The Second Austrian Moment

by Mario Rizzo  

This is an important time for Austrians. During the Great Depression and for many years thereafter, J.M. Keynes and his followers dominated macroeconomic theory (some say they created it) as well as the conventional wisdom about the historical lessons of the Depression and the New Deal.  

We are now witnessing many important developments that will affect economics and public perceptions for a long time to come. It is perhaps too late in their careers for most established economists to be much affected. They will go the epicycle route: rationalize, complicate, and immunize against criticism. Fine, this is in part what the “old guard” is supposed to do. And those with different ideas must struggle against them. 

But look around. We are witnessing the clear unraveling of the New Deal legacy. The relative modest beginnings of the New Deal turn out to have been relatively unimportant. What was important were the tendencies that were set in motion. All those unreconstructed Republican opponents of FDR who talked of “socialism,” “the foot in the door,” “fascism,” and so forth had a substantial point. A new world was being set in motion. The pragmatic case-by-case problem solvers were ignoring a whole set of consequences – the dynamics of interventionism. Expanding entitlements became the way that countless politicians, both Democrat and Republican, were elected and re-elected. 

Now we see the unsustainability of the current entitlements built on the New Deal “principle.” And then we see a government creating a large new one in the midst of the crisis. We are told that Obamacare will save money. Like all of the other entitlements?  

We also see the folly of many of the New Deal institutions like Fannie Mae and later Freddie Mac. We see their role in the housing bubble.  

Now we see the folly of a monetary and fiscal policies based on temporary expedients. Economic agents cannot rationally plan when the role of the state is so uncertain and so liable to come up with arbitrary policy interventions, as in the recent bailouts. In many ways, the government told us that the ordinary laws of economics and classical wisdom about sound policy have been temporarily – but indefinitely – suspended.  

Of course, the consequences both for policy and the future of economics depend on the interpretation of the financial crisis and the Great Recession. What caused them? What policies are conducive – or at least do not inhibit – recovery. (My late colleague Ludwig Lachmann used to say, “People no doubt learn from experience, but what do they learn?”)  

Austrians failed to carry the debate within the economics profession and among the public intellectuals and economic historians after the Great Depression. Will they once again?  

I venture the prediction that they will fare much better this time – especially if we close ranks with those of a similar mindset. There are many more Austrian economists now. In the thirties and forties the profession had become depleted of Austrians. The Keynesian Religion had triumphed (by the way, it was to a certain extent a religion – witness the statements of Paul Samuelson, Joan Robinson, Austin Robinson and others). It is true that today Austrians do not occupy the highest positions in the profession. But we are still here reminding everyone, constantly, of our ideas. 

Yet there is a critical deficiency. We continue to lack empirical work, on a large enough scale, to convince other economists that we have something relevant to say. The macro-economic framework has created a demand and supply for certain kinds of aggregated data at the expense of data that might be more useful to Austrians. (But I am reminded that George Stigler used to say, “It is no excuse to say the data are not available – you just must be clever.”)  

This is where, perhaps, those non-Austrians with a similar mindset may be very important. We need good empirical researchers. I am, quite frankly, not interested in reviewing all of the qualms about certain kinds of econometric work. No single econometric result is definitive but little by little a case for taking a theory seriously can be built.  

As I have said many times, I am not a macro or monetary economist. I entered into to all of this discussion as a political economist. I saw (and still see) the fate of free institutions and decent economic policy in the balance.  

With a little bit of luck, lots of hard work, and a smart sense of making intellectual alliances, we can do better than Ludwig von Mises and Friedrich Hayek did during the Great Depression and its aftermath. We have their legacy as well as the new legions to make the case.

119 thoughts on “The Second Austrian Moment

  1. You make a really vital point, Mario. I think you are quite right. It is important for more or less “Austrian” scholars to do empirical and “technical” work that carries the message home to mainstream macroeconomists and, as you say, demonstrates the empirical viability of an Austrian-style macroeconomics. Right on.

  2. A few suggestions. Don’t try to sell Austrian economics as strong apriorism, sell it as good economics that provides insight and explanations. If anyone is interested, explain that a lot of economics has gone wrong by using methods based on the positivist/empiricist approach which does not work in physics. It needs to be corrected by fallible apriorism a la Barry Smith and Karl Popper.

    There is no reason in principle why Austrians can’t do good empirical work and that is demonstrated by the people who are doing it. It is a problem of numbers and resources. The numbers are growing and the resources need to be obtained from sources other than government funding, unless you think you can reform the NSF quicker than the welfare system.

    Terence Kealey has demonstrated that public funding is the road to ruin in research as in most other things. He has also demonstrated that the private sector can step into the gap, even for so-called pure or fundamental research if is not taxed and regulated to death. So find a magnate to fund your research and if you can’t, think about getting a proper job and doing your research as a hobby.

    Apart from the resource issue, possibly the biggest barrier to promoting good economics in the profession is the kind of philosophy that is spread by the professionals. I don’t know what to do about this in the short term but it looks as though the oldtime empiricism /analytical approach still rules, challenged by various schools of Continental which are probably more fun but no more helpful. Of course most economists take no notice of the debates on philosophy and methods and with good reason because under the influence of the likes of Lakotos and Kuhn they added little value but still the economists uncritically persist with the ideas that have leaked out of the philosophy schools. In case people look in that direction, it is virtually impossible to get a straight feed on Popperism from anyone except the miniscule and increasingly geriatric band of card-carrying Popperians.

    The intellectual climate matters and it is predominantly anti-Austrian and anti-Popper. The climate needs to change to tap the synergy of Austrianism and Poppperism.

    The practical climate is improving and there are huge opportunities. Truly an exciting time…

  3. I think that econometrics is actually compatible with Austrian theory, as long as the interpretation of the results is “modest,” and as long as one analyzes microeconomic observations (e.g. individual transactions) rather than aggregated time series data (e.g. GDP).

  4. People at GMU have used econometric models already, with the appropriate “modesty” as far as I can tell (not being an expert). Regression modeling is just a method and usual criteria for effective use of methods apply, you need to know what the method can and can’t do, and you need to have a theory or a problem or an issue that is interesting or important enough to work on. In the case of Keynesian macroeconomics the problem would appear to lie with the underlying theory, in the case of models of aid to the Third World there are problems with the data and the high correlation between many variables. Etc.

    For a more or less straight feed on Popperian critical rationalism and some hints about the synergy with Austrian economics, try this blog and the associated resource base assembled by the tireless Matt Dioguardi.

  5. Austrianist economists can make the valid case that it has Austrian economics has been making use of complexity and process theories well before they became mathematized. Indeed, the science has finally caught up with the Austrians. Empirical and technical work can be done, and mathematical models that fit reality can be used by Austrians now precisely because we now have a math and science of complex adaptive systems theory, far-from-equilibrium states, processes, agent-based modeling, information, emergence, etc. The more Austrians embrace these methods, which are completely compatible with Austrian methodology as far as I can tell, then Austrian economists can legitimately argue that they are using 21st century mathematical and scientific approaches — approaches anticipated by Mises, Hayek, et al — while most of the rest of the discipline is far behind the times.

  6. That was very inspiring Pr.Rizzo. I could almost hear some epic Braveheart type of tune reading it.

    I completely share the point of view on modest empirical work. For those not convinced, see econometrics as what it is: a rhetorical tool.

  7. “A new scientific truth does not triumph by convincing its opponents and making them see the light, but rather because its opponents eventually die, and a new generation grows up that is familiar with it” Max Planck

    I am not sure that using positivist methodology against the mainstream will work. For every claim, there will be a Krugman with another counterclaim.

    I have found persuasion most useful by asking high level general questions to those not already emotionally involved in economics. e.g. Why did none of the mainstream schools predict the crash and the one that did not get any airtime? Why do we need to keep expanding money supply, what’s wrong with a fixed amount? If price fixing is wrong in the market for grain, why is it ok for money? etc…

  8. “Austrians now precisely because we now have a math and science of complex adaptive systems theory, far-from-equilibrium states, processes, agent-based modeling, information, emergence, etc. The more Austrians embrace these methods, which are completely compatible with Austrian methodology as far as I can tell, then Austrian economists can legitimately argue that they are using 21st century mathematical and scientific approaches — approaches anticipated by Mises, Hayek, et al — while most of the rest of the discipline is far behind the times.”

