In-depth analysis on Credit Writedowns Pro.

Confessions of an Austrian economist

There is a school of thought amongst economists called the Austrian School because it first came to the fore due to the teachings of Ludwig von Mises, Eugen von Böhm-Bawerk, and Gottfried Haberler, all well-known Austrian economists popular at the beginning of the 20th century.  The Austrian School is founded on conservative, fiscally prudent principles that see credit as central to the business cycle. I have long been a devotee of the Austrian School.

As a result, I am sceptical of the current fiat money world we now live in and I reject the profligate, debt-inducing, easy money policies of the Federal Reserve under Alan Greenspan.  In fact, for quite a number of years I have warned that this experiment of debt, easy money and fiat currency would end in disaster.  And so it has.

My Austrian School background has been useful as a lens through which to view the credit bubble and crash.  Central to this view is the precept that easy money is the problem and not the solution. However, as the crash has unfolded, I find myself parting ways with the Austrians.  I have always felt the Austrians are more useful for their economic framework. But they leave me underwhelmed when it comes to solutions for when problems occur.  Their “Let them eat cake” approach comes dangerously close to Andrew Mellon’s draconian Depression era prescription and is more likely to end in a deflationary spiral and a worsening of the problem.

And so it is today. If we are to find our way out of this crisis — the worst in three quarters of a century — it will not be the ideas of Ludwig von Mises or Murray Rothbard which will guide us.  It is more the work of John Maynard Keynes and his followers that is likely to offer useful prescriptions.  As much as I would like to look to the Austrian School in this crisis, I cannot.  These are the confessions of a former Austrian Economist.

If one looks back over the last quarter century or more of international economics, one cannot help but understand that debt and leverage have been central to the force that built up creating the calamitous financial crisis we are now experiencing.  I have previously said:

The monetary stewardship of Alan Greenspan’s Fed and the credit bubble it created has manifested itself in several ways that parallel previous episodes of credit-engendered over-investment:

  1. Inflationary monetary policy leads to an expansion of credit throughout the economy, the basic building block for a boom-bust business cycle.
  2. In a credit boom, less credit is available for productive assets because credit and resources are diverted to marginal debtors and high-growth/high-risk activities. Low interest rates and expansionary credit environment gives the illusion of profitability to unproductive investments and high-risk activities in the economy, that would appear foolish in an appropriate monetary environment.
  3. Companies, flush with cash, invest heavily to prepare for expected future growth. An investment and capital-spending boom ensues.
  4. Higher asset prices lower the cost of capital, fuelling a further boom in investment and capital spending, creating overcapacity in goods and services industries.
  5. The increase in asset prices produces the so-called ‘wealth effect’ for consumers: a decrease in savings and an increase in consumption.
  6. As the whole episode rests on an excess creation of credit, debt levels increase greatly.
  7. The inflationary monetary policy is extremely distortionary as it redistributes capital to economic actors whose costs rise after their income from those whose costs rise before their income.  Those who live from a fixed and interest income like pensioners find their costs rising with higher inflation while their income decreases in real terms.
  8. Runaway asset price/consumer price inflation ultimately demands higher interest rates and a contractionary monetary policy, whereupon the whole house of cards collapses.
  9. When the asset price bubbles pop, revulsion steps in, credit contracts and the bubble currency depreciates, as hot money flees the depreciating assets.
  10. Eventually, the inflationary monetary policy debases the fiat currency, leading to a relative appreciation of the prices of ‘hard’ assets (like gold and silver and commodities like oil and natural gas) relative to the home currency.
  11. The result is a wealth effect in reverse, leading to a collapse in consumption, a secular bear market and recession.
  12. An expansionary monetary policy in a post-bubble environment can cushion a hard landing but does only lengthen the period before full economic recovery.

And until recently, I might have rejected attempts to mitigate the crisis and the negative fallout it has on people’s lives because of the large potential for misallocating resources, feeding political patronage and special interests or for lengthening the crisis. In a previous post I said:

My economic viewpoint is founded on the Austrian economics. This framework rightly associates the business cycle with the credit cycle.  Moreover, the Austrians understood that monetary authorities have limited resources to correct the excesses of an investment-led boom/bust and, that attempts to mitigate the credit cycle invariably reflate and exacerbate the bubble.

But, the Lehman bankruptcy changed things significantly.  We went from a festering problem to a full-scale deflationary spiral.  We have entered a new stage where sitting on one’s hands as the Germans intend to do risks financial Armageddon.  We cannot sit by and watch this crisis liquidate assets, taking down good companies with bad, throwing people out of work, wreaking havoc on their lives, and leading to a brutal and painful downward spiral of asset and debt deflation and depression.  This is not a prescription for success, either economically or politically.  This is the prescription for chaos, turmoil, civil unrest and perhaps worse.

