[ExI] Was it just greed?

[dan_ust at yahoo.com]

--- On Thu, 6/4/09, BillK <pharos at gmail.com> wrote:
> On Thu, Jun 4, 2009 at 2:26 PM, Dan_ust wrote:
>>
>> There are always new factors.  In this case, some
>> relatively new financial instruments
>> (IIRC, these swaps came into being in the late 1990s)
>> did play a role.  This doesn't negate
>> the Austrian Business Cycle Theory (ABCT)
>> explanation;
> 
> Only if you are a true believer in the Austrian Business
> Cycle.

Not at all.  I provided an explanation of why ABCT doesn't clash with an explanation that incorporates new financial instruments.  In fact, a week ago, in a footnote, I stated:

"Does this mean there are no other system-wide causes at work?  No, though business cycles can be traced to a primary inflationary cause while other system-wide cause tend to shape the specifics of the given cycle.  In other words, there are path dependencies -- or initial conditions (inflation) and boundary conditions (e.g., specific regulations that might shift malinvestments along one path as opposed to another)."

You didn't respond to this, IIRC.  And you also clipped the rest of the post you're now responding to:

"... it merely explains the path some of the inflation took.  Also, sans inflation, these swaps wouldn't have had much of an impact -- not on the whole economy; there would've been no new money to flow into them in the first place and they would've had to compete with other instruments for funds.  (Also, without the moral hazard created by the "Greenspan put," one would expect that new financial instruments would be viewed with skepticism; a climate of "the Fed is here to CYA" -- which still exists -- tends to increasing risk-taking, no?)"

Why did you clip that?  Some might opine to make it look like mine was a faith-based view of ABCT.

> Most of your comments appear to concentrate on defending
> the ABC.

Others are offering other explanations of the recent crisis, including "animal spirits."  I'm defending what I believe to be the best explanation, among the ones I'm aware of and based, of course, on my understanding of economics and economic history.  Well, to be sure, some are offering other explanations.  One person just seems to, as I've stated, before be "[c]iting newspaper headlines and pundits for an explanation."  :)

That said, though, there are certain kinds of explanations, regardless of whether ABCT is true or useful, that don't work.  A pure greed explanation doesn't explain anything -- unless there's some way to explain why greed was more prevalent in the run up to this crisis.
 
> Wikepedia points out some of the criticisms of the ABC
> <http://en.wikipedia.org/wiki/Austrian_Business_Cycle_Theory>
> Quote:
> More recently, mainstream economists like Milton Friedman,
> Gordon
> Tullock, Bryan Caplan and Paul Krugman have stated that
> they regard the theory as incorrect.

Yes, and I'm aware of them.  Not to drop names, but I even know Bryan Caplan personally and he has more criticisms of Austrian economics than just of business cycle theory.  (One debate a few years ago was over the Mises socialist calculation argument.  Caplan takes the view that lack of the right incentives and not lack of calculation is the reason socialist economies fail.)

But what does all this mean to you?  You've read a Wikipedia article.  Austrian economics has its critics.  So do all other schools of economics.  Does having critics and doubters refute any particular one?  Would not having such make a school valid and true?

> David Laidler views the theory as
> motivated
> by the political leanings of its major proponents, as
> Austrian
> economists are known for their strong opposition to
> government
> involvement in the economy,

And what does this mean?  That's his opinion.

> and argues that the theory was discredited
> because of its association with "nihilistic policy
> prescriptions" for the Great Depression.

Yes, I've heard.  To pro-government types, "nihilism" is used to mean lack of government control.  So, in a sense, since the government doesn't yet tell you how to wipe, we have toilet paper nihilism.  :)  In other words, if you don't support state intervention or control, then you must not believe in anything.

To be sure, Laidler means, with regard to the Great Depression, that Austrian economists recommended (at that time, Mises, Hayek, and a few others -- almost all of whom were from Austrian) and recommend (pretty much most though not all of their heirs -- almost all of whom are now in the Anglo-American countries) hands off.  So?  The way to evaluate the Austrian policy recommendations for recessions and depressions is not to see what Laidler says or knee-jerk to his use of nihilist.  It's instead to evaluate their theory and prescriptions.

> and
> In 1988 Gordon Tullock explained his disagreement with the
> theory. His
> main point is that "if the process that Rothbard describes
> did occur,
> there would be many corporate bankruptcies and business
> people jumping
> out of the windows of office buildings, but there would be
> only minor
> transitional unemployment. In fact, measured GNP would be
> higher as a
> result." This is because the Austrian theory implies
> fluctuations in
> investment, but not in the production decisions of firms.

On the latter comment, this shows a lack of understanding of capital theory: fluctations in investments play right into production decisions at firms.  Firms don't make such decisions independent of how much investment there is or is expected to be.

On the former -- Tullock's quoted remarks -- if you read his original paper* on this and understand a little about ABCT and Austrian economics, you come to see Tullock does not.  I could go over this point by point here, but that'd take some time and maybe bore the rest of the list members.  Let me just point to one passage.  Responding to Rothbard's pamphlet, he writes:

"... it should be noted that if the business people are now building more factories than they were before, which is what Rothbard says, then, in fact, savings that are available for building factories must have increased.  In fact, they have.  What has happened is that the government by inflationary measures is transferring a certain amount of money from the general citizenry into the investment accounts and, hence, the money for building these additional factories is made available."

This shows a misunderstanding of what inflation is and how it impacts the loan market.  The point is, in ABCT, that the actual resources -- here, savings -- don't exist.  The newly created money only makes it appear like the savings are there.  That a factories are built based on expected prices and without anticipating inflation results from actually drawing resources from elsewhere.  This is unlike other wealth transfers -- say, where the government taxes the "general citizenry" to pay to build those factories.  In that case, even though this too distorts the market -- i.e., had the government not intervened, the factories wouldn't have been built -- this is no distortion in prices or fooling entrepreneurs (and eventually everyone else) via inflation.

> Nobel
> laurete Paul Krugman also made a similar argument when he
> stated that
> the theory implies that consumption would increase during
> downturns
> and cannot explain the empirical observation that spending
> in all
> sectors of the economy falls during a recession

I'm not sure that follows from ABCT at all.  Of course, during a bust, price adjustments have to happen and capital has to be reallocated -- and this is not costless.  What a bust usually reveals is that, during the boom, capital was actually consumed -- as in the case of bad investments made are made clear.  On the latter -- the _malinvestments_ -- the problem is investments are made -- which have a real effect as capital goods are deployed and locked into certain projects -- that would only be profitable if factor prices (and interest rates**) didn't rise or if the prices of the final outputs were higher.

> I doubt if there is much to be gained from you saying"
> 'Tis" and
> others saying " Tsn't".
> We can all decide which economic theory suits our
> prejudices best. ;)

But, again, I'm not saying "'Tis" while you and others say "'Tisn't."  I've actually provided reasoning behind my views.  Stathis also has presented his reasoning.  I've not accused him from operating as True Believers in an "animal spirits" explanation, have I?

Regards,

Dan

*  In PDF here:

http://mises.org/journals/rae/pdf/RAE2_1_4.pdf

**  Continuing low interest rates or lowering them further is not palliative here, if ABCT is correct.  Ultimately, it'd lead to hyperinflation -- a cure much worse than recession.  But even if it didn't, price rises would still start to outpace any lowering of interest rates.  (Please note Japan for the last 15 years.)