1. The theory starts with either an endogenous expansion in credit through the banking system or an exogenous expansion through the central bank. There is no discussion of the relationship between base money and credit (the sort of relationship required for some of Bob's predictions) - it's all about credit.
2. Although there is a literature on secondary effects, there's nothing in the cycle theory itself that says much about what happens after the recession starts. [I personally wonder if this is a little unfair - that wasn't just left to others to muse on - Hayek himself talked a lot about secondary deflations, etc.]
3. He gets into the prescriptive question of what Hayek thought the central bank should do, presenting both Larry White's view that Hayek supported a stable MV (Rizzo presents this as "the avoidance of deflation" which is a little confusing to me because this would actually require deflation as standard policy), and he also presents what DeLong has long pointed out - that during the Depression Hayek departed from this view (later to recant).
4. Austrian theory is about distortion in relative prices, which can be concealed by headline inflation, and which may even absorb credit increases so that there is no headline inflation.
5. He even muses on an Austrian exit strategy of sorts, which I'll just quote:
"The policy-relevant point is that if the central bank decides not to allow interest rates to rise until aggregate investment has recovered to boom levels, it will have waited too long. The character of the investment will be distorted. Malinvestments will set in – even without inflation."6. He concludes with an important discussion of the difference between how economists use "prediction" and the forecasting they do, which I strongly recommend reading. It hits a lot of the same notes that I do when I talk about the Romer-Bernstein projections. We've gotta make forecasts because it's better than flying blind, but this is a fairly specialized task. Sometimes this sort of thing involves actual "modeling" with some theory behind it, but often it's just a statistical model (and when there is modeling of the sort we're used to it's usually DSGE modeling of some sort so there's always a lag structure that makes it pretty much a big statistical model anyway). This is very different from the predictions of Keynesian theory about the behavior of interest rates and inflation or the predictions of Austrian theory.
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As the boom results in malinvestment that impoverishes us, preventing the necessary consumer expansion, it is reasonable to expect supply side issues leading to inflation, but only through bank accommodation. Without accommodation, deflation and liquidation should reach bottom (why is uncertain as are secondary deflations) to be followed by low productivity deflation. This assumes free banking can ever get the interest rate right.
ReplyDeleteThe why/when of deflation hitting bottom would be the liquidation of credit, through default, renegotiation, and equity, with the value of assets meeting the income flow from them and the bottom limit of credit and debt no longer existing and everything is owned.
ReplyDeleteYour ability to share Information is a talent and very appreciated.Thanks for another Timely Post.
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You characterize the Quantity Theory as being "much bigger than just the Austrians". However, von Mises did not argue for it, but was critical of it. Some von Mises quotes here. Even to say his support for the Quantity Theory is luke warm would be overdoing his regard for it.
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