    This is gobbledygook. “Processes”? Sounds like _Human Action_ to me. “Agent-based modeling”? Since when is economics not about agents? Were Mises (_Human Action_) and Rothbard (_Man, Economy, and State_) referring to robots? I get it–_Robot, Economy, and State_. Now all we need is some econometrics!

    Speaking of which, Anne T. Positivist put the quietus to it already:

    Prove the fallacy of econometrics:
    1. Econometrics is mathematical history.
    2. Mathematics is a priori knowledge.
    .:. 3. Econometrics is a priori history.
    4. A priori history is a fallacy.
    .:. 5. Econometrics is a fallacy.

  9. I can’t take this “Keynesian religion”, or “rationalization, immunize, and complicate” talk very seriously, but I do think your point at the end is important – the profession as a whole would benefit considerably if more empirical Austrian work is done.

    The biggest hurdle to the broader acceptance of the Austrian school is with the macro – the business cycle dynamics. That’s where the empirical work needs to be done and shared I think.

    I have some very specific suggestions on how such an empirical approach could be framed on my blog here:

    I do make some stylistic critiques – but if you read further down it presents a detailed emprical agenda for Austrians. I’d be curious what you think of it. I mentioned this once on here before when you specifically asked for thoughts on predictions of the Hayek-Garrison ABCT model, but didn’t get any bites.

    I also think Rafe has a point about the a priorism. It can be an obstacle to communicating with the broader discipline. Don’t drop your methodological and epistemological proclivities by any means, but it would be a shame if the dialogue with the mainstream focused on that, IMO.

  10. On Keynesian religion — which is not my main point — take a look at Mises, “Stones into Bread: The Keynesian Miracle.” Just look at the quotations from famous Keynesians. I only raise the issue because many people accuse Austrians of being “religious.”

  11. No certainly not – I didn’t take it to be a main point and that’s also why I didn’t spend more than half a sentence on it 🙂

    I’d be curious what you think of the empirical framework I lay out – I hope it was clear enough. I think it could be illuminating, and it’s certainly not a way that other economists have used the data before.

  12. We are going to have a complexity-based macro that emphasizes bubbles, animal spirits, and network theory. It is more or less there with Kirman’s work as in this paper:

    Click to access CrisisInEconTheory.AKirman2009.pdf

    Indeed, lots of work has been done in agent-based macro as you can see here:

    In this context it seems pretty clear that if Austrians are going to be understandable to the emerging new macro mainstream, we need to explain what we are saying in terms of complexity theory and agent-based models. Often enough, that will mean using the mathematical tools of complexity theory and agent-based modeling.

    If, moreover, we are going to use econometric studies to demonstrate the empirical viability of Austrian approach to macro, then it seems likely that such studies will have to be based somehow on complexity-based macro models. (I say “somehow” because I want to be vague. Who knows what sorts of studies will be done in even the near future?) All in all, then, it just seems reasonable to think that if you are going to bridge Austrian macro issues and mainstream macro, you will probably also be engaging complexity theory in serious and mathematically sophisticated way.

  13. “The pragmatic case-by-case problem solvers…”

    So Mario, you’re claiming there was no ideology behind the New Deal?

  14. Easier said than done.

    You need a math talent at a top 5 school who knows Austrian theory, but who is interest in the math for its own sake.

    If there were a lot of these people in the world, we woukd have had one 15 years ago.

    I remember advising young Austrians to focus on advanced math and complexity 15 years ago.

    But the window for pusuing such a path was alreadynclosed for most all of them, I would guess.

    And you really need to be at a top school and you really do need to have the math chops, and a love of it.

  15. “The Keynesian Religion had triumphed (by the way, it was to a certain extent a religion – witness the statements of Paul Samuelson, Joan Robinson, Austin Robinson and others).”

    Just so. So why do you earlier mischaracterize this as non-ideological pragmatism?

  16. If we are lucky one of these physics majors doing math in a top 5 econ department will develop an interest in economics, and will read some Hayek and Garrison and Rajan and White, and will try to do something outside the comfort zone of those who control the macro profession.

    All you need is a new framework which allows these guys a thousand new publication opportunities, and they will be off and running on the new paradigm.

  17. To some extent Keynesian economics provided a theoretical framework that allowed economists to tell politicians what they wanted to hear. By providing intellectual cover to politicians, economists raised their status from mere chalky pedagogues to important advisors. The spectacle of academic economists who go to Washington and promptly become spin doctors is a sad one. Those with non-Keynesian perspectives will always have a severe uphill struggle against those who have given into the many incentives to become in effect courtiers. Rational argument can make little headway against self interest, I fear.

  18. Gene,

    I don’t know what your overall point is. Programs were SOLD to Americans as case-by-case problem solving. Many people accepted this. (While there were many ideologues in the New Deal I do not believe that FDR was one of them. And the voters justed wanted the Depression to end and to have a “caring” government in the meanwhile.)

    Furthermore, today “conservatives” like David Brooks (see my “Lament for Conservatism” below)are urging just this kind of approach.

    But the key point I am making is that looking at these social problems case-by-case sets up tendencies that move us in the direction of more and more. So we have an “as if” ideology even if people do not acknowledge it.

    We are in significant times with significant social developments. You are welcome to make nickel-and-dime points but I am not a philosopher.

  19. Great post.

    This morning I read one more Austrian-flavored macro paper: Adrian & Shin, “financial intermediaries, financial stability, monetary policy”.

    They claim that low target interest rates foster maturity mismatch by part of nonbank financial institutions (broker dealers). Econometric evidence seems robust, but theory is missing (but it’s in another paper).

    I’m somewhat unhappy with policy conclusions, but it is a step toward the idea that monetary policy doesn’t only affect short rates, and thus it can affect investment in durables, as Austrians say.

  20. Pietro,

    I haven’t read the Adrian & Shin piece, but
    the problem is likely rates that were lower than would have prevailed under free banking (where interest rates clear the time/capital markets), not “low” rates per se, whatever that might mean.
    And kudos to Thucydides for speaking truth to power. Very Rothbardian/Spoonerian. We need more of that.

  21. Pietro M writes: “it is a step toward the idea that monetary policy doesn’t only affect short rates, and thus it can affect investment in durables, as Austrians say.”

    This has long been a part of Keynesian economics. Short-term interest rates affect long-term rates via the expectations theory of the term structure. If you read the paper, you will see the authors are saying that short-term rates have a direct effect, they don’t just work through expectations.

  22. Bill,

    Just because you don’t understand what someone writes, that doesn’t make it gobbledygook. You perhaps didn’t notice that I said that all of those things I listed SUPPORTED Austrian economics, meaning Austrian economics was literally decades ahead of the math and science necessary to do economics.

  23. I could not agree more.

    Though ‘Austrian’ is becoming something of a self-assumed marketing tag in the investment world, it is my experience – after more than a decade of beating the drum in everything I write in the course of my work in that somewhat challenged milieu – that receptiveness to the ideas and curiosity about what the school really argues is rising at last.

    On the other hand, there is always some power-worshipper ready to provide a slick new argument for yet more Big Government intervention 🙂

  24. Bill Stepp: of course there is no absolute for low and high.

    Paul E: If I read a paper I have already read, it’s likely I would find what I said I have read: more microfoundations to assess a standard cricitism of ABCT, i.e., that short rates have short effects (I think an example of this critique is in Cowen’s book on ABCT).

    Besides, it’s of interest to Austrians:

    1) the shift from pure banks to finance at large to understand the process of credit expansion.

    2) the idea of moral hazard (central banks cutting interest rates) which can beget an expansionary credit process which leads to systemic fragility (a bust).

    They don’t benefit from their own insight, probably because they are Keynesians, but they claim that reducing uncertainty (i.e. creating moral hazard, in my interpretation) on short rates will beget credit booms quite explicitly.

  25. Bill Stepp wrote;

    “Prove the fallacy of econometrics:
    1. Econometrics is mathematical history.
    2. Mathematics is a priori knowledge.
    .:. 3. Econometrics is a priori history.
    4. A priori history is a fallacy.
    .:. 5. Econometrics is a fallacy.

    I wouldn’t say that in public if I were you… In any case, please don’t identify yourself as an Austrian when you do.

  26. Troy,

    Austrian economics decades ahead of the math and science necessary to do economics?
    Math and science predated Austrian economics by a few centuries.


