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Fallacies of the Austrian Business Cycle
Hey guys, I am a Liberal (not in the classical sense J ), who has taken an interest in reading Austrian Economics after a more free market oriented friend of mine used it to debate me. Although I have started only recently (and do not consider myself an expert) on the subject, I believe that I have a fairly good grasp of the Austrian structure of production and how it relates to boom and bust. I have read a variety of works including Tom Woods’ Meltdown and small sections of Jesus Huerta De Soto’s Money, Bank Credit, and Economic Cycles. It is in my opinion that although the Austrians present a solid theoretical construct of the structure of production and its relations to the business cycle, I believe that their arguments ultimately fail from their view of capital as a homogenous input, a lack of detail, and inconstancies in regards to their arrangement of production. Thus the critique below will focus solely on what I believe to be fallacies of the Austrian Trade Cycle (from now on I will refer to it as the ABCT). I am not here to put in its place another Keynesian or Monetarist prescription, but instead lay out what I think are its defects and hopefully someone will answer my questions. To be honest I find that the ABCT is one of the better arguments of the cause of boom and bust due to its innovative idea of looking at the capital structure, but I still find that some parts of it are lacking (or I have just not been able to figure them out).
So, in order to make sure that both the reader and the writer are on the same page, I will juxtapose what the Austrians consider savings induced growth with the credit expansion and proceed from there with my criticisms. I can only hope that people who respond to my criticisms can give me the same amount of respect and detail in their arguments. Although I will not provide the diagrams (as I am sure you guys do not need them), I will make reference to the Hayekian Triangles. (Along with my readings I have looked at Roger Garrison’s Power Points: http://www.auburn.edu/~garriro/macro.htm)
When society saves, funds go into cash balances and later into the market for loanable funds as investments. There is a decrease in the demand for goods in the lower stages, and a decrease in profits and investment in there for businesses. This means that people stop buying as many consumption goods, such as food, clothing, entertainment, iPods, cars, toys, etc. There is a decrease in investment in those stages. Wal Mart will not create more retail stores, McDonalds less food joints, TJMax less clothes, and Linens and Things less household decorations. In Garrison’s terms this is the derived demand effect ( “decreased consumption dampens the demand for the investment goods that are in close temporal proximity with consumable output”). However, the increase in the supply of loanable funds (and saying demand for investment stays equal) will lower the interest rate. The factors of production in these stages will be freed up and instead absorbed into the later stages of the production structure. The lower interest rate (caused by society’s increased savings) creates a greater demand for investment in the later stages, also known as the interest rate effect in Garrison’s terms (“A reduced interest rate, which means lower borrowing costs, stimulates the demand for investment goods that are temporally remote from consumable output.”)
In terms of the Hayekian Triangle, a part of the lower stages of production are taken off and instead used to expand the later stages. The output of consumer goods shrinks in height while the Triangle is lengthened (for a brief time). Because the factors of production were freed from the lower stages, the higher stages absorb the needed materials and are able to complete their expansions. The productive structure is lengthened, and a greater supply of goods will further lower consumer good prices and bring prosperity to society. In terms of the Hayekian Triangle now the hypotenuse of the entire triangle expands outward, reflecting society’s greater accumulation of wealth in the form of more capital and consumer goods.