However, this is what the Austrians would have us do in the present downturn.  It is the same wrong-headed prescription given to the Asians in 1998 and to Argentina in 2001.  We squandered an opportunity for fiscal prudence when the economy was on more solid footing.  With depression on our doorstep, is now the right time to start cutting back?

This would mean liquidating General Motors, bankrupting Royal Bank of Scotland and Citigroup or allowing Iceland, Hungary and Pakistan to fend for themselves.  In theory, each of these measures seem prudent.  But, in practice, these measures would result in huge job loses, would induce further deleveraging and asset price declines, would deplete capital from an already fragile global banking system, and would lead to a probable depression of unimaginable severity.  It is in such a bleak environment that dangerous despots and dictators like Hitler and Mussolini rose to power, taking advantage of the natural human need for ‘strong’ leader in a time of chaos and uncertainty.  Could we expect any different today?

Nevertheless, one must ask: “what does mitigating the effects of a burst credit bubble look like in economic and monetary policy?”

First, let’s look to the goals of stimulus:

  1. Cushion the real economy effects of deleveraging so as to prevent the prospect of a downward spiral of unemployment, lowered consumption, lowered capital spending and production and more unemployment which could also engender civil unrest, revolution and war (see Greece to understand what I mean).
  2. Restore liquidity to the financial system such that worthy profitable initiatives receive funding and promote economic growth — where they would not in an illiquid and capital constrained credit market.
  3. Recapitalize the financial system through public and private funds to prevent systemic collapse as a result of deleveraging and restricted credit.

Deleveraging is what we should fear here because it creates a vicious spiral that reduces asset prices and credit availability sucking the entire economy into a deflationary spiral.  I have discussed this at length in other posts.  So I will gloss over this analysis here.  But, please see the posts below for more on this issue:

Credit deflation and the Japanese problem
The Japanese Problem is now ours
De-leveraging redux

The stimulus should therefore involve most of the following measures in order to mitigate the effects of deleveraging:

  1. Supportive government spending in infrastructure (human and capital) – (the risk being malinvestment as government misallocates resources or shifts funds to special interest groups.)
  2. Most controversially, it may involve quantitative easing, which is inflation and currency depreciation plain and simple. (The risk being extremely high inflation if the central bank cannot retract the excess liquidity once the economy has found its footing – and we should remember that inflation is essentially theft through depreciation of the currency’s purchasing power).  I should also note that I am NOT a fan of massive interest rate cuts (easy money) as a policy response as it leads to bubbles and malinvestment – witness the current bubble in U.S. treasury and other G7 government securities.  The goal is liquidity, not bubbles.
  3. Other measures would include debt relief, debt workout provisions/ mortgage relief so as to mitigate the real burden of mortgage debt which began this crisis and which is most important to the electorate.
  4. Bankruptcy law reform (in the United States in order to allow cramdowns on residential property).  I have been advised by bankruptcy lawyers on the front lines that this is a major impediment to a residential mortgage workout.  In all other scenarios in the U.S., a cramdown is possible.  Only with residential mortgages it is not.  This must be addressed quickly or we will continue to see many mortgage defaults.

Simultaneously, the financial system must be reformed quickly in order to speed the turnaround much as the Austrians wold say.  Some of these steps have already been taken, but much remains to be done and it needs to be addressed comprehensively, not on an ad-hoc basis.

  1. Liquidate or merge moribund financial institutions. This is the greatest oversight of the current policy response. It has been much too slow. An independent body should make a determination regarding the solvency of every single bank. This avoids the problem of having to bail out the Citigroups of this world. The faster the liquidation process is complete, the sooner confidence will be restored.
  2. Create a Good Bank – Bad Bank split i.e. separate good assets from dodgy assets. This will bolster banks’ counter-party confidence. Lehman Brothers had it right when it attempted to do this.  But, that was just before the company failed.  The Swedes attempted this plan most successfully and it has been copied in the Citigroup bailout.  It needs to be undertaken comprehensively.
  3. Re-regulate to prevent excessive leverage, imprudent lending, a favoring of debtors over savers, and the proliferation of dangerous unregulated markets like the market in Credit Default Swaps.
  4. Create a global lender of last resort. The Fed seems to have taken on this role.  However, they are beyond their depth. Their ability to reflate the entire global economy is limited. We need a true global lender of last resort as posited by Charles Kindleberger.

