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Austrian Macro I
Intermediate Macroeconomics
ECON-305 Fall 2013
Professor Dalton
Boise State University
Post Keynesians
and
Austrians
Shared Criticisms
Austrians and Post-Keynesians share four
criticisms of orthodox macroeconomics:
(1) Equilibrium approach overlooks processes of
adjustment;
(2) Rational expectations framework minimizes
fundamental uncertainty regarding the future;
(3) Equilibrium theorizing minimizes attention to how
historical past influences historical future; and
(4) Treatment of economy as if barter with a
numeraire overlooks the effects of money on
economic relationships.
Austrian
Macroeconomics
What is the nature of Capital?


Austrian macro distinguished by its
view of capital and interest
Nature of capital


Nature of interest


Heterogeneous structure of goods or
homogeneous fund?
What is interest a payment for?
How do we conceive of the economic
process?

Circular Flow or Means-End Framework
Austrian Capital Theory


Capital is the set of heterogeneous,
specific intermediate goods that assist
in the production process – they are
produced but are not ultimate sources
of consumer satisfaction
Interest originates in the universal
preference for current goods over
future goods; it is a payment for
waiting and is central to all timeconsuming processes (production!)
Time and Money
Time is the medium of action in all
markets.
 Money is the medium of exchange
in all markets
 In “macroeconomics,” focus is upon
growth and deviations in
production.
 Production takes time – as capital
goods are turned into consumer
goods.

Time and Money
Macroeconomics has to concern
itself with capital structure.
 Money is a “loose joint” that binds
the supply of capital goods and
the subsequent demand for the
corresponding consumer goods.

 Monetarist
tight joint
 Keynesian broken joint
Time and Money
“…capital gives
money time to
cause trouble.”
- Garrison, Time and Money, p. 8
Austrian Business Cycle Theory
1.
2.
3.
4.
5.
6.
Historical Time
Heterogenoeus Capital
Capital Structure
Non-neutral money
Coordination failure
Integration of growth theory and
theory of fluctuations
Cantillon Effects




Where money enters into the economy
matters
Monetary injections and leakages alter the
distribution of wealth and thereby alter
relative prices and the allocation of
resources
Money can never be neutral in its effects
on production and consumption
Money is always non-neutral
Cantillon Effects



Monetary injections in a modern
financial system are through the
banking system
Money is “lent into existence” not
“spent into existence”
Monetary growth alters the interest
rate and affects the intertemporal
allocation of resources
Capital and Saving



Financial capital is the available fund that
arises from decisions of individuals
businesses to neither consume nor hoard
(=Saving)
Saving is the source of the payment of
factors of production in time-consuming
production processes
The demand for and supply of loanable
funds determines the equilibrium interest
rate
Capital Goods


Key factors of production are the
heterogeneous capital goods that
go into making a product
Every consumer product has an
“ancestral lineage” of previously
applied factors of production,
including heterogeneous labor
and capital goods
Capital Goods


At every stage of the lineage from original
factors of production to finished consumer
product, entrepreneurs are making a
decision between current expenditures and
expected future discounted revenues
When the production process is in
intertemporal equilibrium, the discount
rate will be the equilibrium or natural
interest rate
Capital Goods


In order to maintain the “ancestral lineage”
necessary to continue the current
production of a given consumer good,
prices paid and received at each stage of
production must continue to reflect normal
profitability (the discount rate)
Changes in the interest rate change the
discount rate and therefore change the
relative profitability of different stages of
the production process
The ABCT Story



Changes in credit can come from
either changes in real saving or
changes in the money supply
Changes in credit change the interest
rate
Changes in the interest rate change
the profitability of different stages in
production processes, altering the
intertemporal allocation of resources
The ABCT Story

Changes in the intertemporal
allocation of resources that arise
from changes in real saving are
sustainable and lead to greater
economic growth
 No
divergence of the actual from the
natural rate of interest
The ABCT Story

Changes in the intertemproal
allocation of resources that arise
from changes in the money supply
are unsustainable and lead to a
“boom and bust” cycle
 The
actual interest rate diverges
from the natural rate of interest

The bust can be particularly painful if a
secondary deflation is allowed to occur and price
and wages are rigid downwards
Common Confusions



An unsustainable boom is initiated by an actual
interest rate below the natural interest rate.
During an investment boom initiated by changes
in technology, one would expect the demand for
loanable funds to rise relative to the supply of
savings. This should cause the interest rate to
rise.
If the central bank steps in to moderate interest
rates, the interest rate might stay the same or rise
but still be below the natural rate, making the
resulting boom unsustainable.
Policy Implications


Recessions are the cure for the
misallocation of resources occasioned
by unsustainable booms
Control of MV (not just M) matters
Gold-standard
 Free banking and competitive monies



Denationalization of money and credit
Removal of price and wage rigidities
can accelerate adjustment processes
Criticisms of ABCT





No real world analog to natural rate of
interest
Capital aggregation problems
Dependent upon expectational lags
(not consistent with rational
expectations)
Overemphasis on interest rate
miscoordination
Unpopular policy prescriptions
Strengths of ABCT

Austrians claim that theirs is the only
theory that predicted the Great
Depression (Lakatosian novel fact)



(not true of the “Great Recession”)
Rational individual behavioral
adjustments to changed relative prices
Importance of knowledge and
expectations in a complex world
Distinguishing Beliefs
1.
2.
Expectations are forward-looking but
each individual agent possesses
unique, diverse and partial
knowledge-information sets;
coordination failures are possible
Economy has a tendency towards
intertemporal equilibrium output and
employment through entrepreneurial
adjustments to relative prices
Distinguishing Beliefs
3.
4.
Cantillon effects assures nonneutrality of money in short and long
run
Discretionary fiscal and monetary
policy increase uncertainty and
increase likelihood of coordination
problems; rules are preferable to
discretion and automatic institutions
are preferable to rules.