The Economist: "Why is the Austrian explanation for the crisis so little discussed?"

The Economist has a short and interesting piece arguing that Austrian economics should be getting more attention given the nature of today's financial crisis. Here's the opening:

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.

Comments

[Patriot Mike]

Denial as policy.

[Joe M]

Read that over the weekend. Pretty good article, but it ends up still being a bit too dismissive for my taste.

[Tacos mmm...]

Probably because they're both out of date.

[Mainer]

Because .... ?

[Old Mexican]

Re: Tacos mmm....

Probably because they're both out of date.

So is gravity - go ahead, jump off the window and find out.

[turd sandwich]

Tacos mmm...|11.22.10 @ 11:32AM|#

Probably because they're both out of date.

You're old.

[Corduroy]

Is that you Draco?

[Montani Semper Liberi]

The Austrians may have said smart things about the boom, but what about the bust? One criticism is that the Austrians offered a "counsel of despair", suggesting that the authorities do nothing while a crisis blows itself out. At least the monetarists propose cutting rates and expanding the money supply and the Keynesians promote deficit spending.

In other words, what's important is not the actual outcome, but that you do something even if that something is counter productive.

[BakedPenguin]

"Don't just stand there! Do something!!" are words that 99% of politicians live by.

See: the Transportation Security Administration

[joshua corning]

In other words, what's important is not the actual outcome, but that you do something even if that something is counter productive.

Yeah pretty much a politition needs to throw some mony at it to make it look like he is doing something. The difference between a good politician and a bad destructive one is the bad one actually thinks it works and throws way to much at it rather then a show amount....ie Obama

[fish]

In other words, what's important is not the actual outcome, but that you do something even if that something is counter productive.

Captain Krugman we appear to be sinking!

Have crewman DeLong drill more holes in the hull to let the water out! When he's finished send him to my cabin.

[Torontonian]

"Captain Krugman we appear to be sinking!"

"I'm aware of that Lieutenant, but why are you standing around when you should be loading more cargo into the hold!"

"But Sir... we already did load more tonnage, just as you ordered. And we're still sinking."

"Idiots. You obviously didn't load enough."

[Old Mexican]

+1

[Mainer]

"In other words, what's important is not the actual outcome, but that you do something even if that something is counter productive."

Isn't that the basis for most government actions ?

[Ted S.]

Or as the brilliant writers of "Yes, Minister" called it, politicians' logic:

Something must be done.
This is something.
Therefore, we must do this.

[Tulpa]

Gee, I wonder if it's because the Keynesian approach involves giving people money and jobs in the short term. (obviously payback is a bitch in the long term, but we live in the short term)

[robc]

I dont.

[Joe M]

...suggesting that the authorities do nothing while a crisis blows itself out. At least the monetarists... and the Keynesians... think adding fuel to the fire is a good idea...

[Old Mexican]

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.

There's nothing "odd" about this neglect or dismissal - Keynes' theories enable the interventionists, whereas LvM and FH criticized their machinations.

Keynes is like the Devil, the interventionists certainly not being like Jesus.

[kinnath]

JOHN MAYNARD KEYNES just like JOHN WAYNE GACY.

[fish]

Nahh.....Gacy was fat.

[RyanXXX]

JOHN MAYNARD KEYNES just like JOHN WILKES BOOTH!

Wait, that's a good thing...

[Warty]

I have the body of John Wilkes Booth

[joshua corning]

Why isn't there a modern day Hayak?

and why doesn't he/she have a blog?

and if there is a modern day Hayek that blogs why doesn't Reason link to it as frequently as Brad DeLong's or Krugmans Blog?

Anyway to answer the question implicit in this statement:

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.

The reason no one talks about Hayek is because no one talks about Hayek...they don't talk about him at The Economist, WSJ, the NYT and Reason.com hardly even mentions how his economics can be applied to today's problems.

Hell i got more from that Hayek vs Keynes rap video then i got from any writing i have read here.

On a side note my spell check knows how to spell Keynes but does not know how to spell Hayek or Mises.