    A.T. Positivist disagrees with you. She also mentioned that econometrics has nothing to do with Austrian economics, and can’t be found in Menger, Mises, Hayek and other Austrians.

  27. Econometrics, properly employed (yes, much of it is sloppy crap), is more than a rhetorical alternative to prose: it is often an essential if imperfect means for saying something about magnitudes. Until Austrians generally acknowledge this–until they fully recognize the difference between establishing the logical validity of a theory and establishing its capacity to explain a change of some given magnitude, they won’t get many people to listen to them. Getting over the serious aversion to statistics that has long been part of the Austrian tradition is more important than embracing any fancy new theoretical or mathematical fads.

  28. Bill,

    It is difficult to have a real discussion when the most basic elements of how the English language works isn’t understood.

    If I say “science” without an article preceding it, I mean the spontaneous order which involves all the procedures and processes which create scientific knowledge.

    If I say “math” without an article preceding it, I mean the spontaneous order which involves all the procedures and processes which create mathematical knowledge.

    However, if one uses an article before either of these nouns, you get a transformation of meaning that is understood by almost every native English speaker. It is so basic even my 3 year old understands the difference.

    So if I say “a science”, for example, I mean one of the various scientific disciplines. Molecular biology is *a* science.

    If I say “a mathematics,” I mean one of the various mathematical disciplines. Geometry is *a* math.

    Now you will please note that I used the article “the.” What does it mean when one uses “the” before a noun? Well, it means this particular one.

    So if I say “the science” I mean a very particular science. Now, there is some similarity between the use of “a” and “the” in regards to a reference to particularity, but “a” is more general than “the”. Let me give an example that is less confusing than “science” before I return to the issue of science vs. *the* science.

    If I were to ask my 3 yr old to get me a dinosaur, she will bring me one of the 8 dinosaurs she has. But if I ask her to bring me *the* dinosaur, she will ask me, “which one?” She understands that I am meaning a particular dinosaur and not just any dinosaur. Further, if I ask her about “dinosaurs,” she will understand I’m not talking about any of her toy dinosaurs.

    So let us return to the issue of the article “the” in reference to “the science” or “the math.” If I say that Plato had a basic understanding of statistics even before *the* math was invented, I’m not saying that he had an understanding of one of the branches of math prior to the existence of math itself; rather, I am saying that he had an understanding of a particular branch of mathematics before that branch of mathematics was developed.

    So when I say that Austrian economists developed prior to *the* math and science (please note that it is standard English grammar for the article to reference both nouns, meaning it is understood that “the” belongs to both nouns “math” and “science”) necessary to understand what they were saying, or if I say that *the* science and math necessary to understand economics was not developed until recently, I mean the mathematics and sciences of complexity, chaos, systems, etc. that could not have been properly investigated prior to the existence of computers to do the level of math necessary to create the most basic maps and models that would come closer to reflecting the realities of a real economy.

    And that is today’s English lesson.

  29. What goes for econometrics goes for aggregation as well: you just can’t talk about crises and cycles and recessions without referring to aggregates; and Austrians who pretend to dispense with even the grossest macro aggregates never do so consistently: Mises may rail against the notion of “an increase in the general price level,” but then he can’t dispense with practical equivalents like “a decline in the the objective exchange value of the monetary unit.”

    The question is, to what extent are insistence on apriorism and dispensing with references to conventional macroeconomic aggregates and such _defining_ characteristics of Austrian economics? If they are, then Mario’s challenge will be hard if not impossible to meet. If they aren’t, then another perhaps equally difficult challenge arises: that of saying just what it is that distinguishes Austrian from non-Austrian economics.

  30. […] The Second Austrian Moment « ThinkMarkets. We continue to lack empirical work, on a large enough scale, to convince other economists that we have something relevant to say. The macro-economic framework has created a demand and supply for certain kinds of aggregated data at the expense of data that might be more useful to Austrians. […]

  31. If Austrians are in need of data that’s not readily available for their empirical research, they can try collecting it themselves. This is, by the way (and for those who don’t bristle at the idea of having the Feds fund their research), just the sort of project the NSF loves to finance.

  32. Troy writes:

    “meaning Austrian economics was literally decades ahead of the math and science necessary to do economics.”

    Mises, Human Action, and Rothbard, Man, Economy, and State don’t require more than simple arithmetic, and barely that. So you don’t need more than arithmetic to do economics. Since arithmetic was invented centuries before Austrian or any other type of econmics, your statement is false.

  33. George,

    I did a bit of econometrics in my Big Players work, so I’m definitely for rolling up your sleeves and actually, you know, looking at numbers and stuff. Right on to that. But I wonder if you’re challenging a straw man. What “Austrian” denies that we can talk about “aggregates”? Some blog commenters I suppose, but who else? The complaint is that some of the standard aggregates hide relationships of interest in ABCT. And who still derides econometrics as such? I guess maybe some of the Mises Institute types, though I don’t really know. But that’s not the sort of “Austrian” view that, like, Mario or Jerry defend.

    Now in the second paragraph of your penultimate comment you refer to “*conventional* macroeconomic aggregates.” Hey, wait a minute. We *should* criticize them. Structure of production and all that. You can’t have a Mises-Hayek cycle story without *something* like a time structure of production. So you can’t say that your legitimate criticism of silly dismissals of “aggragates” has any relevance to the question of the “conventional macroeconomic aggregates.”

    Nevertheless, I would certainly agree that we need to do an infinitely better job of building an empirical research program in ABCT, which is, um, precisely the point of Mario’s post.

  34. George Selgin says:

    “Mises may rail against the notion of “an increase in the general price level,” but then he can’t dispense with practical equivalents like “a decline in the the objective exchange value of the monetary unit.”

    … [Must Austrians believe in completely] dispensing with references to conventional macroeconomic aggregates [?]”

    I do not pretend to speak for Mises or for Austrians generally, or for even one “pure Austrian” for any meaning of “pure.” But, speaking for myself, this would be my reply (I don’t expect it to be knew to you, however I cannot help but reply):

    There are a couple of ways of using aggregates, as well as a spectrum of importance and objectivity one can credit them with.

    First of all, there is the Lucas Critique, which was a radical notion at the time, but has since entered the mainstream (Austrians knew it well back when Robbins made the point), e.g., you cannot use historical relationships between aggregates as a model which with to discern policy effects — because those aggregate-relationships won’t hold once the policy is in place.

    This was one of the things earlier Austrians might have had in mind (but just one) against Keynesian and econometric modeling of old. Mainstream models have advanced since Lucas (1976) though.

    Now, aggregates can be used in Keynesian models that may not precisely be open to th Lucas Critique, because the kinds of things they assume in terms of relationships are assumed not to change because of policy, or because no historical data is used, just logic. Austrians have offered further critiques of this use of aggregates though.

    For example: the interactions between prices or between economic actors may be more important than the aggregates; the relative prices or the change in prices or the control of prices may be more important than the aggregate price level; and these relationships and relative levels may change with policy and may be ignored or distorted within models of aggregates.

    This has not been altogether lost on mainstream economists, but it has certainly been largely ignored by Keynesians and by many dynamic modelers.

    Kenneth Boulding described the danger of aggregation in 1946:
    “[I]t is a question of acute importance for economics as to why the macroeconomics predictions of the mathematical economists have been on the whole less successful than the hunches of the mathematically unwashed. The answer seems to be that when we write, for instance, “let i, Y, and I stand, respectively, for the interest rate, income, and investment,” we stand committed to the assumption that the internal structures of these aggregates or averages are not important for the problem in hand. In fact, of course, they may be very important, and no amount of subsequent mathematical analysis of the variables can overcome the fatal defect of their heterogeneity.”

    Now, all this said, of course there are ways to use aggregates that don’t run up against these problems. For example, a simple regression of areas subject to a price control like minimum wage, and an expected excess supply or demand, like unemployment, in that area seems relatively harmless. Simple econometrics of this sort seems outside of the major criticisms of Austrians as I see them.

