Is Garrisonian Over-Investment Theory Still "Austrian"?

I suggested here that Roger Garrison's business cycle theory should be disentangled from its Hayekian-triangle encrustations and show itself as a theory of how low interest rates can produce temporary movements beyond the PPF (where the PPF is understood to represent sustainable combinations of investment and consumption production). What that would do would be to free the theory up from its (I think) unnecessary ties to the shaky notion of a "lengthening structure of production." Long before the Cambridge capital controversy highlighted the reswitching problem, no less an esteemed Austrian than Mises had declared, "The 'average period of production' is an empty concept" (Human Action, p. 522).

So if we eliminate that feature and rely instead on Garrison's idea of movements beyond the PPF, is there something distinctively "Austrian" left in the theory? I think so: it is the notion of a capital structure. We must take that into account in order to answer the question of why, having moved temporarily beyond the PPF during a time of artificially low interest rates, we do not simply fall back to the PPF, or even a new higher PPF, when they are raised. The latter is what we might expect in a model with only a homogenous pool of capital, K: the period of "unsustainable" investment would still leave us with more capital than we had before the start of the boom, and we'd find ourselves on a higher PPF when the boom ended.

But if we take the capital structure seriously, we can see that the movement "beyond the PPF" was in some ways an illusion. Certain very visible things were produced in great quantities, while other, less visible ones were neglected. For instance, consider a software company that, during the boom, releases new programs at a rapid rate, in response to high customer demand. Its sales soar, and it appears this productivity represents a great boost to the economy's capital stock. But if the company has achieved this production by neglecting to build maintainable software, by cancelling employee vacations, and ignoring the need for employee training, then at some point this situation will be revealed: new versions can't be finished because of the tangled mess of code in the rushed versions, if key programmers are burning out and quitting, and if the lack of training means staff ignorance of developing standards, then clearly that burst of productivity was not all it seemed to be: the company is likely to suffer through a "slump" as it tries to correct the problems it created during the boom.

But why would interest rates that are too low tend to produce such situations? Well, you will have to wait for our next post to find out the answer to that question.


  1. Are you defining boom as "production beyond the PPF" and bust as "production inside the PPF" ?

    If so then when the boom causes overuse of capital as in your example isn't that moving the PPF inwards and so the "bust" in this case is not really a bust but just a movement to the new lower PPF ?

    1. That's an interesting point rob. I think I agree. But I am not defining anything: I am trying to think through Garrison's theory.

  2. If the PPF can be seen as the sustainable combinations of goods that can be produced then booms that cause capital to be consumed too fast, and busts that cause capital not to be produced fast enough will both cause the PPF to move to the left as well as causing production to deviate from the PPF.

    There can also be supply-shocks that cause the PPF to move.

    However I think booms and bust that cause production to deviate from the PPF must still be monetary in cause. Relative prices are out-of-line with each other and this reflect a misalignment between peoples plans. An obvious cause of this would be unexpected monetary expansion or retractions (though various endogenous demand shocks could have the same effect to0).

    So when RGDP is tracked over time deviations from trend will be caused by either 1) real supply shocks causing the PPF to shift 2) deviations from the PPF caused by monetary factors 3) shift in the PPF as a result of the monetary-induced boom/busts.

  3. I think you can argue that there are 2 PPFs of concern here: Garrison's sustainable PPF (call it sPPF) and a further out PPF that represents the possible levels of production without regards to sustainability (call it uPPF). If you exceed the sPPF it will cause both PPFs to contract. Eventually the uPPF will contract to the point where your production point can lo longer be inside it. I think this can be regarded as a limiting case for a bust start.

    Of course there are probably more complexities you can hang on it. I expect that generally as you get further outside the sPPF you have to use greater efforts to redirect resources to stay there so as the PPFs contract it gets harder and harder to maintain the production point (barring external interference). So it may end up that the producers will reevaluate their production short of reaching the uPPF and drop closer to the sPPF.

    1. An implication of this model is if you are inside the sPPF then the PPFs can potentially grow outwards. The further inside the sPPF you are, the faster the sPPF can potentially grow. So the retrenching producers might decide to move the production point inside the sPPF to give themselves resources to recover or to generate safety room for later faster growth (for instance, in order to be ready for a predicted technological advancement).

      To an outside observer that thinks of capital as homogenous this staying inside the sPPF will seem to be a somewhat mysterious underproduction.

      (This is all off the top of my head, I haven't read Garrison more than other's commentary on him. He probably has covered this somewhere)


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