Further note: I am not saying reason is intentionally passing this over. I am saying it missing a great opportunity to talk about it. Perhaps Reason's next hire should have less of a back ground in literature and more of a back ground in classical economics.

[Montani Semper Liberi]

I may be a little biased since I had him as a professor, but I'd say Pete Leeson is the current rising star of the Austrian school. He sometimes blogs at Coordination Problem. Mario Rizzo is another well respected Austrian economist who has a blog.

Since Reason won't let me put in more than two links, copy and paste:

http://thinkmarkets.wordpress.com/

[joshua corning]

Thanks a bunch!!!

[Brandybuck]

http://www.cafehayek.com

Where ideas emerge

[Respect Our Authoritah!]

In Washington the men who formulate the nation's economic policies have used Keynesian principles not only to avoid the violent cycles of prewar days but to produce a phenomenal economic growth and to achieve remarkably stable prices. In 1965 they skillfully applied Keynes's ideas ? together with a number of their own invention ? to lift the nation through the fifth, and best, consecutive year of the most sizable, prolonged and widely distributed prosperity in history.

. . . .

Basically, Washington's economic managers scaled these heights by their adherence to Keynes's central theme: the modern capitalist economy does not automatically work at top efficiency, but can be raised to that level by the intervention and influence of the government. Keynes was the first to demonstrate convincingly that government has not only the ability but the responsibility to use its powers to increase production, incomes and jobs. Moreover, he argued that government can do this without violating freedom or restraining competition. It can, he said, achieve calculated prosperity by manipulating three main tools: tax policy, credit policy and budget policy. Their use would have the effect of strengthening private spending, investment and production.

-- Time magazine from its Dec. 31, 1965 issue

[fish]

And people wonder why Time is barely relevant.

[joshua corning]

Was capital misallocated?

I think this is part of the problem when talking about the finantial crisis and the housing bubble in the US.

To often i have heard how too many homes were built.

What happened in the US was not too many homes being built...it was too much money being spent on them.

If you do not believe me then talk to Tim Cavanah about the home he bought in California in 2007.

The number of homes was not the misallocation of capital....the misallocation was the insane and unsustainable high prices poeple payed for those homes.

[robc]

Both were misallocation. It was due to the Fed cheap money policy. It led to too much building and too high of prices.

[joshua corning]

It led to too much building and too high of prices.

Some of the largest housing build outs were in a Texas, Georgia and Arizona...yet they have not seen as severe of a bubble and corresponding decline as California and other growth management states.

My guess is Tim payed north of 400k for his home. and now is looking at a value of 300k....in Arizona or Texas or Georgia people payed between 150 and 250K for their homes and seen a decline of about 50k at most. The evidence does not support your claims. The evidence supports regional supply issues created by land use management and corresponding increases in prices which became unsustainable. I am not saying the FED had nothing to do with it...it helped feed the unsustainablity....but it is only part of the story.

The bursting of the bubble was not a bursting of home quantity...it was a bursting of home prices.

[mr simple]

Sorry to be late to the party, but I believe you have it backwards. By your own evidence, there was still a housing bubble in places that did not have land use management issues, though it was not as bad. This would suggest that the land use management issues were a kind of accelerator that exacerbated the problem, not the root cause.
Cheap money and easy lending caused more people to be able to overpay for housing. This drove up housing prices and volume as builders tried to keep up with demand. Of course, because no one has perfect knowledge, prices went to high and too many builders built too many houses and the Fed raised rates and we got a perfect storm of bubble bursting.
But, either way you cut it, I think we can all agree this was caused by government intervention into the market.

[Corduroy]

I think some confusion comes when referring to Austrian economics because Austrians usually use the example of misallocation of business capital. But now we have a situation where consumers were investing in their homes with the expectation of a positive net return.

Think about it, a home has no capability to produce, it's not a factory, it's not a work force. So here we have the situation where the Austrians were talking about the businessman's inability to forecast demand and appetite for risk vs interest rate applied to the consumer.