  35. Actually, they require the most complex of mathematics, which is why they weren’t able to use much, since the mathematics wasn’t invented yet that was able to do what they were doing. Spontaneous order is complex adaptive systems theory, process theory, strange attractors, and far-from-equilibrium states. This is very recent, very complex mathematics whose outcomes were only made possible by the power and speed of computers. Mises was talking bout agent-based modeling before there was agent-based modeling. Now we have the math and science to do what he was talking about. Kirzner’s entrepreneurs make use of far-from-equilibrium states in the economy to invent new ways of doing things and make profits. We now have the math for that — though some of the math and science was being developed at the same time as Kirzner was working. The process/systems scientists and mathematicians have worked in ignorance of the work done by the Austrian economists, and, in the past few decades, vice versa. There is no excuse to continue doing so.

    Simple math is what got the economics profession in the situation it is now in. It is laughable to say that the Austrians’ ideas can be modeled using simple math. If it’s true, then Austrianism is more ridiculous and laughable than is mainstream economics. Fortunately, I don’t think so. I hope few others here think so.

    I have certainly railed against math in the Austrian blogs I follow and comment in. But I have always railed against math as simplifying, simple math, and mistaking math for reality. Fortunately, there is now mathematics out there that is not simple, that creates models and maps of complex processes. Of course, it is up to the users of it to properly understand that math is not reality and that it is still simplifying.

    Let me ask you this: which requires more complex mathematics to fully explain? An atom or a living cell? We have the math to fully describe quantum physical particle-waves and atoms; the best we can do with living things is use statistics. The fact that one has to use statistics shows that you do not have the math to fully describe a given system or process. However, we have some mathematics which does a better job than any mathematics that came before of doing so. We can now model biological processes in ways that are real and even predictive to a degree. Much more so than statistical analyses alone. Now, if we don’t even have the math to fully model biological processes, it is foolish to believe we have the math to fully model more complex social processes. We have had some statistical methods, and little else. More recently computer-based modeling has become available, meaning more complex processes can be modeled. Such as spontaneous orders. The math still falls far short in understanding some of the details. It is a shame that the economics profession doesn’t understand that, and that it means economics is closer to philosophy than physics. But it would also be a shame if one refused to use mathematical and scientific methods as they became available and relevant. Not using them will make Austrian economics irrelevant. You may want that, but I do not — and neither does most everyone else here.

  36. In order from simplest to most complex:

    1) math
    2) physics
    3) chemistry
    4) biology
    5) psychology/cognitive science
    6) the social sciences (sociology/economics/anthropology)
    7) philosophy
    8) literature and the arts

    Math can be used to describe/model each of the levels of complexity above it, but with increasing inaccuracy and the need for ever-greater mathematical complexity.

    As we can see, the social sciences are much closer to philosophy than to math. But they are equally close to psychology/cognitive science as to philosophy. Hayek was right to be more interested in the brain (The Sensory Order) and philosophy (Individualism and Economic Order, LLL, The Fatal Conceit, etc.) than math. At the same time, I think he would be very interested in some of the math of complex adaptive systems, process theory, etc. if he were a young economist today.

  37. George,

    I distinctly recall a luncheon at an AEA meeting in the mid-1990s where you claimed that no one ever changed his mind because of an econometrics study. Not very Popperian, that. If this is true (and I still have no doubt that it is), what’s the point of it? Just to get more “funding”? To impress those ignorant Austrians? To signal to the school of Samuelson that he was right (in various Newsweek columns and elsewhere) when he pontificated that “our best econometric models show that such-and-such a government program works”, and whatnot?

  38. My remark on aggregation was in fact made in response to one of the comments to this blog. Of course I don’t hold that everything Austrians have to say can be said by appeal to standard macro. aggregates. But there are those who suggest that one can or ought to dispense with these altogether, and they don’t just consist of a few blog commentators.

  39. I’m still pretty sure, Bill, that no-one ever rejected a prevailing theory on the basis of any single econometric study. (Well, not quite: people who don’t want to believe a prevailing theory will treat any evidence against it as fatal–consider the Card-Krueger study on the minimum wage.) My claim was that econometrics helps to give us magnitudes when we need them–not that it is a particularly powerful falsification device.

  40. @Troy:

    I don’t understand your point. So far the tools and methods served Austrians pretty well, and those tools have a long history behind them. They come from the classics after all. But because there are some new toys out there, in math, people should spend twenty years rewriting “Human Action” using math? Why?

    By the way? Do you actually know the math you are preaching here, or you’ve just seen some papers with some promising titles and abstracts? If you know it, then you should star working on it, Lead the way by doing it, not just giving advises, but if you don’t, maybe you are wrong and, in spite of the advertising or what you believe, not even that math can provide an adequate way of explaining the market process from an Austrian point of view.

    PS: I see people here are against The Mises Institute and I don’t think it is because of their view on econometrics. Is there a turf war? By the way, do you think statistics prove something?

  41. Pr. Selgin;

    Ok, orders of magnitude and a rhetorical device.

    I’ll never forget the “introduction to econometrics” class I had. The guy was supposed to be an econometrics legend, I think he had the record for the most publications when defending a dissertation written in less than 4 years.

    “To find out which variables you should keep just test all possible combination and keep which ever gives you a nice slick correlation… To find out what kind of function you need to be using just try a bunch of them and keep the one you that proves your point best… Here is how you modify a graph you don’t like by taking out outliers, see how easy it is… And finally to figure out whether you need a Gaussian distribution, a Poisson, or something a little more exotic, just try them all and see what proves your point best.”

    All in all, econometrics is not a very scientific process.

    So yeah, maybe it does give you a general idea on the orders of magnitudes, and in this sense I’m all for a modest use of it, but at it’s core econometrics is just rhetorics to convince those who don’t know any better.

  42. There’s relatively little econometric work on free banking because the episodes have been few and data for them limited. This is certainly the case for the Scottish system. But econometricians have supplied some useful information on such things as the performance of Canada’s system during the depression and the relative stability of the pre- versus post-Fed arrangements that offer suggestions about the properties of completely free banking systems. Bill Lastrapes, Larry White and I refer to a lot of statistical work in a paper we’re working on called “Has the Fed Been a Failure?” The title question can hardly be answered without looking at plenty of stats.

  43. I hear you, George, but it sure looks to me like you need to update your model of “Austrian.” You upbraid Austrians for rejecting econometrics, for example. Huh? I guess you could define everyone who has published something with a little statistics in it as non-Austrian, but then you’ll be de-Austrianizing most GMU grads who came out in the last, say, 20 years. Maybe it would be better to update your model of what “Austrian economics” is all about?

  44. Roger, you must know that there are quite a few self-styled Austrians who do reject econometrics out of hand, including some participating in this blog. (And also including some of the great names, whose positions on this score remain extremely influential.) The number who have ever actually made use of econometrics to advance what they consider to be an Austrian agenda is very tiny indeed.

    But the real issue isn’t whether my model of Austrians is up to date: it’s whether the school can distinguish itself coherently from the “mainstream” while nevertheless abandoning those methodological strictures which have traditionally limited its member’s willingness to put some empirical clothes on their theories.

  45. Following up on my earlier (unnoticed) comment, we can tie this question of the use of aggregates to the current question of whether and when the recession ended. Is it useful to look at aggregate spending? Why, or if not, why not? Are there any useful aggregates?

    Arnold Kling says: “I have gotten so used to not thinking of economic activity as spending that I am totally blowing off the fact that GDP has been increasing for the past year.”

    But he still focuses on unemployment. But, are there issues even with that sort of aggregate, and would we know if it did not make sense in a particular econometric study – or could we easily be fooled whether it was recent data (this recession) or historical data (e.g., Great Depression)?

  46. Just for the record, I have no beef with statistics as a math discipline, but I think economagic borders on lying, at least some time. Also, surely a lot of the statistics compiled by State! agencies is what Paul Simon would call “crap I learned in high school.”
    I read not so long ago about govies in Latin America and Africa just making up data out of whole cloth. I heard anecdotal evidence that local census takers were making stuff up this summer! Why should anyone belive Fed stats, or Treasury stats, etc.?
    I sure don’t.

  47. What a load of horsecrap! Yeah, you sure aren’t an economist, are you? You are a propagandist! What we are seeing is the utter failure of unbridled capitalism and laissez-faire government policy. The repeal of Glass-Steagal in 1999 signaled the beginning of the end of the American economy. By allowing commercial banks to gamble (and that’s exactly waht it is) with depositor’s money is reckless speculation and unregulated derivatives, it was only a matter of time before the economy was going to completely collapse. (Which it would have, had the government, i.e. the American taxpayers, bailed out the criminals on Wall Street). We should have impaled these selfish jerks on lampposts along Wall and Broad Street as an example of what should happen to worthless, greedy, self-glorifying capitalists! You have no idea what you are talking about, Mr. Rizzo. By the way, FNMA and FHLMC were minor players in the subprime market – do some research, moron.

