Tuesday, 29 January 2013

A.J.Evans: What Austrian business cycle theory does and does not claim as true

Anthony J. Evans explains what Austrian Business Cycle Theory does and does not claim as true on the Institute of Economic Affairs Blog,
Firstly, if you are looking towards Austrian business cycle theory to provide a complete theoretical explanation for (i) the artificial boom, (ii) the economic recession and (iii) the appropriate policy response to generate new growth, you may well be disappointed. But if it is unreasonable to expect one (relatively unknown) school of thought to unambiguously settle each of these issues, it is also unreasonable to reject the parts that do stand up to scrutiny purely because they don’t explain everything.
The Austrian insights are predominantly a theory of unsustainable credit-induced booms. Therefore they are not equally applicable to all “boom-bust” cycles, and originally didn’t even attempt to investigate the recovery process (Hayek labelled this part the “secondary deflation”, implying that something else – the malinvestment of capital goods – was the primary problem). The famous “Austrian” histories of the Great Depression were more concerned with the boom than the bust – Lionel Robbins’ The Great Depression was published in 1934, and Murray Rothbard’s America’s Great Depression stopped at 1932.
And in conclusion,
In short, whether Austrian ideas have something to add depends on whether you view the pre-crisis economy as fundamentally sound. As Garrison points out, there are two alternative views: “did the collapse occur (a) in the midst of a period of healthy growth because of sheer ineptness of the central bank or (b) near the end of a policy-induced boom that was unsustainable in any event and in the midst of confusion about just what the problem was and how best to deal with it?”
If you answer (a) you’re a monetarist, and there’s no surprise that Austrian ideas seem alien. But if you believe (b) then I would encourage you to learn more about the economic theory that explains economic crises so majestically. 
Read the whole article, including some lessons to Martin Wolf and Paul Krugman, here.