It's Austrian economics all right, just applied to the everyman. It's the direct result of a government promoting the idea of the American homeownership dream with every tool available. Problem is, the people bit on it, hook, line, and sinker.

[joshua corning]

But now we have a situation where consumers were investing in their homes with the expectation of a positive net return.

Yes. This is why the housing bubble was price driven and not quantity driven.

Note: "positive net return" is not what you will get from a home. But it is better then inflation. Essentially with a home you get the use of a home, build equity (savings) and escape inflation. In essence a home can be a savings account where you can sleep at night. People went overboard thinking they could make money beyond that.

[alan]

From the article:

But Lawrence White, an economist at George Mason University in Washington, DC, argues that this is an unfair characterisation. "Hayek was not a liquidationist," he says, referring to the philosophy of Andrew Mellon, President Herbert Hoover's Depression-era treasury secretary, who wanted to "purge the rottenness out of the system". Hayek believed the central bank should aim to stabilise nominal incomes. On that basis Mr White thinks the Fed was right to pursue the first round of quantitative easing, since nominal GDP was falling, but wrong to pursue a second round with activity recovering.

The implication there as it always is in mainstream reporting is that Mellon got his way and the damage done by this policy was the last nail in the coffin for laissez-faire when that is not what occurred. From the invaluable America's Great Depression by Murray Rothbard

The American monetary picture remained about the same until the latter half of 1931. At the end of 1930, currency and bank deposits had been $53.6 billion; on June 30, 1931, they were slightly lower, at $52.9 billion. By the end of the year, they had fallen sharply to $48.3 billion. Over the entire year, the aggregate money supply fell from $73.2 billion to $68.2 billion. The sharp deflation occurred in the final quarter, as a result of the general blow to confidence caused by Britain going off gold. From the beginning of the year until the end of September, total member bank reserves fell by $107 million. The Federal Government had tried hard to inflate, raising controlled reserves by $195 million?largely in bills bought and bills discounted, but uncontrolled reserves declined by $302 million, largely due to a huge $356 million increase of money in circulation. Normally, money in circulation declines in the first part of the year, and then increases around Christmas time. The increase in the first part of this year reflected a growing loss of confidence by Americans in their banking system?caused by the bank failures abroad and the growing number of failures at home. Americans should have lost confidence ages before, for the banking institutions were hardly worthy of their trust. The inflationary attempts of the government from January to October were thus offset by the people's attempts to convert their bank deposits into legal tender. From the end of September to the end of the year, bank reserves fell at an unprecedented rate, from $2.36 billion to $1.96 billion, a drop of $400 million in three months. The Federal Reserve tried its best to continue its favorite nostrum of inflation?pumping $268 million of new controlled reserves into the banking system (the main item: an increase of $305 million in bills discounted). But the public, at home and abroad, was now calling the turn at last. From the beginning of the depression until September, 1931, the monetary gold stock of the country had increased from $4 billion to $4.7 billion, as European monetary troubles induced people to send their gold to the United States. But the British crisis made men doubt the credit of the dollar for the first time, and hence by the end of December, America's monetary gold stock had fallen to $4.2 billion. The gold drain that began in September, 1931, and was to continue until July, 1932, reduced U.S. monetary gold stock from $4.7 billion to $3.6 billion. This was a testament to the gold-exchange standard that Great Britain had induced Europe to adopt in the 1920s.[4] Money in circulation also continued to increase sharply, in response to public fears about the banking structure as well as to regular seasonal demands. Money in circulation therefore rose by $400 million in these three months. Hence, the will of the public caused bank reserves to decline by $400 million in the latter half of 1931, and the money supply, as a consequence, fell by over four billion dollars in the same period.

During 1930, the Federal Reserve had steadily lowered its rediscount rates: from 4? percent at the beginning of the year, to 2 percent at the end, and finally down to 1? percent in mid-1931. When the monetary crisis came at the end of the year, the Federal Reserve raised the rediscount rate to 3? percent. Acceptance buying rates were similarly raised after a steady decline. The Federal Reserve System (FRS) has been sharply criticized by economists for its "tight money" policy in the last quarter of 1931. Actually, its policy was still inflationary on balance, since it still increased controlled reserves. And any greater degree of inflation would have endangered the gold standard itself. Actually, the Federal Reserve should have deflated instead of inflated, to bolster confidence in gold, and also to speed up the adjustments needed to end the depression.