  48. I do not agree with the use of Fannie Mae and Freddie Mac as examples of entitlement “folly”. I believe individuals running these entities made decisions that any rational being would not have made (or they were not authorized to do). For example, what other country in the world allows individuals to purchase real estate without any downpayment? How can we as a nation push for the idea of “homeownership” when 1 out of 7 U.S. citizens live in poverty? It is obvious from what has happened over the past several years that greed and corruption will always triumph over any economic model that could be developed. Basically, I would say that the better example of entitlement gone wrong is Social Security.

  49. Thank you for introducing the voice of reason to this discussion Mr. Kriz. I might suggest at least one minor amendment to your comments. I wonder whether the banks were gambling with the depositors’ money or with the taxpayers’ money. Given the guarantees provided by the FDIC and the banks’ expectation that they would be bailed out if they got in trouble, I think it might have been the taxpayers who were at risk all along.

  50. “We also see the folly of many of the New Deal institutions like Fannie Mae and later Freddie Mac. We see their role in the housing bubble.”

    I find fault with this statement. The cause of the housing bubble was the relaxation of standards on part of the lenders due to their incessant greed to sell more and more mortgages that could be cobbled together as securities. I would be more willing to explore your ideas and listen to your reason if not for the finding of the same tired faults and mottos used by republicans in the last presidential election to describe how the free market economy was not at fault for the collapse. Of course it was. Funny how it is always the fault of the poor and never the fault of the financial institutions who were suppose to know better than to offer sub-prime loans to people who could never afford them and pay their debts back. Who cared, because the bank that originated the loan was never going to be held financial or morally liable.

  51. “The cause of the housing bubble was the relaxation of standards on part of the lenders due to their incessant greed”

    Their incessant greed is a constant (they didn’t just suddenly get greedy), so the cause must have been a relaxation of standards either by regulators (if regulation had previously been tight) or a subsidization of such relaxes standards (or both). It turns out to have been the latter, primarily subsidies through Fannie Mae and Freddie Mac (which bought and repackaged subprime loans) and their business partners (like CountryWide financial, etc).

    “Of course it was. Funny how it is always the fault of the poor and never the fault of the financial institutions who were suppose to know better than to offer sub-prime loans to people who could never afford them and pay their debts back.”

    Who blames the poor? Nobody here blames either “the poor” or “the rich” (e.g., evil businessmen), people here blame the laws and institutions that encourage or require risky behaviors and loans, along with excessive demand that drives bubbles.

  52. I can only hope the author is wrong. Why is it that Austrians conveniently ignore the boom and bust cycles of the first 150 years of the US? 1907 and the 1870s come to mind. Prior to the New Deal, poverty among the elderly was widespread. New Deal programs almost eliminated it. The golden age of US economic growth was the 1950s-1960s, the time of greatest Keynsian influence. Keynes was the first to acknowledge that during good economic times the government should run a surplus. Keynes would have unlikely agreed with the deficit and inflationary spending during Vietnam era. And when the oil shocks of the 1970s hit, how would the Austrians have delt with it? Keynes gave us a way to support the less advantaged during recessions and dampen those recessions. Remember we have not had a depression in almost 80 years, this is failure? True, the current recession is due to many policy mistakes, but they are primarily related to our inability to rationally determine the level of government services we demand and the level of taxes we are willing to pay for those services. We have listened to and voted for the politicians who promise us more services with less taxes. Well now we have to pay for those services with higher taxes and probably have to cut back the services as well. In Keynes’s day we did not understand how demographics would change and that entitlement programs that were supported by a large young population and a shorter lifespan would end up with a smaller young population and a longer lifespan. In the meantime, when it was relatively simple to shift retirement age and/or moderately raise social security taxes we chose not to do so. This is not a failure of Keynes it is a failure of us to acknowledge our structural problems and accept that free lunches are exceedingly rare. And by the way the egregious, “socialist” level taxes that would be reinstated if the Bush tax cuts are left to expire are still lower than the Reagan era taxes.

  53. Mario,

    You say, “this is an important time for Austrians,” and hope the Austrian point of view will fare better at the end of this crisis than it did following the last great crisis.

    If the Austrians wish to enhance their chances this time around, I’d suggest spending a little time reflecting on why Keynes won the last round.

    A good place to start is with a question Richard Kahn asked Hayek following a lecture given by Hayek on the slump, “Is it your view that if I went out tomorrow and bought a new overcoat that would increase unemployment?” “Yes,” Hayek said, “but it would take a very long mathematical argument to explain why.”

    Note that 1) Kahn didn’t ask what would happen if he spent a hypothetical “stimulus check” on a new overcoat, and 2) this Q&A occurred in 1931.

    A second worthwhile inquiry would be to figure out why the (arguably) best economists at LSE – J.R. Hicks, G.L.S. Shackle, Nicholas Kaldor, and Abba Lerner – all abandoned Hayek’s theory in favor of Keynes. They weren’t all leftists and they were all quite familiar with Hayek’s theory.

    A third question which deserves study is why Lionel Robbins, who brought Hayek to LSE, came to think that his own biggest error was to oppose Keynes proposals for lifting Britain out of the Great Depression.

    Fourth, and finally, read Hayek’s exchange with Sraffa on the nature of a money economy
    and see if you can make sense of “the natural rate of interest.”

    Understanding why you lost round one will ultimately be more productive than “forming strategic alliances with like-minded economists.”

  54. Mario mentioned allies who might stand with the Austrians and other classical libearals this time round to obtain a better result than the resistance to the New Deal.

    I would like to draw attention to some intellectual allies in other disciplines of the humanities who provide support in places where the most trendy lines of work tend to undermine both the rationality of discourse and also the methodological and metaphysical framework that sustains good economics and also classical liberalism.

  55. Greg Hill: I agree that filling the gaps in the Austrian arguments (and using data to suggest empirical relevance) is key.

    I recently wrote an article on a “blog” read and written by professional academic economists. Of course it wasn’t a journal, I wouldn’t have survived the peer review, but I received professional feedback, and also lots of comments.

    After two lines of my article the troubles started:

    1. Why doesn’t money injection just cause simple inflation?
    2. Why do investments increase, instead of consumption?
    3. Why do investments take the form of durable / roundabout investments?
    4. What kind of evidence do you have, or alternatively, what are your testable propositions?
    5. Why does money creates this specific kind of errors in entrepreneurial errors?

    I knew much of the critical literature on ABCT, from Sraffa to Cowen. I think I partially succeeded in answering #1-3. At least I had credible arguments: I had no evidence and no “model”, but I found the logic of my arguments to be satisfactory.

    I answered #4 saying that there was not enough work done, but all stylized facts I know about money, booms and crises are compatible with the theory (of course, this doesn’t prove much).

    When I reached 5, I quite gave up. I tried to explain the problems of monetary economics based on general equilibrium, I talked about coordination problems, I cited Carilli and Dempster, I talked about moral hazard and Cantillon effects.

    My impression is that all these points didn’t add up to a full, convincing argument. Chances are that it is me who I’ve not got some details. However, also those professional economists had exactly the very same impression. And the critical literature has been pushing on these points for years (cfr Lachmann 1943).

    Besides, I’d quite believe that if the logic of the theory were compelling (by using a somewhat rethorical term, “apriori”), the lack of evidence would be a secondary problem, because of the good compatibility with real facts.

    PS Many of the criticisms against ABCT are probably wrong, anyway. I believe that 1-3 are false, for instance. Also criticizing the natural rate of interest appears pointless to me. The problem is in the sustainability of the production structure (i.e., the compatibility between investment and consumption plans), “lengthening of the production structure”, “higher roundaboutness” and “divergence between the natural and monetary rates” are just shortcuts.