I have gone in to great detail regarding the need for a comprehensive solution in past posts so I will leave it there.  For more on potential solutions, see:

The U.S. financial system is effectively insolvent
The $700 billion Paulson Plan is dead on arrival
Lehman’s bankruptcy: putting the cart before the horse?
The Swedish banking crisis response – a model for the future?

Ultimately, my position on the cure to our economic ills is largely unchanged. We need to save more, spend less and reduce debt. We need to invest in our infrastructure, human and capital, and we need to make things people want – not turn into a mass of money changers and finance wizards.

However, I now recognize the very real need to mitigate economic fallout from this downturn through monetary and fiscal stimulus in order to prevent worst-case outcomes that result from the deleveraging downward spiral. This means government must be involved.  And as such, there is always the potential for mischief when government inserts itself into the process.

None of this stimulus prescription is axiomatic.  I have a tough time advocating large-scale government intervention.  But, is there any other way out of this mess?  Is stimulus just a recipe for government meddling? And are we wasting our time by trying to prevent the inevitable?

These are all questions that need to be answered because we are about to embark on an historic and global experiment in fiscal and monetary stimulus.  Comments are appreciated.


Edward Harrison is the founder of Credit Writedowns and a former career diplomat, investment banker and technology executive with over twenty years of business experience. He is also a regular economic and financial commentator on BBC World News, CNBC Television, Business News Network, CBC, Fox Television and RT Television. He speaks six languages and reads another five, skills he uses to provide a more global perspective. Edward holds an MBA in Finance from Columbia University and a BA in Economics from Dartmouth College. Edward also writes a premium financial newsletter. Sign up here for a free trial.


  1. Stevie b. says:

    Ed – great post and I haven’t digested it all, but initially it would seem that the prescription needed here-and-now is largely the antithesis of your essential tenets that ” we need to save more, spend less and reduce debt”. I realise this may be the long-term goal, but short-term actions will surely postpone this for many years.

    In a way, I find myself “heartened” by QE and all that it implies – and it implies that there will be meaningful deflation only over the dead bodies of most Central Banks, and yes the ECB will be a belated convert to the cause. They are all going to go down together! You are right that stimulus may be a recipe for government meddling/nationalisation/call-it-what-you-want, but at this juncture, who the hell cares! You are also right about inflation being theft through currency depreciation, but to a large degree, all currencies will depreciate together – implying a levelling-down of Western wealth to at least a bit more of a level global playing-field. Let’s face it, we’ve been postponing the evil day for at least a decade. There will indeed be a short period when savers get shafted, but then interest rates will rise to knock inflation back, and round a possibly shortened cycle we will go again – just buying time and postponing the necessary Western readjustment for a little longer.

    The biggest mistake would be the surreptitious imposition of trade barriers in the mistaken belief that “stuff” should be produced domestically. This would really be the route to true long-term impoverishment of Western consumers via over-priced, locally-produced goods. We need to realise that a meaningful period of severe adjustment lies ahead, but at the end of it we will emerge into sunlit lands where non-western consumers enriched through free trade will increase global demand for those things – tangible and intangible – at which the West will specialise and excel, thereby increasing the real wealth of Western consumers.

    I must stop because I feel faint from a lifting cloud of 11 years of bearishness! We may not be half-way into the woods, but at least we now think we’re actually in the woods! When we realise we’re in a mega-forest, then it’ll be time to become a raging bull!

  2. Wag the Dog says:

    I got pulled into the economics blogosphere via the Austrians which is not surprising given how vocal they seem to be. Think of all the viral video featuring Ron Paul and Jim Rogers. I eventually soured to that whole approach due to several factors:

    A significant number of fans of Austrian economics (particularly among bloggers) also were pushing New World Order conspiracy theories featuring the Illuminati, Bilderbergs, etc. There’s quite a bit of this on the FinancialSense website and podcast. Ron Paul freely admits to his belief in the NAFTA Superhighway and the Amero twist to the NWO conspiracies.

    Then there were the Austrian fans who thought global warming was one big hoax. This anti-science denialism featured strongly not only on sites like BitsOfNews and the FinancialSense podcast, but also on itself – the central web repository of all things Austrian school. Given that I’m approaching this from a scientific background, I found myself searching for an alternative worldview of world finance which eventually led me to your blog.

    I’m sure that there are indeed Austrian economists who are not conspiracy nuts and do not deny science, but I still find the desire to pollute pure economic theory with a polarising agenda more than disturbing. There is a danger to religiously adhering to an ideology in every circumstance one is faced with. I’ve noticed that justifications for the Austrian policy often mirror justifications for why climate scientists are wrong, and why the conspiracy “truthers” are right — selective bias, cherry picking of examples, overly-simplistic reasoning, divisive argumentation, fear mongering, etc. I think there is enough sophistication to the Austrian school to detect when there is a problem in the world economy, however it is insufficiently complete to model the full dynamics of the problem at hand in order to offer an immediately workable solution once a crash has already occurred. Namely, there is a bias toward pointing out moral hazards, but seldom acknowledges external costs often inherent in prisoner dilemmas – and the world economy is full of these. Hence the advocacy of letting insolvent businesses fail and the refusal to aid collectively punished individuals.

