The Philosophy Hammer: Philosophy, Economics, Politics and Psychology Tested with a Hammer

Money, Prices, and Capital:
An Austrian Approach to Macroeconomics
Original Article By: William N. Butos
The Quarterly Journal of Austrian Economics Winter 2006 vol 9 no 4
Major Topic: Economics
Minor Topic: Politics

Précis:

         Austrian economists do not have an intermediate level textbook so they often use mainstream textbooks plus a few extra articles. Most university level textbooks are Keynesian in theory and therefore have fundamental differences with Austrian theory. This makes it difficult for the students and the teacher.

         The author elucidates five problems he sees commonly in Keynesian economic textbooks:

         1.A problem of method: in Keynesian theory various aggregates are presented as the starting points for analysis. Austrians view these aggregates as somewhat useful fictions that arise out of individuals' market decisions. It is these market decisions of individuals that ought to be the starting point for analysis.

         2.A problem of presumed failure: Keynesian economic theory presumes that an equilibrium is always arrived at before full employment due to chronic oversupply. Austrians believe this may be true but it does not need to be true.

         3.The problem of the value of savings: Keynesian theory sees savings as generally a bad thing for the economy because it reduces aggregate demand. Austrians believe that a part of savings is the source of investment.

         4.The problem of institutions: for Keynesian theory government institutions are all that is necessary to manage the economy. For Austrians public choice is an indispensable factor.

         5.The problem of incorrect biases: Keynesian theory assumes that the market will fail and government must help in such situations. Austrians reverse the bias, claiming that markets cannot fail rather government polices are the causes of the “market failures” which are in fact unintended market results.

         The author suggests that since Keynes' time there have been some improvements but many more concepts need to be adopted to get a better understanding of the economy. The author believes that a minimum of six ideas or principles ought to be accepted by the mainstream before mainstream textbooks could be used as a basis for teaching Austrian theory. These six principles, the author believes, form a self-contained compatible set. They are:

         1.Subjectivism: people (not aggregates) act subjectively on their personal understanding of the world based on an uncertain future.

         2.Money, time and expectations: money is not only a medium of exchange, it is an inter-temporal medium of exchange. Economic action takes time therefore exchange is a process that takes place in steps. The expectations of actors, which are sensible but not necessarily rational, must be taken into account.

         3.The price system: prices are the knowledge inputs that most influence actors. Interference with price signals leads to many bad decisions and large scale bad effects.

         4.Capital and time: factors of production are needed at certain times and in certain amounts. The capital structure of an economy is continually updating itself based on price data to facilitate the availability and deliverability of factors of production.

         5.Equilibrium, coordination and process: equilibrium is a great idea but it is not enough to explain the entrepreneurial nature of market actions nor does it explain the process of coordination which people engage in through a step by step process arising from their knowledge and expectations. To say that something happens is not the same as to say how it happens.

         6.The role of institutions: For Austrians, institutions have a much greater effect (for good or ill) on the market than other economic schools allow.

         With these principles, the Austrian school's greatest contribution to economic theory is probably the theory of the business cycle. It must take a leading role in any textbook.

         The author believes that there are too many differences in basic concepts to facilitate a comparative course. The best solution is to have a dedicated course on Austrian economics.

Added on: 2009-05-26 00:03:37