  56. A blog isn’t the right place in which to try to expose all of the errors of the post by thlthl3. But concerning the grossest of them, for starters: Joseph Davies’ revised chronology of U.S. business cycles (Journal of Economic History 2006) gives the lie to his statements on that score. As for the suggestion that the recent crisis was “primarily related to our inability to rationally determine the level of government services we demand and the level of taxes we are willing to pay for those services,” well, I’ve heard some really goofy. explanations for the crisis, but this one truly takes the cake. Finally, while its almost certainly true that Keynes himself would have objected to the inflationary policies of the later 60s and 70s, his followers certainly approved of the same policies, making the claim that we have “Keynsian” [sic] ideas to thank for the stability of the 50s (when Samuelson and Co. had yet to have much influence, and when that of Keynes himself was also still trivial) perfectly disingenuous.

  57. What George said.

    @Pietro, I think you are correct about where the problems are and are not. Please keep up the good work.

  58. Most people are under the impression that capitalism is “unfair” and that government helps make it “fair”. Too bad there wasn’t a cartoon or some sort of series of pictures (similar to the road to serfdom illustrations, link below) that shows the economically illiterates the following:

    1. although there may be an increasing gap in the income and amounts of money between the upper and lower class, that there is a narrowing in the quality of life and wealth gap.

    2. government spending on social programs encourages bad behavior and dependence and this malinvestment creates a far worse net effect for everyone.

    3. government spending on a large portion of business regulations not only misallocates resources but encourages the consumers to rely on the a government that cannot possibly provide the successful oversight it sets out to create.

  59. I think George’s reply to thlthl3 (I’m going to call her or him “Thistle”)is right in substance, although I don’t think we should call Thistle “disingenuous.” In George’s defense, however, Thistle did adopt a rather strident and dismissive tone, so, you know, that was bogus.

    Thistle speaks of “our inability to rationally determine the level of government services we demand and the level of taxes we are willing to pay for those services.” I wish (s)he would — okay I’m just gonna say “he” — I wish he would take that remark seriously. “We” are indeed unable to make such rational determinations. That’s not how representative democracy works. It works on the unfortunate principle of concentrating benefits and dispersing costs. You might as well criticize the Moon because it is not made of green cheese.

    Also, Thistle seems to upbraid . . . Mario, I guess, by saying “And by the way the egregious, ‘socialist’ level taxes that would be reinstated if the Bush tax cuts are left to expire are still lower than the Reagan era taxes.” I have heard some radio hosts indiscriminately splash around words such as “socialits” and “Marxist.” Sure, that’s totally bogus. But, um, Thistle, who on this blog has done that?

  60. Forgot to say, my “criticism” of representative democracy just goes to show that it’s the worst possible system except for all the others. HT public choice & Winston Churchill

  61. The Joseph Davis article is indeed the one to which Matěj supplies a link–thanks! Christina Romer has her own revised chronology, which doesn’t go back as far but which reaches the same general conclusion: recessions were neither longer or deeper on average nor more frequent before 1914 than they have been since.

    As for thistle being disingenuous, Roger: well he tried to have his cake and eat it, too, by suggesting that “Keynesian” policies contributed to the long expansion of the 60s, but not to the ensuing inflation (since “Keynes” would have opposed the latter). Too clever by a half: it was precisely when the Keynesians really started to have their way that inflation took off. As for Keynesianism having been responsible for the preceding “golden age,” here is what Dudley Dillard, a very prominent Keynesian of the time, had to say about this in 1957:

    “Although statesmen from F.D.R. to Eisenhower have endorsed Keynesian-type policies against depression, there is little evidence that what has happened to the level of economic activity has been much influenced by these ideas.”
    (“The Influence of Keynesian Economics on Contemporary Thought,” American Economic Review.)

  62. Love to hear people talking about Austrian economics, but the entire thesis of the Mises’ Human Action is precisely that you can’t mathematically model well, human action. It is the value theory… you, me and everyone else attach different levels of value to the same thing based upon our current situation. If it takes 100 logs to build a cabin and I have 99 logs, I probably value 1 log a whole lot more than someone with no logs. Things that are subjective, like value, can only be ranked with ordinal numbers, not cardinal which is why mathematically modeling is impossible.

  63. Alas, Kevin, math econ. mostly post-dates subjective value theory and the related notion of diminishing marginal utility, and you will therefore find it pretty hard to locate any mathematical model out there that contradicts either. So, no: it isn’t as easy to dismiss as you make it out to be. Nor did Mises make the argument against it that you offer.

    And, by the way, if you will study the value theory you refer to more carefully, you will find that it does not allow you to compare the subjective value (utility) you assign to your log to the value someone else assigns to his 99th.

    If I could wish for one thing for the sake of the future of Austrian economics, it would be that people would appreciate that it isn’t really possible to grasp it “in one lesson” (or by following a dozen blogs).

  64. This is why I am back and forth on the use of mathematics. There are things, such as subjectivism, which can in fact not be modeled. However, when you have a large number of people, though, a lot of those differences come out in the wash. Thus statistics is a valid approach. So, too, the complexity models. Network research has shown that the kinds of nodes in the networks don’t much matter — you still get the same kinds of macropatterns. What does matter in networks is how the nodes are connected. In economics, this speaks to rules and institutions. Allt he math can do in such a case as this is explain why one sees certain patterns in one case and not another. Once you understand that the rich necessarily get richer in what are known as aristocratic networks, and that economies are necessarily aristocratic networks, then you begin to understand that the complaints about the rich getting richer are mostly based on an ignorance of reality, and that socialism and other redistributionist ideologies are doomed to certain failure.

  65. George Selgin wrote;

    “If I could wish for one thing for the sake of the future of Austrian economics, it would be that people would appreciate that it isn’t really possible to grasp it “in one lesson” (or by following a dozen blogs).”

    I couldn’t agree more.

  66. No one asks whether it is better to be a bookkeeper or a bouncer, though one might ask Should *I* be a bookkeeper or a bouncer? It depends on factors that vary from individual to individual. So why do we ask whether “Austrian economist” should “use math”? It depends on the paper, the point at issue, the author(s), the intended audience, and surely much else besides. And if mathematics is a language, it would seem to be rather challenging to make a meaningful general statement about what math can or cannot do. Whereof we cannot speak, thereof we must remain silent. Let a hundred flowers bloom.

  67. Of course you can use one language to talk about what another language can or cannot do. You just have to use metalanguage to do it. It’s challenging, but not impossible. It’s done all the time.

  68. O’Driscoll:

    “Please keep up the good work.”

    Thanks. I’m actually working on a much simpler research topic than completing ABCT’s monetary part. I feel in awe for the complexity of the issue, I think more confident in starting from smaller things. Even writing the silliest papers requires a lot of study and gives lots of insights.

    Filling the gaps in Mises’s and Hayek’s monetary theory requires me to understand in full your contributions, Garrison’s, Horwitz’s, Alchian’s.

    It’s unfortunately only one year that I started to understand the importance of the notion of coordination problem. This fall I will re-read your important contributions with a much better conciousness of what I’m looking for.

  69. Roger made an excellent point. The math issue is really about the target audience of economists (and academics generally) Economists are generally not interested in educating the public, or even undergraduates. They communicate in math to each other.

    I see a crisis in higher education. The costs cannot continue to rise at twice the rate of personal incomes. When the crisis hits, many topics will be revisited.

  70. It is easy enough to see why you have to do maths to get on in the profession but still, it is painful to contemplate Rome burning for want of institutional analysis and the old-fashionied economic way of thinking. It seems that most of the dominant intellectual fashions of the last 100 years have systematically destroyed the capacity of students to identify the significant problems and address with the appropriate methods. Marxism, constructivist rationalism, positivism/empiricism, phenomenology, structuralism, deconstruction, the sociology of knowledge, etc. The good news is that better ideas are available if you get lucky and find them.

    How long can the maths bubble last? How many more brilliant people will spend their careers without looking out the window to do stuff that relates to the world that we live in? How come somebody has to suggest that students need to be trained in the real world application of models as well as developing them? Why, in an economics department, would you even think of developing a model without starting with a real-world problem and constantly relating to it? I don’t know enough arithmetic or economics to be certain about this but it sometimes feels like the collapse of mathematical economics system will make the collapse of the financial system look like a tea party.

  71. To be concrete, would you employ in your school an economist who studied the Soviet economic system during the 1950s and said it was rapidly overhauling the US?

  72. You say

    Austrians failed to carry the debate within the economics profession and among the public intellectuals and economic historians after the Great Depression

    Actually, the debate was intense in the 1930s and 1940s, and the Austrians lost that debate.