But when the central bank expands credit beyond the supply of society’s saving, the interest rate is artificially lowered. Even though the interest rate is lowered society shows no desire to let go of consumption right now. People continue to buy consumption goods, purchase more food, clothing, entertainment, electronics, cars, toys, etc. Wal Mart continues to create more retail stores, McDonalds more food joints, TJ Max more clothes, and Linens and Things more household contraptions. There is no derived demand effect. However there is the interest rate effect and now businesses in the later stages of production expand their investments. Steel plants make more steel, mining companies mine more, plant construction booms, and a real estate market begins to grow. However, they will find that there has been no release of the factors of production in the later stages, and their prices begin to rise. In De Soto’s words, “with respect to supply, we must keep in mind that when credit expansion takes place without the backing of a prior increase in saving, no original means of production are freed from the stages closest to consumption….therefore the rise in the demand for original means of production in the stages furthest from consumption and the absence of an accompanying boost in supply inevitably result in a gradual increase in the market price of the factors of production (De Soto 363). This seems to be the main cause for the actual boom and eventual bust: no resources are freed in the present to aid the future. Tom Woods describes the “factors of production” with a little more specificity, saying “as the company works towards completing its projects, it will find that the resources it needs, such as labor, materials, replacements parts-called by economists “complementary factors of production”-are not available in sufficient quantities….the prices for these parts, labor, and other resources will therefore be higher than entrepreneurs expected, and business costs will rise” (Woods 69).
Business men who have embarked on their long term projects borrow more and more which starts to drive up the interest rate. Combined with the fact that the interest rates provoke borrowing from the earlier stages of production (businessmen there start to expand their retail stores, food production, etc) AND with the fact that consumers are borrowing credit for consumption (either durable, which counts as long term investment that originally provoked the boom, or plain consumption such as vacations which create an increased demand in the lower stages as well), society experiences a serious lack of “capital” in order to supply all of these ventures. It is as Ludwig von Mises says in “The Austrian Theory of the Trade Cycle” that “the material means of production and the labor available have not increased; all that has increased in the quantity of the fiduciary media which can play the same role as money in the circulation of goods” (p29). Either through hyperinflation (as the banks keep increasing the quantity of credit in order to push down the interest rate) or through a raise in the interest rate either naturally or by the banks do the businessmen in the higher order stages realize that their investments were wrong and a large slump in the capital goods industries occurs. Now the recession occurs as resources must be redirected away from the unprofitable capital goods industries. Without entering into the effects of the secondary depression, this is what the Austrians consider the actual bust: A poor structuring of resources in the capital goods industries.
In comparing these two seemingly different economic constructs, it seems that the main difference from savings induced growth and boom/bust is the fact that in saving the consumers postpone consumption and “release factors of production” for businessmen in the higher stages to use, whereas in boom/bust these “factors of production” are not freed and being used for current consumption. Only when these materials are “released”, only when the top of the Hayekian triangle is lobbed off and used for other stages can the growth be sustained. When they are still used, businessmen must pay more to bid them away with cheap credit which causes a rise in the interest rate and eventual crisis. Essentially it seems as though the “inputs” for the consumer good stages provided the needed inputs for the later stages. De Soto explains this succinctly, stating “in fact each increase in the demand for productive resources in the stages furthest from consumption is mostly or even completely neutralized or offset by a parallel increase in the supply of these inputs which takes place as they are gradually freed from the stages closest to consumption” (De Soto 324).
So what are these inputs, “real saved resources” (A common expression I heard in advocates of this particular theory), factors of production, etc? Is there any degree of specificity in them? Tom Woods gives a couple of examples (see above quote), but even those are pretty vague. What should make us believe that the “factors of production” for lower stages will be the exact resources needed for the higher stages? Can the construction materials used to make a new Dennys be used for the completion of a Power Plant? Take this rather silly but illustrative example; society saves 1% more of their cash income, the restriction of consumption came solely from the cutback of fast food. America instead decides that it does not require as much food and will used their savings for investments. The derived demand effect occurs in some food industries; they suffer from a decrease in demand and decide to free up resources. The resources freed are primarily food workers, grocery clerks, capital goods used in cooking and processing food, additional construction materials that could have been used for building more restaurants and stores, etc. Now, with or without the concept of full employment of resources (it is a variable for the business cycle, the theory can deal with whatever degree of resources are idle), these factors of production are the “real saved resources”.