    But perhaps my understanding of Austrian economics is mistaken. Can it yet be resolved with more rationalist thinking?

  3. @Wag the Dog:
    Ah, the seedy underbelly of the Austrian fanatics. Just as there are Keynesian fanatics, there are Austrian fanatics too. It reminds one a bit of guys in Idaho buying their guns when Obama was elected and waiting for Armageddon.

    Don’t let that put you off from using their framework as a guide to understanding the economy. I take their more ideological approach with a grain of salt. For example, Murray Rothbard, when he lived, would go on and on about how the Fed shouldn’t exist and we should have no monopoly in printing money. I’m sorry but I find this a bit ludicrous as it leads to chaos. We need one legal tender. However, Rothbard uses a good analogy when he compares the Fed printing money to counterfeiting. I rather like Rothbard.

    I have similar problems regarding Austrian prescriptions. You have had a number of comments that suggest you sympathisize with Daniel Kahnemann, the Nobel Prize winner who debunks the efficient market hypothesis. I think this is very much to the point regarding solutions. We need to account for our natural inability to accept too much change and the consequences of this inability. It is unrealistic to expect people to passively accept a massive new world order change without great upheaval and dangerous civil unrest. Look at what’s happening in Greece right now. What abut the unrest we saw when commodity prices were soaring? Isn’t this a demonstration of the kind unrest that results from more change than one can bear?

    In fact, one reason I tend to look at increases in year-over-year macro data comparisons is because they identify crucial levels of macro change that invite a response i terms of production or consumption.

    In the end, I am left agreeing with you that many Austrian School acolytes are simply too ideological and too extreme to be useful in turbulent times. This is one reason I wrote this post. Thanks for the comments and do feel free to respond with other ideas you have,particularly regarding psychology and the markets.


  4. @Stevie b.:
    QE does seem to be a necessary evil as confiscatory as inflating might be. Savers will get shafted yes, but less so than if we try to use low interest rates to reflate the economy. I do see the low yields on Government bond as part of the problem and a direct outgrowth of low short-term rates around the world. The consequences are unknown

    But, as to my comments regarding savings and spending, I refer to the average citizen in countries like the U.K., Australia, or the U.S. In my view fiscal and monetary stimulus should be designed to provide economic cover for individuals and companies in the private sector to restore their collective balance sheet to good health. My view is that, if done properly, we can reduce the macro imbalances that plague the global financial system and then use this period to set up a new financial framework much as Bretton Woods was used in 1944.

    To the degree, we use this period of recession as recessions have been used in the past two decades to paper over severe imbalances, we risk a much greater crash. Few now doubt that the elixir of low interest rates after 2001 led directly to the morass we find today. As we try to get out of this, this lesson bears remembering.

    Thanks for the comments as well.

  5. Sobers says:

    Unfortunately if you ignore advice for long enough (from those that preached against the credit bubble when it was unfashionable to do so) you may end up in a situation that the original advisor can’t fix. If I ignore the advice of my mechanic and run my car engine so low on oil that it seizes up, it may be too damaged for him to fix. So don’t complain that the Austrian’s solutions risk causing another Depression. They wouldn’t be here in the first place. The Keynesian solution (more spending, more govt debt) is easy to swallow now, because it puts off the day of reckoning. Too much debt got us into this mess – is it likely that more will get us out of it? It is JUST possible that such a path COULD be made to work, but only if having spent all the fiscal stimuli, we then spend the next decade (or much more) working hard to reduce that debt back to and below long term averages, and then not allowing it to soar away again. How likely is that? Politicians are here today, gone tomorrow. There is always the temptation to hand out electoral bribes to win elections now, with the bill not arriving until they are long gone. Pension commitments, welfare rises, govt spending rises, tax cuts. All easy to promise, but take a lifetime to pay for. No politician will ever stand for election on a ticket of higher taxes for all, lower govt spending and lower standards of living in order to pay down accumulated debt. If they did you can guess how many votes that would get……….

    My prediction is a brief flirtation with deflation in mid 2009, followed by a inflationary period after that in 2010/11/12. Its the only way politicians can avoid the hard truth. Inflate the debt away. However there is a danger of civil unrest if the inflationary genie gets out of the bottle and cannot be contained. Fiat currencies destroy themselves and their nations with hyperinflation. Ask Weimar Germany, or Zimbabwe today. To my mind that is as great a danger as falling into a 1930s style Depression.

