusions that chime with Hayek. Carmen Reinhart and Kenneth Rogoff, in their book “This Time is Different”, argued that past financial crises have been followed by long periods of sluggish growth. Hyman Minsky, an American economist who died in 1996, said that the financial cycle led to economic volatility. Long booms tended to result in excessive risk-taking and “Ponzi finance”, where investors buy assets with borrowed money in the hope of quick capital gains. Minsky’s reputation has soared since the start of the credit crunch.
Nassim Nicholas Taleb is a very popular financial author thanks to his books “Fooled by Randomness” and “The Black Swan”. One of his principal ideas is the difficulty of forecasting given the role of chance and extreme events. That echoes the views of Hayek, who wrote that “the curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.”
After months of the continued cry that the Financial Crisis of 2008 was caused by the “free-market” and by an absence of “adequate regulation”, it is a true sigh of relief that the most prestigious economic magazine in the world is recognizing the virtues of the Austrian school, along with its own explanation of the crisis.
Those followers of Keynes that have dominated monetary and fiscal conversation and policy, Krugman, Stiglitz, Blinder, Goolsbee, Romer, have been able to dominate the official narrative, pushing forward more stimulus spending with multiple rounds of monetary pumps by the Federal Reserve. Those arguing against these policies, monetarists and Austrians alike, point to these measures as elicit to the problem in the first place, meaning that continuing intervention will only makes things worse.
The Austrian dogma, mainly that business cycles occur because of a loosening of credit by central banks and governments and subsequently yield widespread malinvestment by capital holders, has begun to catch on in other forums as well. Media entities such as CNBC, American Public Media’s Marketplace and NPR’s Planet Money have concentrated on the past efforts by public policy makers, mainly the goal of government legislation to raise home ownership to record levels, leading to massive foreclosures and mortgage defaults across the country. They turn the spotlight upon former Fed Chair Alan Greenspan and Democratic and Republican governments dating back to Richard Nixon and Jimmy Carter, as well as current actors on the political scene.
Much more attention is being paid to the Federal Reserve, especially after its announced plan to introduce another $600 billion of “quantitative easing“. This move, garnered by Bernanke and upheld by Keynesian economists, provoked responses from several skeptics in a recent open letter to the Fed. Writing in the Wall Street Journal, these conservative economists made the case that the plan being currently pursued by the Fed will risk “currency debasement and inflation”, antithetical to the central bank’s own mandate of reducing unemployment and controlling inflation . These are points that have already been aroused by the Austrian community, now centered at the Mises Institute in Alabama, and shall continue to as long as irresponsible economic and financial decisions are undertaken by the leaders in the public sector.
Praise be with the changing global economic consensus.
More analysis will be provided on Liberty In Exile, this Friday at 10am on CJLO 1690AM in Montréal, Québec, Canada.