Going back to the consumers investing their funds, the interest rate is lowered and the time discount effect occurs. According to the Austrians theory these resources should be fully incorporated into whatever resources are needed by the higher order businesses (See the De Soto quote above). For the theory to work correctly the resources would, because if businessmen needed more than were “given”, they would have to bid them away from earlier stages and raise costs and borrow more, and then not possibly complete any projects due to a lack of required materials. In any ABCT I have read, there is little to no mention of the actual resources themselves and whether they need to be specific or not, all that is said is factors of production geared towards consumption can be used to fuel earlier production. Is there mention of training for different labor, specificity of capital goods, distance between where the factors of production were freed up and where they will be used, etc? No, all that I am aware of is that the capital blob of from any saving of resources can be used to fuel the expansion of earlier industries. This seems to be the fatal flaw in the Austrian argument, what one man saves may not necessarily be the resources that another man requires. One man’s trash may really not be another man’s treasure.
There are other inconsistencies as well regarding the structure of production. In a similar tone in regards to “factors of production”, the Austrians make reference to the “higher stages”, and the “lower stages”. Well, what is the difference? I understand that the Austrians emphasis subjectivity in their economics, ranging from the basic fact of human action to marginal utilities and entrepreneurial decisions, but at what is the dividing point between the higher and the lower? Or in other words, when do businesses stop experiencing the derived demand effect and instead the interest rate effect? How far into the structure of production or the Hayekian Triangle will the resources be free from?
Lastly, in regards to the Hayekian Triangle and structure of production, how does the Triangle exactly move outward? Garrison never explains this in his PowerPoints, instead in slide 24 simply showing an the entire triangle/economy grow due to increased savings without an explanation But, how exactly? I understand that increased saving creates capital goods which improve production and more efficiency and later cheaper consumer goods, but the process is never expanded from that in relation to the productive structure. The triangle and the economie's resources seem to be built off of itself, meaning that via saving factors from the lower stages supply the needed inputs for the higher stages. So where do the resources come from to move the entire triangle outward?How do consumer goods industries, which initially lose their factors of production for later stages, suddenly get factors of production and expand? The Austrians, despite their highly complex view of time,saving, and production in the economy do not reveal these answers clearly.
Hopefully someone will be able to answer my questions regarding the structure of production and the homogeneous blob of capital resources.Remember that I am a fellow Liberal who has taken an interest in reading this material, I have only read a couple of books. Still I believe my understanding of the theory to be solid and these questions sufficient. If the Austrians and their view of Business Cycle/Growth is correct than these questions must be answered.
Jake McCloskey: liberty student:Then why did you call it homogenous? If you read his argument you might understand. His point is that resources might not be bid away from lower stages of production because they are not the resources that are required for the higher stages.
liberty student:Then why did you call it homogenous?
If you read his argument you might understand. His point is that resources might not be bid away from lower stages of production because they are not the resources that are required for the higher stages.
At the basest level, resources are "capital" (i.e., loanable funds, cash, etc.) and labor, both of which are fairly mobile.
A million dollars in the bank, waiting to be loaned out is the same to me as it is to you. But once I take that $1M and convert it to lathes and drill presses, you're going to have one hell of a time making basketballs with it, if my table-leg manufactory goes out of business.
So one problem that arises is that capital goods are not mobile, and generally well-suited for only a small handful of tasks.
So, following the credit/capital theory put forth by DeSoto/Garrison/etc., capital is bid away from some sector of the economy (theory says short-term productions) towards another sectory (thy says long-term productions) whereupon it is converted into capital goods which are heterogeneous, and this is where the problem occurs, because these capital goods are not easily or inexpensively repurposed. When it is revealed that these investments were made in error, as a result of the credit influx/boom, a real diminution of material well-being occurs, because a lot of capital goods are essentially junked/squandered.
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David Z
"The issue is always the same, the government or the market. There is no third solution."
krazy kaju:You can't chastise Austrians for viewing the economy as non-dynamic
It was poor writing on my part. I didn't mean "Austrian critiques" but "critiques of Austrians". Sorry.
I believe Austrians view the economy as dynamic.
