Think Progress economist Matt Yglesias is decidedly not an Austrian, and thinks only cranks are. Or, thats what one is led to believe after reading his recent article in Slate. Yglesias uses Slate’s soap box (as other anti-Austrians have in the past) to make a mockery of Austrian economics, presenting straw man after straw man to prove how wise macro management is.
Two quibbles before diving into the economics:
First, he identifies Austrian economics as essentially a libertarian project of the Mises Institute. Austrian economics is truly about exploring economics laws (which fit into a larger scientific pursuit), despite the fact Austrian economists are often radical libertarians. Second, in his laundry list of “sane” things Austrians reject, he mentions “Austrians also believe that cutting taxes to boost economic activity doesn’t work either” I’d like to see what exactly he is referencing. Rothbard makes it absolutely clear in Power and Market that reducing the tax burden is essential for a healthy economy. This kind of thing sets the tone for the rest of the article, shoddy research and straw men.
Yglesias briefly explains how the Austrian theory works, blaming malinvestment on artificially low interest rates. Yglesias points out that even if this is true, why do business men not anticipate and account for it? Had he bothered to ask anyone, he would find out business men are duped by balance sheets. The easy credit created by the Federal Reserve is hard to track, given its penchant for privacy. Where does all that new money go? From the Fed, it goes to banks (sometimes the treasury), and from there, innumerable different places. For businessmen to accurately predict how the credit flows would require an immense amount of knowledge.
True, sometimes the money is easy to follow, as during the housing bubble. Even here, if a wise businessman realizes the bubble is temporary, he can still profit in the short run by purchasing a house, wait for the price to go up, then sell. So a housing company that refused to take action would begin to be dwarfed by its competitors who did speculate. An entrepreneurial businessman might try to beat out the bust, not knowing when exactly it will occur. Even if they know a crash is coming, they don’t know when. As Austrians have even pointed out, the crash takes place as businessmen realize factor prices are going to rise. (factor prices rise because resources have been extended into too many projects as a result of the malinvestment, making them more scarce) So Yglesias’s first quip against Austrians is an unknowing shot in the dark.
Yglesias also points out that changes in spending patterns, like those during a bust, happen all the time and do not cause recessions. Obviously that is the case, but why is the Austrian story different? The point Yglesias misses is that malinvestment is the artificial expansion of consumption simultaneously with investment. So after drastic economic growth, suddenly entrepreneurs realize there are not enough resources for all the new projects to remain, resulting in liquidation of the unprofitable projects. Its different than the simple skinny vs. boot-cut jean example. A better example would be someone buying both jeans with a credit card, later realizing he didn’t have the money to pay off the debt for both, and then selling a pair to pay off the debt. The malinvestment is not simply random companies getting cheap credit. Malinvestment represents intertemporal misallocation of scarce resources for both future and present projects.
Taking cues from Austrians, Yglesias focuses briefly on the housing market. He points out that fixed residential investment turned negative, not positive, as the housing crash began. Well duh. Artificially low interest rates made it seem like the resources to buy houses were cheap. But as time passed, people realized there were not enough resources, throwing prices up, forcing people to leave the market. People leaving the market makes me think the fixed residential investment would turn negative. It’s as if Yglesias thinks a single off-hand statistic can discredit a theory.For a brief explanation of how the housing bubble works in the Austrian framework look no further. Yglesias skates over the point that there seems to be strong correlation between interest rates, mortgages, and housing prices which might cause a drastic increase then decrease in investment.
Yglesias finally dismisses the Austrians because they were disproved by the Great Depression. Really? Because if I remember history correctly, the Great Depression was fueled by a massive credit-fueled investment inflation (see Benjamin Anderson’s Economics and the Public Welfare). To make matters worse, Herbert Hoover attempted unprecedented intervention to stop the liquidation. It is actually a classic myth of economic history that Hoover was a “do nothing” sort of guy. Rothbard chronicles Hoover’s intervention in his book America’s Great Depression.
Yglesias points out macro-management proved itself superior, “And it worked, so nobody much cared about Austrian economics outside of crank circles. But when short-term rates hit zero and the Fed couldn’t push them any lower despite high unemployment, political consensus broke down.” Really, macro-management has worked? Lets think. First, we are in a tight pickle right now, as is the Eurozone. Oh, and the savings and loan crisis in the 80′s, which followed Fed chairman Paul Volcker reigning in inflation. Also don’t forget the stagflation of the 70′s. If you need more proof, go look for yourself. It seems at the very least that financial crises happen with regularity despite macro-management.
Finally, Ygleias leaves the reader thinking that Sweden and Israel’s policies ought to be emulated. For the sake of space, I won’t deal with that here, because others already have.The point is that Yglesias misrepresents Austrian macroeconomics, and skates over two hotly debated topics: the Great Depression and the success of central banks in curing depressions. If anything, the current crisis demands more critical attention on the ability of central banks to deal with crises.
By presenting straw men and affirming a mythical consensus, Yglesias propagates a single-minded approach to economics.