  6. @sobers:
    You sound like you side with my more anti-government leanings. I do not see government as the solution here. However, I do think they can be a part of the solution and mitigate some of the worst case scenarios. I will admit that the problems with the TARP and the auto bailout point out the difficulty with government solutions.

    As for more debt and more spending under a Keynesian solution, it does indeed put off the day of reckoning and that’s the purpose. This is not an efficient outcome but my worry has most to do with civil unrest, violence, and war as a response to severely changed living conditions. I do think we need to be mindful of the social and political implications of economic changes in implementing economic policy, particularly at crucial times like these.

    The historical precedents point to political and geo-strategic turbulence if we allow for an uncontrolled spiral into depression.

    As for Weimar, I have good friends and know fellow econbloggers who see hyper-inflation as the real threat — even the likely outcome — instead of deflation. So, I would not dismiss your concerns here. I would, however, point out that doing nothing assures deflation and depression whereas mitigating the worst case scenarios does not assure hyper-inflation. Therefore, I come down on the side of stimulus.

  7. Sobers says:

    @EH: I too agree that ‘something must be done’ to cushion the fall that is going to happen (and has started). And if that means a New Deal type scheme, world wide if necessary, so be it. But unless the politicians ‘fess up and admit what that means to us in the Western world (lower living standards, reduced welfare spending, higher taxes for decades to come), it will all be pointless. The day of reckoning CANNOT be put off for much longer. The fact that we in the West have lived beyond our means for several decades now MUST be faced. If it is not we will limp along past this crisis into a larger one in few years time. Which will be a Weimar/Zimbabwe style hyperinflationary total collapse of civilisation crisis, which CANNOT be escaped, not by democratic means anyway.

  8. @sobers:
    The fessing up should go something like this: “We realize that we collectively screwed up and it will take a decade to repair the damage. For that we are sorry. However, we are on the case. That means that ordinary citizens will need to save more, spend less and work off debt. As a result, our economies will suffer mightily and standards of living will decline. Government will step into the breach to offset some of this over the next decade, but government cannot fix things by spending more money — we can only cushion the blow. When this period of retrenchment is over, having made these sacrifices, we will all be in a much better position.”

  9. Michael says:

    Thank you for a great post. You wrote:

    “We need to save more, spend less and reduce debt. We need to invest in our infrastructure, human and capital, and we need to make things people want – not turn into a mass of money changers and finance wizards.”


    “QE does seem to be a necessary evil as confiscatory as inflating might be. Savers will get shafted yes, but less so than if we try to use low interest rates to reflate the economy.”

    Aren’t these contradictory? What is the incentive to save and invest if I’m getting shafted by QE?

  10. @Michael:
    Thanks for comments. The QE comment comes from my (potentially naive) view that central banks will be successful at a later date in withdrawing the liquidity they inject. SO QE would be less confiscatory than low interest rates are.

    Honestly, there aren’t a lot of good solutions here. The easiest solution would be to let the chips fall where they may and stop inflating. My knee-jerk is to support that solution since easy money got us into this situation. However, I am fully aware that this cause great hardship and could be destabilizing as to geopolitics (i.e. inviting dictators and despots to rise to power as people search for a solution).

    At some point, we need a more fiscally prudent government and monetary regime.

  11. Sobers says:

    There is a danger of despotism whatever we do. Either way, deflationary slump or hyperinflationary spiral, there is a danger that in a democracy someone will stand up and blame all our troubles on some group amongst us, be that foreigners, the Jews, the Muslims, fat cat bankers, or the bourgeoisie, and promise to solve all our troubles with some crackpot scheme. And in a democracy if enough people are convinced demagogues get elected. We all know what can happen. Troubled times breed desperation. And desperate people will contemplate many things if they think it will end their woes.
    I offer no solutions I’m afraid. I worry about the future because the veneer of civilisation runs very thin. My only advice is on a personal level – take steps to ensure you and your family are provided for in the event of hard times. If I am wrong, no big deal. If I am right, well, lets not think too much about that.

  12. Econophile says:

    Wow! I’m not sure where to start. I started blogging myself because of the problems associated with Keynesian economics and the “solutions” proposed for this crisis, so I guess I’m a bit shocked by your apparent abandonment of Austrian economics.

    I would first think that perhaps you didn’t really understand it–you know, the parrot (they can say the words but …). I checked out your impressive cv and you are a smart fellow. Kudos there.