Jake McCloskey:This is the point that Tullock takes issue with, and that I still haven't seen a viable response to. These capital goods aren't created for industries with zero pre-existing demand; the demand for them during the boom phase is just overstated. After the maliinvestment is discovered, these capital goods can still be used for the purposes they were made for, but since the supply of them has increased, their price will go down. This might cause businesses that invested in them to go bankrupt, but the goods themselves would not be squandered. This doesn't deny the effect of the credit, only that it wouldn't lead to a recession.
Jake, I think the key to the Austrian response lies in emphasizing not the objective, physical capital goods (which Tullock seems to do) but the subjective "methaphorical structure of production", to use Salerno's phrase. The point is not that buildings, factories, cranes etc. can't be built in time (because, well, they can) but that because of the lack of savings and the falsified interest rate the lengthened structure of production can't be completed due to the fact that increase prices of complementary goods will make such investments unprofitable.
Now, you seem to have a better understanding of Austrian theory and the ABCT than almost everybody else here does, so I won't lecture you. But some Austrians have emphasized the importance of the notions of complementarity in regards to the ABCT. In order for goods of one stage to provide goods for the next stage all of the complentary factors of production of required. Now, because the interest rate has been falsified entrepreneurs have incorrect notions of the urgency of various wants. They believe that consumers are more willing to sacrified present consumption than they are and that accordingly, they have will have access to labour and other complementary goods. But as you know, in the Austrian story, this just isn't so. They don't have the access to goods that they believe they do. This makes long term investments unprofitable as the price of labour is bid up. The fact that consumers do want present satisfaction more than entrepreneurs believe they do means that employing labour in the stages of production closest to consumption will be more profitable than employing it in the production of capital goods will be.
On a similar note. The notion of imperfect substitutability comes in when we discuss the boom. If capital were homogenous and perfectly substitutable then the boom would be over very quickly, in fact, almost instantly. But it isn't, capital must be refitted for it's new task, and labour must wait for the necessary capital and be retrained accordingly. Various price rigidities will only make this worse, especially in a deflationary environment.
As I said, I'll get to this post in more detail later.
"You don't need a weatherman to know which way the wind blows"
Bob Dylan
I think the main problem arises from trying to apply the ABCT to an event that did not follow the course outlined in it. The traditional ABCT has validity, but it does not explain the recent real estate / consumer goods boom and the subsequent bust: I explained this at http://www.economicsjunkie.com/the-austrian-business-cycle-theory-insufficient-at-explaining-the-current-financial-crisis/
The biggest flaw is that it's a model. Yet, it still "works".
Nima: I think the main problem arises from trying to apply the ABCT to an event that did not follow the course outlined in it. The traditional ABCT has validity, but it does not explain the recent real estate / consumer goods boom and the subsequent bust: I explained this at http://www.economicsjunkie.com/the-austrian-business-cycle-theory-insufficient-at-explaining-the-current-financial-crisis/
I think your scope was to narrow... The capital formation (or rather misformation) was done in other parts of the world.
Also, you could notice oversupply of steel with mines closing recently, overinvestment in shipyards etc...
I never said that capital formation did not happen in other parts of the workd. In fact, it is rather obvious that a big part of US consumption goods was produced abroad in China. So those export countries, too, bacame part of the consumption business cycle and are now hurting due to the fact that their consumer goods are no longer as demanded as they used to be. Hence, my theory of the consumption business cycle beautifully integrates with all that happened recently. I pointed this out in the ensuing discussion comments under that post so I assume you must have missed that.
Nima: I never said that capital formation did not happen in other parts of the workd. In fact, it is rather obvious that a big part of US consumption goods was produced abroad in China. So those export countries, too, bacame part of the consumption business cycle and are now hurting due to the fact that their consumer goods are no longer as demanded as they used to be. Hence, my theory of the consumption business cycle beautifully integrates with all that happened recently. I pointed this out in the ensuing discussion comments under that post so I assume you must have missed that.
