The Keynesians Have Been Largely Correct...

About the recent crisis. Note well: if one has the correct understanding of, say, Austrian Business Cycle theory, that the Keynesians were correct about these large questions does not "refute" Austrian theory. The Austrian theory is an ideal type (as is the Keynesian theory) that more or less applies to any real world situation. How much it applies in any particular situation must be determined empirically.

In the recent downturn, the Austrian story of capital misallocation certainly played a part -- we clearly had a engorged housing sector! But the collapse of aggregate demand played a larger part. In fact, I am starting to suspect that the best cycle theory is often a combination of the two stories, with the exposure of a badly distorted capital structure leading to a collapse in aggregate demand when it causes a crisis of confidence. And then the best solution is to try to maintain NGDP, a la Scott Sumner, while allowing the misallocations to settle out.


  1. Is it not true that housing does not represent 'capital' as it is commonly understood in ABCT? When I wrote briefly about ABCT, one of my points was that the housing bubble involved people simply bidding up the price of the same houses, so there was not necessarily any 'misallocation', and liquidation was not the solution.

    I also believe there is currently a reported undersupply of house in many Western countries.

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    3. Joseph, as a long time poster, you are getting a break here, but this post is over the line. Furthermore, it doesn't even make sense: unlearningecon is saying houses are not capital goods, and you appear to be responding sarcastically to him that "Houses are not capital goods."

    4. "one of my points was that the housing bubble involved people simply bidding up the price of the same houses"

      That prompts the construction of new houses, unlearning. And that involves a lot of capital investment. Look at the Fed's graph of new housing starts:

      And, besides, for anyone renting out homes to others or flipping houses, houses certainly are capital goods.

    5. That's what I get for posting after a wedding reception spent with my pal Johnny Walker. Excuse me.

  2. It's interesting that when I look at Austrian Business Cycle Theory, it doesn't actually imply libertarianism as the necessary and sufficient cure for booms and busts. This may make it even more compatible with Keynesianism.

    Jim's potted history of the last 30 years: Central banks gained enormous prestige and used it on behalf of the ownership class. In particular, Volcker and Greenspan abominated what they called "wage inflation," a.k.a. rising real incomes and raised or threatened to raise rates whenever such a prospect appeared in the offing.

    But the ownership class was perfectly willing to fund mass consumption with credit rather than wages for as long as possible. Among the reasons for this, wages are a cost to the ownership class, while consumer credit generates income for it, through interest. And so long as consumption could be maintained, there would be relative social peace (and space to pursue ever-more neoliberal reforms).

    The apogee of the system came in the HELOC era. Yes there was a housing bubble, which surely counts as "an error" and, over the long haul, misallocation.

    But even if a bubble is going to happen somewhere, it's worth asking "Why there in particular?" An answer - not to say "the only answer" - is that houses gained value because of their function as collateral for further consumer loans. This was also good for the ownership class, since it involved most of the country selling such property as it managed to acquire back to said ownership class, so that it could repurchase it all over again, at interest.

    But yeah, at some point, the fact that the neoliberal economy depended on a level of consumption that it didn't deliver sufficient wages to pay for was going to start to matter.

    1. Jim, sorry, this comment got lost in the shuffle.

      I think you are largely correct here.

  3. Did you just create a new school of economic thought here? Let's call it the AKMM school, which is the Austrian-Keynesian-Market-Monetarist school.

    First you have an Austrian boom and bust story, followed by a Keynesian confidence bust and liquidity trap story and finally a Market Monetarist solution.

    I am not so sure about that to be right though.. Whatever, it has a name now.


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