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Arnold Kling Takes on Rothbard and the ABCT.

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Arnold Kling Takes on Rothbard and the ABCT.

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Lagrange multiplier posted on Thu, Sep 30 2010 8:28 AM

http://econlog.econlib.org/archives/2010/09/rothbard_on_the.html

His two main points (which I think he stole from me) are:

  1. If one always preaches that the sky is about to fall, then when recessions do actually happen, one can boast that one's model is obviously correct, even though other forecasts have been "embarrassingly bad."
  2. One cannot assume entrepreneurs are abnormally stupid about low interest rates.

The best response, so far, comes from andy:

"My main problem with the Austrian theory is that it presumes that businesses are highly myopic. An entrepreneur should be able to tell when the central bank is keeping interest rates too low. In that case, he should not say, "Oh, boy. Let me commit to long-term production based on these low interest rates." Instead, he should say, "I'd better be careful. These interest rates are artificially low." "

There are 2 problems with this objection:
* Market price is both 'result' of market forces and 'incentive' to do some things. If government starts influencing the rate, you may know that this signal is wrong. But you do not have a better signal. It's like driving an airplane with totally non-sensical speedometer. The fact that you know that some information is wrong doesn't mean you know the correct information.

* The lower interest rate *means* that money is more available. The whole notion is based on the fact that prices do not change instantly. More money available means that more people have incentive to invest. However, if we assume good investors decide not to invest, the bad investors get the money.

One of the reasons market works is that it directs money from bad investors to the good investors. If the good investors know about the problem, they will refrain from investing - and the money can go to bad investors. If it still doesn't work, the Central bank WILL lower the interest rate further to make them invest.

It's a kind of prisoner dilemma.

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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Lagrange multiplier replied on Thu, Sep 30 2010 5:04 PM

I SEE GAPING HOLES IN YOUR ARGUMENT!

I AM AWESOME THINKER!

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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JAlanKatz replied on Thu, Sep 30 2010 5:07 PM

Well, what I actually said was that we'd see in hindsight that there were malinvestments, not which investments were malinvestments.  Yes, some losses can have other causes, all of which can be summed up as "expectations didn't match reality."  The thing to be explained in a recession/depression is not why mistakes were made, but why there was a coordination, as it were, of mistakes.  If I buy up brocolli and cream, thinking that people will buy brocolli ice cream, and I'm wrong, then in the meantime, since I wasn't buying chocolate, the price of chocolate fell while the price of brocolli rose.  Other ice cream producers, then, are incentivized to make chocolate ice cream.  So what's interesting in a recession is that it turns out that an entire sector made mistakes.  

On the question of identifying them, though, while certainty is hard to come by, we do have some heuristics. For instance, a project which did not come to fruition before the recession hit is likely a malinvestment.

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liberty student replied on Thu, Sep 30 2010 5:13 PM

StrangeLoop:
Then, let's suppose in hindsight, as you claim, we will see where the malinvestments were. Now, to believe in such "malinvestments" as due to the lower interest rate, how do we differentiate economic losses (as generally understood) with malinvestment (as defined by Austrians)?

Have you considered how inconsistent it is to talk about incentives, and then to reject a theory about incentives like the ABCT?

StrangeLoop:
That is, during an economic recession, how do we know which losses are due to malinvestment? For instance, some losses could have other causes (e.g., widespread change in preferences).

The point is that manipulating the interest rates creates widespread changes in preferences.  Widespread changes based on false information, are by definition, malinvestments, particularly investments where the interest rate communicates that there is a larger capital stock and different demand structure than their really is, and thus projects are started which cannot be finished, and thus those resources must be recovered (that which isn't wasted outright) results in a squandering of resources which is the OPPOSITE end of entrepreneurship.

"When you're young you worry about people stealing your ideas, when you're old you worry that they won't." - David Friedman
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Jonathan M. F. Catalán replied on Thu, Sep 30 2010 5:15 PM

How do we know determine which investments are "malinvestments"?

I think all investments which result in loss are malinvestments.  Austrian business cycle theory explains why a large number of malinvestments may reveal themselves enmasse.

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Lagrange multiplier replied on Thu, Sep 30 2010 5:16 PM

liberty student, let's suppose an investor waits until the interest rate is lowered to lengthen his structure of production; if that project can be finished even when interest rates rise, then is it a "malinvestment"?

I really don't know, so I'm happy to hear what Austrians say.

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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liberty student replied on Thu, Sep 30 2010 5:21 PM

StrangeLoop:
liberty student, ilet's suppose an investor waits until the interest rate is lowered to lengthen his structure of production; if that project can be finished even when interest rates rise, then is it a "malinvestment"?

What is a malinvestment?

"When you're young you worry about people stealing your ideas, when you're old you worry that they won't." - David Friedman
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Lagrange multiplier replied on Thu, Sep 30 2010 5:31 PM

I don't know! That's exactly what I was asking!

If I was looking out at the world, how I would I identify a "malinvestment" in the wild?

Jonathan asserted that all bad investments were "malinvestments," but I thought Austrians used the term in a stricter sense (i.e., if interest rates weren't artificially lowed,  malinvestments would cease to exist).

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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liberty student replied on Thu, Sep 30 2010 5:45 PM

StrangeLoop:
I don't know!

lol

"When you're young you worry about people stealing your ideas, when you're old you worry that they won't." - David Friedman
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JAlanKatz replied on Thu, Sep 30 2010 5:46 PM

I'd disagree, but only for the sake of having a word for certain things.  

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JAlanKatz replied on Thu, Sep 30 2010 5:47 PM

Why did he wait?  It is clear, from basic praxeology, that he didn't consider it worth doing at the higher rate.

Unless you mean he's some kind of insider who would have done it anyway, but heard that the rates were going down, and so decided to wait.  Then I'd say it's not a malinvestment.

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Lagrange multiplier replied on Thu, Sep 30 2010 5:47 PM

But what are those "certain things," JAlanKatz?

liberty student, if you can, please take an opportunity to enlighten me. That way, you get to actually show how smart you are.

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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Lagrange multiplier replied on Thu, Sep 30 2010 5:49 PM

Unless I am given reliable criteria on how to distinguish malinvestments from bad investments, I remain unconvinced that such phenomena even exist.

Now, if we bite the bullet as Jonathan did, then all bad investments are malinvestments, but I'm not sure that's what Austrians typically mean.

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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Jonathan M. F. Catalán replied on Thu, Sep 30 2010 5:54 PM

Jonathan asserted that all bad investments were "malinvestments," but I thought Austrians used the term in a stricter sense (i.e., if interest rates weren't artificially lowed,  malinvestments would cease to exist).

Austrians use the term "malinvestment" to distinguish from "overinvestment".  Ultimately, all investments are rated either through profit or loss, and bad investments (or malinvestments) are investments which resulted in a net loss (generally speaking).

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JAlanKatz replied on Thu, Sep 30 2010 5:55 PM

I'm sorry, I assumed some familiarity with ABCT.  Those certain things are investments that would not have been made at the market interest rate, but seem profitable at the interest rate available after Fed operations.

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Lagrange multiplier replied on Thu, Sep 30 2010 5:57 PM

http://mises.org/easier/M.asp

Yup, you're right, Jonathan.

I guess the point I am addressing is a bit narrower: during a recession, how do we spot which errors were the result of "artificially low interest rates," or is that an infeasible goal?

"I'm not a fan of Murray Rothbard." -- David D. Friedman

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