Well, which is it?
In a capital goods boom and bust (classic ABCT theory), goods higher up in the production process fall in price much more. Did copper fall in price more than corn? How about the price of all of the capital goods in the tens of thousands of factories going out of business here in Southern China, vs the price of food at the supermarkets here (which is steadily going up, btw)
Jesus Huerta de Soto makes it clear that it is this price movement, during the inevitable bust, which is the characteristic of a classical ABCT bubble (in Money, Bank Credit, and Economic Cycles). In a true consumer goods driven bubble, the prices of consumer goods would fall relative to the price of everything else. That's not happening (with the only possible exception of housing, and only if you define the house as a consumer good instead of the rent / live in value it produces every month).
When you have China financing so much of the US's consumption (in exchange for promises of future goods), you have to take into account their capital goods industries as well, or consider both markets as one large one.
It's not about prices!!! Prices may go up or down or not change at all, but they are always merely a symptom of underlying developments. If anything you would have to look at the number of goods sold multiplied by prices, and put the two into relation.
As you can see in my chart (http://www.economicsjunkie.com/wp-content/uploads/2009/06/us-true-consumption-as-percentage-of-gdp-1929-2008.png), during the boom, production and sales of consumer goods went up relative to capital goods. Now, during the correction, production of capital goods is going up against consumer goods. This is precisely contrary to the events outlined in the classic ABCT.
Let me just ask you in very simple terms, set aside all your bias in trying to apply the ABCT to what happened:
Do you think the crisis in the US primarily came about due to an overhang in the production of industrial robots, unfinished production facilities, an excessive number of energy plants, oil rigs, and the like? Is this what you see when you walk through the streets, look at the news, read the papers?
Isn’t it rather obvious that we are primarily faced with a massive overhang in consumer goods, such as houses, cars, strip malls, Starbucks branches, nail salons, beauty salons, energy drinks, shampoos, fast food stores, kitchen appliances, flat screen TVs, etc. ?
When I talk about a shift from producing capital goods to consumer goods, I mean that, as a tendency, and within a certain period, the entire structure of production moves closer toward turning out immediate consumption goods rather than goods that are half finished or that aide in the production process. I do NOT mean that suddenly all capital goods disappear and all we have is consumer goods. This is simply not possible since the consumer goods also need to be produced by utilizing capital goods.
Cars, flat screen TV's, kitchen appliancies etc. are consumer durables, not consumer goods. There are in essence capital goods to a consumer. There also must exist capital to support overproduction of those goods.
Nail salons, starbucks coffe shops, shoping malls, casinos, hotels, airplanes are all capital goods. There were investments in capital goods that yielded no value to consumer.
There is massive surplus in transport capacity (trucks, ships), shipyards, steel mines and all the industries related to production of such goods. There is also surplus in construction machinery, cement factories etc.
azazel: TVs, cars, nail treatments, movies, shiny stovetops, etc. are consumer goods, by every criterion one could possibly apply. That one would list those as capital goods simply baffles me. That you have to bend and twist youself and call them "in essence capital goods to a consumer" (which one is it now??) indicates that you are not very comfortable with your thesis yourself. Seriously? You consider a TV, a kitchen faucet, or a Porsche Boxter a factor of production?? Come on now! :)
But let me ask you, just for the sake of your argument: What DOES pass your test as consumer good if not a TV??
I will now repeat what I already said and what I assume you may have overlooked:
"Yes a Starbucks location is a factor of production, a capital good. But it is one that immediately turns out cups of coffee, consumer goods. It is thus much closer to the consumption stage, than, say, a store that sells industrial robots, or a factory that produces metal parts, or an oil rig that drills for crude oil.
When I talk about a shift from producing capital goods to consumer goods, I mean that, as a tendency, and within a certain period, the entire structure of production moves closer toward turning out immediate consumption goods rather than goods that are half finished or that aide in the production process. I do NOT mean that suddenly all capital goods disappear and all we have is consumer goods. This is simply not possible since the consumer goods also need to be produced by utilizing capital goods."
