Mainstream Wisdom on Monetary Policy and Asset Bubbles
You Austrians have it all wrong. Bubbles are not caused by inflation. They are caused by increases in the money supply. Just take a look at this:
- Monetary Policy and Asset Prices: A Look Back at Past U.S. Stock Market Booms By Bordo and Wheelock.
"Two booms stand out in terms of their length and rate of increase in market prices - the booms of 1923-29 and 1994-2000. In general, we find that booms occurred in periods of rapid real growth and productivity advance, suggesting that booms are driven at least partly by fundamentals. We find no consistent relationship between inflation and stock market booms, though booms have typically occurred when money and credit growth were above average."
- The Fed found that changes in interest rates has an effect on asset prices:
"The results indicate that an increase in short-term interest rates results in a decline in stock prices and in an upward shift in the yield curve that becomes smaller at longer maturities."
- And finally, asset prices should not be included in monetary policy targeting, but should be included in monetary policy.
Comments (15)
Hmmmm... and here I thought inflation was caused by increases in the money supply...
Published: September 28, 2004 11:29 AM
Austrians view inflation as increases in the money supply (except possibly natural increases in the supply of gold coins that might occur under a free market gold standard). Mainstream economists view inflation as increases in the "price level" (usually represented by the Consumer Price Index). These papers demonstrate both confusion by mainstream economists and indirectly demonstrate the superiority of the Austrian approach to inflation and business cycles.
Published: September 28, 2004 11:49 AM
However, the superiority of mainstream economists is the higher market determined values for their services.
Published: September 28, 2004 12:45 PM
bankind,
That's an interesting proposition, since most mainstream economics is funded by States, directly or indirectly (which hardly constitutes free-market value). Also, in the business world, Austrians are highly respected, and many investors are Austrian (see Jim Puplava, Mark Faber, etc). That's because in the business world, there's a profits-and-losses test, and the theoretical idealistic model-making nonsense of mainstreamers (e.g., perfect competition, extremely simplified precisive abstraction, etc) just doesn't cut it. In fact, if I remember properly, an "investing group" composed of some of the most respected mainstream economists fell flat on its face.
It should be expected that bureaucrats, regulators, and high-level State officials are unreceptive to Austrian (correct) economic theory, for if they were, they would promptly abdicate. In short, it is in their best interests to support interventionist and socialist economics.
I'd also note that the private-sector demand for the school of Austrian economics probably outweighs that of any other school (and all of them combined). Mises.org, for example, has approximately as much internet traffic as Economist.com. LewRockwell.org also has enormous traffic. Austrian books on economics are very popular. Etc etc.
Even if your assertion were true, that's hardly of any significance. An economic theory is either true or it is not. No matter how high the esteem of wrong theories, they are still wrong, and vica-versa for correct theories.
I do hope that you won't troll this blog with comments like that as you trolled my journal on K5.
Published: September 28, 2004 1:34 PM
"We find no consistent relationship between inflation and stock market booms, though booms have typically occurred when money and credit growth were above average."
This is exactly what one could expect since the significant thing about stock market bubbles is that newly created money is used to bid up stock prices rather than consumer prices.
Published: September 28, 2004 1:58 PM
Austrians view inflation as increases in the money supply
Mark, could you clear something up for me, please. Isn't inflation more money chasing a non-increased amount of goods? If yes, what then happens when more goods are produced? Is any increase in the money supply after this, inflation?
Published: September 28, 2004 2:57 PM
The old saying is that inflation is "too much money chasing too few goods." Modern mainstream neoclassical economists say that inflation RESULTS from too much money chasing too few goods."
If more goods are produced (with a set amount of money) the economy would experience price deflation (the dollar would increase in purchasing power).
If the central bank is engaged in "dollar stabilization" they try to roughly match increases in the production of goods with their inflation of the money supply.