    Hayek’s business cycle theory was shown to have severe flaws by economists like Sraffa and Kaldor.

  73. He saw the light:

    Although [Robbins] remained an opponent of Keynesianism for the remainder of [the 1930]…, Robbins’s views underwent a profound change after World War II. In The Economic Problem in Peace and War Robbins advocated Keynes’s policies of full employment through control of aggregate demand.

  74. Lord Keynes: “Failed to carry”=”lost.” And it’s old news about Robbins.

    It has also long been appreciated, by many though not all Austrians, that the Great Depression involved a collapse of aggregate demand that was itself not a necessary part of the Hayekian downturn, and that the popularity of Hayek’s theory suffered from his having put relatively little emphasis on that aspect of the crisis. In fact, Hayek’s ideal was that of a monetary policy that would stabilize MV, which means that he was not in fact ignorant of the damage done by collapsing demand. Alas, the Keynesians, who saw the depression solely as the result of collapsing demand, without recognizing the role played by the prior boom, ended up winning the day.

    Finally, the fact that AD needed to be restored itself doesn’t point to the need for public works and such. Monetary expansion generally suffices. In the US, the limited recoverey that did occur after ’33 was almost entirely related to monetary expansion, the latter mainly based on gold inflows. Fiscal expansion was too trivial to have mattered. Here it is the monetarists, not the Keynesians, who appear to have the upper hand.

  75. Eighty years after the Great Depression began, economists have no agreed-upon narrative of the event. Jonathan Hughes, an excellent economic historian, some years ago surveyed all the principal theories including Rothbard’s. He concluded that none could explain the sheer magnitudes of the decline in the principal economic variables. In otherw ords, all the heories are incomplete. I think he was correct.

    Schumpeter’s assessment of the Keynes/Hayek debate was that Hayek swam against the political tide of the time. I think that assessment is correct. Keynes “won” as much for political reasons as economic.

    Hayek’s reaction was to win the debate over capital theory by writing The Pure Theory of Capital. That was a strategic error. Differences on capital theory were and are fundamental, but we didn’t need the PTC to address those.

    Lachmann did it effectively in Capital and Its Structure. The chief difference is whether capital goods are gross substitutes, or some cpaital goods are compelementary to others. That can be explained in orthdox production theory.

    Later Hayek realized the differences were philosophical, methodological and political. He then embarked on what would be the rest of his life’s work.

  76. I strongly agree with your comments on Hayekian theory of capital, Jerry. Machlup extolled H’s theory of capital to the very end, but I just don’t see it. For ABCT, can’t we just scrap all concepts such as “order of good” and get along with something simple like Macaulay duration?

  77. @Roger,

    Hayek’s principal focus was on the coordination problem. And that is what I have always focused on. I think Lachmann kept closer to it than did Hayek in PTC.

    Do we need a duration measure?

  78. Jerry,

    Well, I confess to engaging in cheap talk. You gotta put up your model or shut up. BUT . . . I just figure that you need something like the time structure of production to have ABCT. And you want ABCT to make the vital point about structural adjustment. A. Kling deftly named it the recalculation problem. If you’re gonna tell a Wicksellian recalculation story, then you need some sectors that respond more than other to the “artificially” low interest rates. Rather than trying to pull that asymmetry out of the tangle of “period of production” or whatever, why not cut to the chase: duration, i.e. interest sensitivity. The housing market is interest sensitive. The market for ice cream cones, not so much.

  79. Roger and Jerry,

    “Recalculation” has a nice ring to it, but virtually every sector of the economy is operating below capacity. If the recalculation story were true, then wouldn’t we expect rapidly rising wages in advancing sectors, and falling wages in declining sectors? I don’t think this is what’s happening, but I could be mistaken.

  80. Reply to George Selgin

    You say:

    Alas, the Keynesians, who saw the depression solely as the result of collapsing demand, without recognizing the role played by the prior boom, ended up winning the day.

    Well, that depends on which Keynesians you are talking about:

    The Post Keynesians actually do pay very careful attention to the previous boom: Post Keynesian analysis take up Irving Fisher’s debt deflation theory of the depression as developed by Hyman Minsky.

    See Steve Keen’s blog for excellent Post Keynesian analysis of debt deflation:

    Here it is the monetarists, not the Keynesians, who appear to have the upper hand.

    What is the evidence for this?
    If anything modern quantitative easing has proved to be a woefully inadequate way of boosting demand; the banks just keep the excess reserves at the Fed.

  81. @Roger,

    I agree on interest senstivity and have been pushing that point myself. Perhaps I need to look more closely at Macaulay. Have you written on this?


    Relative (real) wages and prices are the issue. Many nominal wage rates are falling, while some are staying constant. That is recalculation. Relative wage rates are changing.

    There have been discussions here and at CP on labor heterogeneity. Some skills are in short supply (even more so than in the boom)while others are in excess supply. Unemployment benefits delay the adjustments in wage rates.

    Even in hyperinflations, each month some prices are falling in nominal terms. Relative price changes are important even in inflationary episodes, and in a Great Recession.

    The big recalucations are in asset prices: housing prices, land prices, stock market, etc. Look at the Nasdaq in 2000 and today. For that matter, look up the DJIA over the last ten years.

  82. Some other points:

    Pre-1945 business cycle

    The business cycle of the pre-Keynesian era was much more prone to asset price inflation and financial crises started by panics or the bursting of bubbles, which then set off severe contractions in the real economy. This type of cycle largely disappeared in the Keynesian era, because of effective financial regulation, and discretionary fiscal and monetary policies.

    With the advent of monetarism, New Classical economics and neoliberalism from about 1979 onwards, we have seen the creation of a severely ineffective system of financial regulation in many countries, which in some respects has returned us to the pre-1945 business cycle with asset bubbles being the major driver of recessions (and before any one jumps on his comment and complains that there was still a lot of regulation: yes, I know there was. It was the system of flawed regulation).

    Proof of what an effective system of financial regulation actually achieves can be found in Canada: Canada’s banks have remained highly restricted by regulators from mass securitizing of mortgage debt, were prohibited from taking on high levels of leverage to make larger and riskier loans, and the Canadian mortgage industry was regulated to maintain high lending standards, instead of lax ones allowing an explosion in sub-prime mortgages.
    Result: no significant financial crisis in Canada and no bailouts needed.

    Free banking
    On the issue of free banking, one of the few cases that approximated free banking was Australia in the late 19th century, and there free banking ended in complete catastrophe:

    Charles R. Hickson and John D. Turner, 2002, “Free Banking Gone Awry: The Australian
    Banking Crisis of 1893,” Financial History Review 9: 147–167.

    As for era of stagflation, that was problem for neoclassical synthesis Keynesians, with their flawed Hicksian IS-LM models.
    Post Keynesians never had any difficulty explaining stagflation and offering effective cures for it. One of the best analyses of stagflation is by Nicholas Kaldor, (1976) “Inflation and Recession in the World Economy,” Economic Journal 86 (December): 703–14.

  83. Greg Hill:

    Let’s assume we can neglect all the avoidable and unavoidable factors which make recessions worse, from financial deflation to regime uncertainty.

    Even in these extremely simplified conditions, ABCT predicts some slack everywhere.

    The reason is that in the pure ABCT model there is a building up of capital goods requiring in the future an excessive amount of savings with respect to consumption plans.

    When these complementary investments come due, what will happen? (1) Investments will have to be liquidated, (2) People will lose their jobs, (3) Specific physical and human capital will become worthless, (4) consumption will need to be curtailed to fund old and new investment plans.

    It is both investment and consumption which increase in the boom, and it is both investment and consumption which decrease in the bust, as Garrison pointed out. It is not an aggregate problem, it is a binding constraint in the “production function” (an inward shift in the PPF).

    It is true that this could be done at virtually no unemployment, but only under extremely simplified and unrealistic assumptions. The best that can be done is to speed up the process of recovery, when the recession starts it is already too late to avoid the creation of idle resources.

    I have a better model for the widespread pain of the recession (financial deleverage and the debt binge and purge), but the point is that even without these complicating factors you would see some fall of demand everywhere.

    If, paradoxically, consumption didn’t fall with the recession, the recovery would be even more difficult.

  84. A friend of mine recently published a blog post in Italian on duration and Austrian capital theory. He ended up with some standard financial formula for duration and interest rate sensitivity to argue for the structural changes during the boom.