    Let me first say that I am a “true believer” of Austrian theory. I can even claim to have met Mises. So, if that makes me an automaton by “religiously” adhering to theory, I’m guilty. I kind of resent the implication that Austrians are all right-wing nuts as expressed by some commentators in this blog. I can think about other things, you know. We are all different and have many divergent views. So the broad wink-wink smear is unfair and untrue.

    I’ve seen many cycles–more than you, I’m guessing. OK, so what. Well, after reviewing your post I felt perhaps an edge of panic to your embracement of Keynes. You fear the massive downward spiral of the economy and believe it can and will be “corrected” by, among other things, massive deficit spending stimulus and more regulation. I don’t think so.

    With your Austrian background, what did you expect when Lehman fell? Here’s where I would talk about the impact of the misallocation of resources and malinvestment. You know, where capital gets shifted away from bad businesses to profitable ones, and all that. Lehman was one of the worst players in the housing bubble and their arrogant approach brought them down with the bursting of the bubble. I can say this because I dealt with them.
    You would also know that the biggest credit bubble in history would have the most severe consequences in its inevitable crash, so I would guess you saw that coming too.

    That aside, you’re talking about how to save the world from this folly.

    Why would you think the Keynesians have the answers? They propose massive deficit spending. Their adherents now blame the whole problem on the failings of the free market. You would know that it wasn’t the “free market” or “deregulation”–far from it.

    Can you point to a period of history where massive deficit spending worked? You, I am sure, understand the Austrian take on the Great Depression which says the government actually caused the Great Depression. A garden variety crash and recession was turned into a decade-long depression. Had they left it alone, they would have been out of it in 18 months (like the 1921 crash).

    I could go down the list and argue with you about the solutions you propose. But I don’t have time–maybe I’ll do it on my own blog as an article.

    I think massive “infrastructure” spending will do nothing. In your heart you’ve got to know that. It doesn’t create jobs and to say that the cause of our problems is a poor infrastructure just isn’t true.

    The QE solution can’t just provide liquidity without sowing the seeds for a new bubble cycle, as you know. In fact, we may just be headed for the Japanese disease: inflation and stagnation for a long time. The Japanese engaged in massive deficit infrastructure spending, propped up banks and insurance companies, and had a zero “fed funds” rate. That got them a decade of stagnation.

    Debt relief? Housing is still headed south and there’s nothing you can do about it. It’s too damned big. The Fed can’t print enough money to solve it. I would agree that allowing lenders to take the capital hit and renegotiate would be a good thing for everyone. It would be the quickest way out of this problem. But, are you going to just re-write every mortgage contract in America? Could I trust anyone with that kind of unconstitutional power?

    Lastly, your fear of a rise in fascism or communism or some other totalitarian ism fails to understand the origins of the problem. It wasn’t the failure of Austrian free market economics that caused the problems of the 20s and 30s, but government intervention. I am staring at a 1 million mark note from the Weimar Republic on my bulletin board. The cure you prescribe will lead to more inflation as you know. What will be the unintended consequences of that?

    Maybe we can have a nice conversation some time. But I’m sorry you jumped the wall.

    I’ll stop now.

  13. @Econophile:
    I respect your right to disagree. This is why I approved your comment for print here. I suspect you are right that you do sense a faint whiff of panic. For example: Do I really think quantitative easing is a good idea? No. But, I see few options in order to reduce the real cost of the debt burden facing us after the asset deflation takes full form.

    You are right about the recession of 1921 for the U.S. but wrong about its severity in Europe where fascism came into being.

    As to FDR and prolonging the Depression, I would tend to agree. I am not really a fan of FDR actually. However, this does not a priori rule out the benefits of stimulus. Moreover, the deficit hawks who suggested we raise taxes in the middle of a depression were very much to blame for the depression lasting longer than 1938. See my post Beware of deficit hawks for more on this.

    As to deregulation: in truth, while I am a Libertarian, I do not believe that deregulation is the panacea to all ills. De-regulation has been a disaster as practiced in the United States and has contributed to the bubble greatly. THis is one place where I disagree quite strongly with the likes of Rothbard.

    Finally, I would say that systemic failure is still a real risk here. We are by no means out of the woods. Please see my post What does Mises say about trying to stimulate the economy out of recession for a more ‘Austrian’ analysis.

  14. Econophile says:


    Thanks for your kind reply. I would agree that systematic failure is a serious risk, but where we part company is in the solution. I read your article on Mises and stimulus and agree on the “take.” I guess I am in the Austrian camp on the consequences.