Most mainstream economists tend to support some sort of "dollar stabilization" while most Austrians find that any quantity of money will suffice and that price deflation is a good thing. Dollar stabilization creates price control-type problems, except that the problems are much worse and economy-wide--the business cycle.
Hope that helps, Mark
Published: September 28, 2004 3:13 PM
From what I've read from Mises' works, I've always thought that inflation is simply an increase in the monetary supply, and is independent of whether or not prices increase or decrease, or more or less goods are produced; and that the ultimate effect of inflation is that prices will be nonuniformly higher than they otherwise would be. Frank Shostak's article on this topic is good, and has a good quote from Mises:
Defining Inflation. Shostak, Frank.
Published: September 28, 2004 3:35 PM
David, your assertion that private sector demand for Austrian economists outweighs that of any other school is wishful thinking. The highest paid economists are those working in the investment banking/securities business. As recent experience should show, they tend to have little in the way of principles and/or anything approaching a coherent body of thought as represented by Mises. You cite Marc Faber, the fund he runs is only $150mm, this is a tiddler. Stephen Roach is probably the nearest I can think of to an Austrian economist working for a bulge bracket firm, and I doubt he would call himself an Austrian. Your observation that the Mises site gets the equivalent hits to the economist site tells us little. There are thousands of mainstream economic sites out there, only one decent Austrian site... of course the hits will be disproportionate.
As you said in your conclusion, an economic theory is either correct or it is not. The fact that the market doesn't recognise it doesn't mean it is invalid.
Published: September 28, 2004 10:39 PM
Jonathan,
Maybe you're right. But one thing to consider is that banks aren't really private-sector. Like the FASB, they're a de-facto branch of the government, in a sense. Banks benefit from the fraudulent fractional reserve system. Thus, it is unsurprising that many of them would be hostile to Austrians. Ultimately, however, it all comes back to whether it is correct or not -- for which purposes popularity is unimportant.
Published: September 28, 2004 11:32 PM
The arguments about the market value of various schools of economists in the investment industry are misplaced. Successful investing requires very little knowledge of economics and a solid grasp of finance, accounting and general business principles. That is why economists, as Mises himself said, write a great deal about money but earn very little of it.
The economists at the investment banks issue ambiguous statements which vacillate between cautious optimism and slight pessimism which, in no event, will ever counsel against buying the debt and equity instruments offered for sale by the firm.
My observation of a particular self-styled Austrian economist in the investment newsletter industry is that he issues carefully couched promises of returns which anyone with an ounce of common sense realizes are impossible.
All of this being said, I believe Austrian economists handicap themselves because they have a strange disconnect between their belief in the near perfection of competition to supply consumer demand at ever-thinner profit margins and their assumption that competition among investors for returns will not have the same effect.
Published: September 29, 2004 6:45 AM
Mark,
Thanks.
Published: September 29, 2004 8:48 AM
For those who are interested in the place of Austrian economics in the marketplace you might be interested in my paper "Does academic publishing pass the real market test?" which appeared in the July 2004 issue of Public Choice. It tells of the debate over whether Austrian economics passes the market test and then develops a theoretical analysis and model of academic publishing.
Related to this issue, my paper "Who Predicted the Bubble? Who Predicted the Crash"(Link) might be of some interest as well. It appeared in the summer 2004 issue of The Independent Review.
Published: September 29, 2004 9:18 AM
Regarding the issue of how valuable Austrian economics is, it can be noted that many of the star performers in the investment world, including Victor Sperandeo, Victor Niederhoffer, John Templeton and Monroe Trout were adherents to Austrian economics. Victor Sperandeo did in fact in his two books on investments "Trader Vic-Methods of a Wall Street Master" and "Trader Vic II-Principles of Professional Speculation" show explicitly how austrian economics could be used to improve investment performance.
Published: September 29, 2004 9:29 AM
... if I remember properly, an "investing group" composed of some of the most respected mainstream economists fell flat on its face.
Were the initials of that investing group L.T.C.M.?
Published: September 30, 2004 8:36 PM