    He’ll be happy to know that his intuition is considered interesting stuff also among experts.

  85. Regarding the pre-1914 US business cycle and the greater depth and longer duration that was seen in previous data.

    The data in Joseph H. Davis (AN IMPROVED ANNUAL CHRONOLOGY OF U.S. BUSINESS CYCLES SINCE THE 1790’s) is interesting indeed. Maybe he is right.

    But then Davis’ caveat should sound alarm bells and raise red flags about the reliability of this study:

    Of course, my comparison between pre-WWI and post-WWII cycles is limited by its reliance on a single annual index (as opposed to many monthly series) that is less comprehensive than GDP.

    Where did Christina Romer publish her research in this, and what methodology/indices was she using?

    I remain unconvinced that I need to throw out my trusted copy of D. Glasner and T. F. Cooley (eds). 1997. Business Cycles and Depressions: An Encyclopedia, Garland Pub., New York.

  86. Here’s the link, from the blog of my oldest economics study companion:

    I’ve been told that Gene Callaghan speaks Italian. 🙂

    I tried with Google translate, but it’s impossible to understand, although it’s really funny.

    Summarizing, the article says that if entrepreneurs underestimate future rates, they will overvalue more durable investment projects. There is some math on duration which shows some nice formulas about duration and the time structure of costs and revenues. His formula is the Macaulay Duration, applied to a case with costs and revenues instead of only positive bond coupons.

  87. @Jerry

    “Some skills are in short supply (even more so than in the boom)while others are in excess supply.”

    If the Austrian view of the “great recalculation” is right, we’d expect to see some sectors of the economy with rising employment to meet increased demand, and some with falling employment due to decreased demand. But that’s not what we see. Here are the changes in employment from July 2007 to July 2010, courtesy of Brad Delong:

    employment in logging and mining has risen by 11 thousand

    employment in construction has fallen by 2.1 million

    employment in manufacturing has shrunk by 2.4 million

    employment in wholesale trade has fallen by 437 thousand

    employment in retail trade has fallen by 912 thousand

    employment in transportation and warehousing is down by 333 thousand

    employment in publishing, except internet is down by 147 thousand

    employment in motion picture and sound recording is down by 34 thousand

    employment in broadcasting, except internet is down by 41 thousand

    employment in telecommunications is down by 54 thousand

    employment in financial activities is down by 921 thousand

    employment in professional and business services is down by 1.3 million

    employment in educational services is up by 197 thousand

    employment in health care is up by 789 thousand

    employment in leisure and hospitality is down by 467 thousand

    employment in other services is down by 32 thousand

    employment by the federal government is down by 330 thousand

    employment by state and local governments is down by 127 thousand.

    In short, employment is increasing in health care, internet-related activities, logging and mining. It is declining everywhere else. Is this pattern consistent with the Austrian view?

    Of course, Pietro claims that “ABCT predicts some slack everywhere,” in which case I’m beginning to wonder whether ABCT is falsifiable.

  88. Greg Hill:

    “Of course, Pietro claims that “ABCT predicts some slack everywhere,” in which case I’m beginning to wonder whether ABCT is falsifiable.”

    I wasn’t clear: the bust causes an absolute fall in consumption (for the above reasons), but a relative rise.

    I don’t know if there are falsifiable economic theories in general – I’m still looking for falsification of the basic proposition of monetary economics (money is neutral / money is non-neutral), but “unemployment falls MORE in capital goods sectors” during the bust is potentially a falsifiable claim.

    That manufacturing, construction and finance suffer disproportionally more, thus, is a claim of ABCT. That it is reduced slightly less in consumption is ok: more unemployed, less consumption, household balance sheet deleverage… what else should we expect?

    Some of these sectors are not in non-cyclical bust, they are in restructuring everywhere, like the press. Some others are non-cyclical because they are pushed by trends in government spending, such as health and education.

    Really, the only data that sounds “excessive” is the million jobs losses in retail, higher than wholesale (400K). What are the relative shifts? The rest is obvious.

  89. Mystery solved:

    Retail employment is much bigger than in wholesale, so retail job losses are relatively less than in the wholesale sector.

    437K job losses in wholesale, for 5730K jobs is 7.6% (it is less, I’m considering present employment instead of pre-crisis employment).

    912K in retail, for 14975K jobs is 6.1%.

    The relative difference is small, but I really see no mystery in these data.


    Sector Employment (Job losses): Variation
    Manufacturing 12.4M (2.4M): -19.3
    Construction 6.5M (2.1M): -32.3
    Retail 15.0M (0.91M): -6.1
    Wholesale 5.7M (0.44M): -7.8
    Finance 5.7M (0.92M): -16.1

  90. @Greg,

    Pietro now have each made a basic micro point: it’s about relative prices and relative changes in demand. That’s not an “Austrian point”; it’s basic theory.

    You also keep demanding we have a theory apart from prices. Excess demand at current prices signal to entrepreneurs where and how how much to change prices and move resources. If any economist could do what you want, we would not need a price system. Again, nothing particularly “Austrian” about that observation.

    Do you know any theory that has been abandoned because it was falsified? Marxism? The quantity theory of money? How would one falsify Marxism or the quantity theory?

  91. @Jerry and Pietro

    I didn’t ask for a theory without prices.

    On the question of whether we have structural, rather than general, unemployment, the paper below may be helpful.

    Click to access c1218e8213c58051e4_tlm6b5tf9.pdf

    I’d like to see the Austrian version of the paper above. Is there one?

    If monetarism holds that the price level changes in lock-step with the quantity of money, i.e., that velocity is stable, then it’s now reeling.

    And many economists sympathetic to Marx would agree that the labor theory of value is mistaken.

  92. @Greg,

    (1) But you are asking for a theory of allocation w/o prices.

    (2) In the Mises/Hayek analysis, the cycle is a series of strutural changes. Roger Garrison is cogent on that point.

    (3) You would be hard pressed to find anyone who has every articulated the QT that way.

    (4) But was Marxism falsified by an empirical test? That was my question.

  93. I’m a little late to this party, but better late than never. I agree with his assessment that Austrians must become more empirical. There is an old saying in public policy that “if you can’t quantify it . . . then it isn’t important.” I see that effect everyday where important public policy issues are simply overlooked for lack of good empirical data–take cost-of-living for example.

    However, I think focusing on econometrics is putting the cart before the horse. Before Austrians can undertake econometric analysis, they must first have good data to work with. Many comments here point to the same distrust of much of our statistical system that I have. In fact, much of our commonly used data sources are a loaded gun–a Keynesian data-series regressed against a Keynesian data-series does not yield an Austrian conclusion.

    Instead, Austrians first need to get under the hood and start replacing the data engine. Fortunately, as computers have become less expensive and more powerful, the ability to collect new forms of data grows. One such data source that I worked with and would be ripe for Austrians is the National Establishment Time-Series (NETS) database.

    NETS is a true business census and provides unprecedented details into the inner-working of the economy. Imagine finding ways to give life to the Austrian Business Cycle Theory through the NETS database?

  94. correct me if i’m wrong but didn’t the Great Depression happen because the Industrial powers worked with the banks to misrepresent their assets as more than they really were allowing banks to lend more even though they did not have the money to lend so that the only profit actually being made was from the accounts of the not rich and account fees on the not rich? And isn’t that the way the financial system acceptably worked in America before the New Deal? Everyone else’s access to their money in the bank was based on what The Largest money holders deposited? And isn’t that the banking system we returned to when Republicans hounded the clinton administration in all night talks? …it seems to me the New Deal even with it’s failings was the only way to dig the country out of the cess pool the banks and Industrial powers caused. I mean what kind of solution does anyone expect after the entire American population was not able to access their money overnight? There is no time for pondering when your population is literally dying. you put the money where it needs to be, regulate the greedy SOB’s who CAUSED the collapse and continue on with business as usual. I really don’t think anyone who did not live through that era can say what was best for the country at that time. Just hearing my great grandmother talk about her family’s entire life savings, earned from hours of back breaking labor(yes back then even the children worked. The new Deal STOPPED that) being taken by the banks….you can’t blame the one thing that fed the people. The conservatives were content to let them all die. An entire population of Americans. why not blame the PEOPLE who caused the collapse and profited from it? Why are you blaming the solution? because the programs still exist today? Hey, guess what? so do some of the PEOPLE it happened to.

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