    You paint with a broad brush when you point to the rise of the fascists. You can’t say failure and depression gave rise to them without pointing to what caused the collapse of their economies. And deregulation? Fine, deregulation looked at in a vacuum may not be the panacea, but you can’t pick and choose your favorite deregulation in a highly regulated economy and blame the lack of regulation for the problems. You know that government controls are the greater problem, not the lack of it. We can discuss this at length, but I think you understand this.

    Not sure where deficit hawks come in to the argument here. The idea that the lack of change allows the economy to reach some equilibrium in a controlled economy is valid, but, all things being equal, in free non-fiat money economy that would not be a problem. That wasn’t the problem in the depression. It was FDR’s unbridled power that kept business off base and unable to plan. Sucking all the capital out of the system by a balanced budget was the wrong move on top of many wrong moves.

    As far as Keynesian stimulus, I’m with Hayek and Mises on this. We are not machines as Bernanke thinks. You can’t pull a monetary lever and make it all go away. We both know the cure for malinvestment. So, I challenge you to point out where these remedies have worked in the past. I would say not only will it not help, but it, and the other remedies being proposed and implemented, will cause far greater harm.

    Here is my real problem, Ed: we are in a serious battle for ideas and most libertarians would take the position that we can’t equivocate now. The consequences are too great. I am fearful for different reasons. You fear the downslide. I fear the loss of freedom and the consequences of a bound economy. I think we’re headed for economic problems and I think I’ll stand on my Japanese disease hypothesis. Once the money pumping hits the economy is when the problems start. As a prominent proponent of Austrian free market economics, we need your clear thinking and help.

  15. John Creighton says:

    Holy Cow! Are their ever a lot of topics brought up here. Anyway, anyone who uses the phrase “Deny science” forgets what science is. The day science stops being tested by hypothesis and observation it is no longer science it is religion. Scientist are not immune to politics and special interest. The only really true and pure sciences are math and physics and even those get reevaluated thought time.

    The idea of letting people be free to print their own currency is totally feasible in this world. We have more then enough technology to make the exchange between currencies easy and if the currency is backed by something then it carries more value. Governments hold multiple currencies back by legislating that taxes and wages must be paid in dollars. The fact that people need dollars to pay taxes and employers need dollars to pay employees and governments need dollars to pay debts creates a demand for dollars. Without debt what backs the dollar?

    I do believe that that the librarian scenario where currency represent value, either value in a commodity or points to purchase goods from a cooperation (like air miles) is plausible. We have seen time and time though history that market forces have been superior to centrally planed economies. What’s to say it wouldn’t work also in the monetary aspects of the economy.

    That said the fact remains that we do live in a economy with a centrally planed monetary system. We live in an economy where currency is backed by nothing but debt and the promise to repay. When people default or de-leverage the economy contracts even though our capacity to produce goods has not changed. Under such a system it is bad planing to let the money supply rapidly contract.

    To prevent the contraction of the money supply infrastructure projects are not a bad use of stimulus dollars because infrastructure spending can easily be cut back in good times (deferred maintenance). One must remember that stimulus spending does not have to lead to long term structured deficits as money invested now (either in loans) or in infrastructure will pay back in the good times in terms of repayments and better infrastructure and reduced maintenance cost in the future. Personally I’d like to see some infrastructure dollars invested in nuclear power plants up here in Alberta so that this province of Canada can maintain more of its intellectual capital during the down turn as well as reduce CO2 emissions (to keep the eco nuts happy) in the long term.

    As for the, “more regulation less regulation argument” that is mostly rhetoric. However, we must not forget that the perfectly competitive economic model involves perfect access to information. People will never be perfectly knowledgeable but as a minimum we can insure that publicly traded companies are transparent as to their finical situation. And if we want to go a bit further we can insure that finical institutions are properly colaterized/capitalized against risk.

    • @John Creighton, good point regarding stimulus. The stimulus does not have to create structural deficits.

      Central planning: your view on fiat money demonstrates you are correctly skeptical of relying on the full faith of the government as a store of value.

      As to other things you mentioned, in my view, the free market is very bad at allocating capital to public goods. Infrastructure is under-funded because much of it is for public benefit and we lack mechanisms to create a private interest (profits) that would invest. Moreover, do we want private companies control our infrastructure? I say no. Therefore, it leaves much of the infrastructure spending to the government. And this includes education as that is certainly human capital/infrastructure, if you will.

      Nuclear cannot be discounted and Obama has come around to your way of thinking. The U.S. is scared of the technology due to Three Mile Island.

      I don’t know how the Canadians will see things. What is your view on the new government without Stephen Harper? Will they be pro-nuclear?