And what of that austere Hoover fiscal policy?

How did the fiscal burden of government press upon the public during 1931? The gross national product fell from $91.1 billion in 1930, to $76.3 billion in 1931. Gross private product fell from $85.8 billion to $70.9 billion; total government depredations, on the other hand, rose from $14.1 to $15.2 billion. Total government receipts fell from $13.5 billion to $12.4 billion (Federal receipts fell from $4.4 to $3.4 billion), but total government expenditures rose sharply, from $13.9 billion to $15.2 billion. This time, the entire rise in expenditures came in federal, rather than state and local, spending. Federal expenditures rose from $4.2 billion in 1930 to $5.5 billion in 1931?excluding government enterprises, it rose from $3.1 billion to $4.4 billion, an enormous 42 percent increase. In short, in the midst of a great depression when people needed desperately to be relieved of governmental burdens, the dead weight of government rose from 16.4 percent to 21.5 percent of the gross private product (from 18.2 percent to 24.3 percent of the net private product). From a modest surplus in 1930, the Federal government thus ran up a huge $2.2 billion deficit in 1931. And so President Hoover, often considered to be a staunch exponent of laissez-faire, had amassed by far the largest peacetime deficit yet known to American history. In one year, the fiscal burden of the Federal government had increased from 5.1 percent to 7.8 percent, or from 5.7 percent to 8.8 percent of the net private product.

Of the $1.3 billion increase in Federal expenditures in 1931, by far the largest sum, $1 billion, was an increase in transfer payments. New public construction also increased at the same pace as the previous year, by over $60 million; grants-in-aid to state and local governments rose by almost $200 million. Of the $1 billion rise in transfer payments, $900 million was an increase in "adjusted compensation benefits," largely loans to veterans.

You've been lied to long enough, people.

[American People]

We'll tell you when we've had enough!

[alan]

American People? Oh, I've given up on those people a long time ago. I suppose if I was of the heroic bent instead of villianous, I would fight the political fight to liberate them from the lies of their 6th and 9th grade history teachers (that's where I heard the myth of laissez-faire and FDR, the savior of capitalism). But, alas, unlike Nick G. I'm no hero. I just preach to the 'people'. A few monocled sapiens from my smoking club, an insane dolphin named Sleek, and a pattern matching program created by the NSA that has gone sentient.

[H man]

Off topic, but I like this quote from yesterday's New York Times.

"Building a device with the Kinect's capabilities would require "thousands of dollars, multiple Ph.D.'s and dozens of months," said Limor Fried, an engineer and founder of Adafruit Industries, a store in New York that sells supplies for experimental hardware projects. "You can just buy this at any game store for $150."

[alan]

OT

Another government employee feels threatened by social change not administered by his wise council and that of our betters:

Top judge says internet 'could kill jury system'

http://www.bbc.co.uk/news/uk-11796648

[Brandybuck]

Because all non-Austrian economists hate Mises. They hate him with a passion. Even the quasi-free-market monetarist and supply-sider guys.

I think the reason is that if you take Mises at face value, he is a radical minarchists. No role for the government in economics at all. Since the vast majority of economists make their living through the government, this scares the shit out of them.

[Nicholas D. Rosen]

The Austrians are better than Keynes, but the real tragedy is that people are neglecting Henry George and his modern disciples, like Professor Mason Gaffney and Dr. Fred Foldvary. Georgists believe that the boom and bust cycle is primarily due to bubbles in land prices, not misinvestment in factories, so the current Great Recession really fits the Georgist view. Note that Dr. Foldvary predicted the current recession years in advance, and explained why it would come.

[Jay]

Economy is evolving in complexity as it evolves in value and strength. All schools of thought will help in the formation of a more modern theory.