E. R. Olovetto: Duckinstein:This seems to be the fatal flaw in the Austrian argument, what one man saves may not necessarily be the resources that another man requires. One man’s trash may really not be another man’s treasure. I don't quite understand what is going on here and don't care wasting my time on it.
Duckinstein:This seems to be the fatal flaw in the Austrian argument, what one man saves may not necessarily be the resources that another man requires. One man’s trash may really not be another man’s treasure.
I don't quite understand what is going on here and don't care wasting my time on it.
Then why bother responding at all? The guy asked an intelligent question, politely, and giving every impression of wanting to learn something. I count two posts among all the replies that actually attempted to respond, and everyone else is basically just saying "don't question Holy Writ!" (except for McCloskey, who's off on some silly tangent, again).
Duckinstein: you appear to think the "factors" at the lowest (closest to the consumer) level under consideration are things like hamburgers -- but, of course, McDonalds' hamburgers are made daily: once they start losing sales, they'll cut back on their burger production, and thus on their meat and bread orders, etc., and the baker who bakes the buns will cut back on his orders for flour, eggs, etc.; ultimately, the factors being saved are mostly fairly highly "retargetable", coming from more distant lines of production (the methods of production that get extended due to saving or malinvesting are not necessarily the same ones that existed prior)
Nima: It's not about prices!!! Prices may go up or down or not change at all, but they are always merely a symptom of underlying developments. If anything you would have to look at the number of goods sold multiplied by prices, and put the two into relation. As you can see in my chart (http://www.economicsjunkie.com/wp-content/uploads/2009/06/us-true-consumption-as-percentage-of-gdp-1929-2008.png), during the boom, production and sales of consumer goods went up relative to capital goods. Now, during the correction, production of capital goods is going up against consumer goods. This is precisely contrary to the events outlined in the classic ABCT. Let me just ask you in very simple terms, set aside all your bias in trying to apply the ABCT to what happened: Do you think the crisis in the US primarily came about due to an overhang in the production of industrial robots, unfinished production facilities, an excessive number of energy plants, oil rigs, and the like? Is this what you see when you walk through the streets, look at the news, read the papers? Isn’t it rather obvious that we are primarily faced with a massive overhang in consumer goods, such as houses, cars, strip malls, Starbucks branches, nail salons, beauty salons, energy drinks, shampoos, fast food stores, kitchen appliances, flat screen TVs, etc. ? When I talk about a shift from producing capital goods to consumer goods, I mean that, as a tendency, and within a certain period, the entire structure of production moves closer toward turning out immediate consumption goods rather than goods that are half finished or that aide in the production process. I do NOT mean that suddenly all capital goods disappear and all we have is consumer goods. This is simply not possible since the consumer goods also need to be produced by utilizing capital goods.
No, it is all about prices. During the boom the interest rate, the price of money, is lower than it would be without an artificial expansion of the money supply and given the current state of savings. Because of this, entrepreneurs or management think there is enough savings to fund long term investments (or in the case of some management know there isn't but proceed to act as if there were, knowing that they will make a lot of money through stock options before the real owners wise up), and as they bid on them the price of capital goods rises relative to consumer goods. Hence the price of the factors of good farthest from consumption go up the most (including titles to these factors, aka stocks)
When the bust comes, the price of consumer goods rises relative to capital goods (depending on what's happening to the money supply, both could be falling or rising though).
That's classic ABCT theory. If you say it isn't, you are strawmanning the theory and should read more of Mises and/or Jesus Huerta de Soto, who is a little more clear on the issue.
Again, to be clear, in an ABCT boom, the prices of capital goods rise relative to consumer goods and then this reverses when the bust sets in. This is undeniably true if you accept the idea that interest rates are lower than what they would have been otherwise thanks to an expansion of the money supply and what follows from that.