  16. John Creighton says:

    I think that given that fiat money is essential backed by debt and that the value of debt varies wildly (market swings); I don’t think it is a good model in and of itself for our monetary system. That said if the government is to centrally plan a fait money system it could attempt to control the value of the fait money by buying and selling assets in order to control prices. That said, we don’t support private institutions engaging in market manipulation so why should we want our government to do it?

    Consider the current market crisis. Companies have trouble getting loans. What are federal reserve notes? Federal reserve notes are essentially a liability which I guess is backed by US treasuries. Treasuries are the debt of tax payers. Without tax payer debt nothing backs the money supply. Tax payer debt is undesirable because we have to give a certain portion of our income to service it.

    What if GM could print it’s own money and pay employee wages in it? Like federal reserve notes, GM notes, GM points or whatever we wish to call them would be a promise to pay with goods that the company will produce in the future or has produced to date. The money/liability which GM would use to pay its employees would derive its strength based upon the value of the products GM produces. If people believe in GM products they will continue to work with GM knowing they could easily exchange these GM notes for what ever form of currency they need on the market to produce the goods that they needed.

    Now the difference between GM raising money this way and raising money though the capital markets is that GM does not have to pay interest on this liability. Additional if the value of GM cars go down and wages are in GM dollars then wages adjust accordingly. Consequently the company is somewhat protected against deflation. If workers don’t want to buy a car right away they can always bank their GM dollars. As long as their is a return on one currency their is an effective return on all currencies because their is always the possibility to yield returns though the carry trade.

    As for roads your taking the view that free enterprise does not tend to promote public goods. I think that is a reasonable position and I don’t have a strong view or feel like arguing it. However, understand that when we make roads public that we give governments the power to set the traffic laws and give traffic tickets based on these laws. If I want to drive on a high speed highway, I can’t do that legally when all roads are owned by the government. A private road is not a public good and we do have some privet roads (toll funded) in both Canada and the Untied States. However, these roads still fall under the control of the state.

    As for education, it is not the role of the private sector to educate the public. It is their role to offer educational services for those who are willing to pay. The amount we invest in education does not depend on the private sector. The amount depends on how much governments, families and individuals are willing to pay.

    It is my view that government does not maximize the investment in human capital. It is my view that it hiders investment in human capital by creating an essential monopoly on education for those who are not able to afford private schools. The majority of people find private schools difficult to afford either because they don’t make enough income or because they pay too much taxes. If people get a tax rebate for using an alternative school system to the public system then it increases the affordability of private schools, forces public schools to compete for funding, could potential give more money per child in the public system as well as increase the number of jobs in the private education sector.

    We should also note that if private and public education services can work together then; it is not completly necessary for someone to fund an entire curriculum in private education in order to gain benifits from allowing competition in education. A student that excels in science may wish to take the science part of their curriculum from private institutions and the rest of their education from the public sector. If the schools are close together a student could switch between public and private classes though the day. If not they could split it up where they take one term from a private institution and the other term from a public institution. Governments could even purchase courses from public schools for students or offer educational vouchers.

    With regard to Nuclear in Canada, unfortunately only Ontario and New Brunswick use nuclear power. I hope that in the future that more provinces will see the benifits of the technology. The three mile island incident was not as bad as people made it out to be. As for the role the Prime Minister will play in nuclear power, I think the deciesions will largely be made by the provinces.

  17. percolator says:

    I just finished reading Murry N. Rothbard’s “America’s Great Depression” and is eerie how our gov’t is making the same mistakes. The next foolish policy decision will be to bailout CA and many other states just as we did in the 30′s.

    No doubt liquidation would cause severe short term pain, but then we’d be on the road to recovery instead of 10-20 years of economic misery!

    The Keynesians, Neoclassicals and Monetarists have all failed its time for the Austrians to implement economic policy.

    BTW, good companies are in the process of failing because the bad companies are NOT allowed to fail.

    IMHO, Bush and Obama may not be Hitler and Mussolini, but they’re still Fascists and thus quite dangerous.

  18. Vangel says:

    Their “Let them eat cake” approach comes dangerously close to Andrew Mellon’s draconian Depression era prescription and is more likely to end in a deflationary spiral and a worsening of the problem.

    How can someone who claims to be an Austrian be so misinformed about the Great Depression? Hoover was hardly a leave them alone type and intervened heavily from day one. FDR followed with even more massive intervention but managed nothing as the economy was still in depression a decade later. Contrast this with how Harding approached the great contraction of 1920. He cut federal spending and income taxes, and by doing so allowed the necessary contraction of malinvestments. By 1921 the contraction was over and the economy began to expand once again.

    The Austrian post bubble prescription may not be painless but it is effective. The economy needs to be purged of bad investments made during the years of reckless monetary expansion so that capital can flow into areas that are best able to use it effectively.