You can't really analyze this boom & bust clearly without taking into account other countries that lent us vast sums of consumer goods in exchange for future promises of something tangible (right now they are still mostly paper promises sitting on the books of central banks around the world).
@WisR:
You quoted my entire comment and at the same time ignored everything I said in there except for the first sentence.
"That's classic ABCT theory. If you say it isn't, you are strawmanning the theory and should read more of Mises and/or Jesus Huerta de Soto, who is a little more clear on the issue."
Where did I say that it isn't? I outlined precisely that process myself in what I call the production business cycle (http://www.economicsjunkie.com/the-business-cycle-revisited/#production). I fully agree with Mises' ABCT. I never said anything to the contrary.
I don't mean to get picky, and I assume you chose your words out of convenience, but just to be clear on what you said: "During the boom the interest rate, the price of money, is lower than it would be..." - the interest rate is NOT the price for money, it is the price for credit. But other than that, yes, you've done a fine student's job reciting Mises' brilliant ABCT ... what is unclear to me is what your comment has to do with the thesis I am proposing.
So, what are you saying is that the development of consumer credit changes the model?
@Caley McKibbin:
I thought about what you said for a while and I believe we are on the same page. I just want to clarify that I do NOT propose to change the model of the ABCT itself, the theory that explains the events that ensue upon the expansion of business credit.
I am merely saying that this existing model does NOT cover the events that ensue upon the expansion of consumer credit. This is, in fact, what Rothbard himself admitted.
As I pointed out on http://www.economicsjunkie.com/the-business-cycle-revisited/:
Rothbard and Mises hold that a credit expansion that aims at expanding consumer credit will not cause a business cycle:
Mises did not deal with the relatively new post-World War II phenomenon of large-scale bank loans to consumers, but these too cannot be said to generate a business cycle. Inflationary bank loans to consumers will artificially deflect social resources to consumption rather than investment, as compared to the unhampered desires and preferences of the consumers. But they will not generate a boom-bust cycle, because they will not result in “over” investment, which must be liquidated in a recession. Not enough investments will be made, but at least there will be no flood of investments which will later have to be liquidated. Hence, the effects of diverting consumption investment proportions away from consumer time preferences will be asymmetrical, with the overinvestment-business cycle effects only resulting from inflationary bank loans to business. Indeed, the reason why bank financing of government deficits may be called simple rather than cyclical inflation is because government demands are “consumption” uses as decided by the preferences of the ruling government officials.
Mises did not deal with the relatively new post-World War II phenomenon of large-scale bank loans to consumers, but these too cannot be said to generate a business cycle. Inflationary bank loans to consumers will artificially deflect social resources to consumption rather than investment, as compared to the unhampered desires and preferences of the consumers.
But they will not generate a boom-bust cycle, because they will not result in “over” investment, which must be liquidated in a recession. Not enough investments will be made, but at least there will be no flood of investments which will later have to be liquidated. Hence, the effects of diverting consumption investment proportions away from consumer time preferences will be asymmetrical, with the overinvestment-business cycle effects only resulting from inflationary bank loans to business.
Indeed, the reason why bank financing of government deficits may be called simple rather than cyclical inflation is because government demands are “consumption” uses as decided by the preferences of the ruling government officials.
... you see?
Rothbard himself says with 100% clarity that an expansion of consumer credit does NOT create "the business cycle". But by "the business cycle" he can't be referring to anything else but the ABCT.
He calls the events that ensue upon consumer credit expansion "simple inflation". OK, very well, let's call it that. But then he still needs to clarify what exactly he means by that.
He also leaves open why the structure of production shouldn't change upon such a consumer credit expansion. Why should it be impossible for the structure of production to be aligned toward an excessive production of consumer goods, while it IS possible for it to be aligned toward an excessive production of capital goods? - There is absolutely no reason.
He clearly leaves a void right there that needs to be filled. That is all I am suggesting, that we fill that void.