1,2,3) If a lot of capital goods turned out to be in the wrong use at the same time then a large investment in labour would be required to convert them. Capital conversion is thus a natural part of the economy but would spike at certain times - namely some time during a recession. The same applies to labour itself because retraining takes time of course, and when a person studies he is investing intellectually in that career path.
4,5) Any unnatural change in the money supply will cause a shock, it is just that those shocks are of a different kind. Gradually falling prices are no problem if the money supply is not contracting in a sudden unnatural way. Austrians, I think rightly, blame the fact that such a deflation shock can occur at all on the prior inflation. Once the money supply has been unnaturally (through fiat inflation, FRB expansion, take your pick) increased price stability becomes impossible, because as that additional money filters through the economy and increases the price level the only way to put a halt to that price increase is to actually reduce the money supply. The severity of this will be decided by what level of inflation is considered acceptable. Thus I think that it is the central bank's desire to prevent the price inflation that causes much of the "downside" problem. It would be a much better policy to refuse to change the supply in any way and allow prices to stabilise at a higher level.
6,7,8) I think it is reasonable to say that Austrians discount risk in the interest rate issue. The question then becomes, is it that lower interest rates will decrease savings because of poor returns or increase them because of lower perceived risk? I think this is at the core of what causes the business cycle, because low interest rates will cause low yield investments to become more populous while at the saver end the average man will save less because the perceived risk in a bank is usually close to 0, and thus the interest rate is very much a supply/demand. Personally I think that at very low interest rates (say, less than 3%) the savings rate is inelastic because those savings are prudential rather than an investment.
So if we assume that time preference is the wrong way to look at it and we instead consider risk perception, we need to understand why perception changes suddenly. I believe that the injection of cash into the investment sector will gradually cause the prices of capital goods to rise and at some tipping point it will become evident that some enterprises will not be profitable under the current price levels and expected future prices (for capital goods). These higher prices will thus conceivably cause a crash in the demand for capital goods as the contageon spreads. The demand crash causes unemployment from those unprofitable companies, causing a demand crash in the consumer goods sector as well, further exascerbating the unemployment problems.
As a result of these demand crashes only the highly profitable producer companies will be able to keep trading. From their perspective it is better if the money supply remains constant because then the price inflation will allow them to pay off their creditors through higher numerical revenue despite decreased sales. If the central bank elects to focus on inflation and raises interest rates these companies will face reduced revenue and higher interest rates, likely making many of them insolvent as well. I believe this is a very plausible explanation for the Great Depression, since we know deflation occurred. In a sense the motivations for deflation are immaterial - it will cause a bust proportionate to the deflation. The magnitude of the impact of the previous inflation is then a function of how far deflation is allowed to continue - if it goes to the money supply before the boom then it will be as mild as the boom, if allowed or forced all the way down to the monetary base then you could have a truly catastrophic contraction unless the boom started when the money supply was already at the monetary base.
The Austrians do have the cause of producer goods price rises correct, I believe: that low interest rates cause real savings to be lower than real investment, thereby eventually causing increased competition between consumers and producers for raw materials.
So to summarise: deflation is bad because it causes naturally profitable enterprises to go bust, inflation is bad because it causes naturally unprofitable enterprises to be started. There's a pleasing symmetry there, isn't there?
10,11,12) I agree with most of what you said here. Under my construction the idea of a malinvestment is in a sense not there. The investments are all profitable when investment is high and prices are still low. So it's not that the entrepreneurs make a mistake at the time given the conditions, it's that later price increases are unforseen and reveal those investments as unprofitable. The difference, in real terms, between a profitable and unprofitable enterprise is that the former uses fewer real goods than are given up by people when they save, and the latter uses more. The problem with a boom is that it reduces the real resources available to those enterprises on the margin and makes many otherwise profitable ventures fail when the bust comes.
Any way you cut it some companies will have to fail. There are only three options: Deflation, which destroys profitable companies; constant money, which I believe is the cure; and inflation which, in order to prevent the failure of those companies that used real resources not "saved" by consumers would have to constantly increase until the result was hyperinflation. That's the only way to get the necessary "forced saving" and hyperinflation will be inevitable as people realise their money is losing value, since by definition they will be forced to give up more real goods than they actually want to.
All of this suggests what I have been thinking about for a while: the best monetary policy is one where the central bank does not alter the money supply at all. I really need to do some analysis to find out if this theory is borne out by the facts but that is for another time. Look for future posts on this topic.
EDIT: I realised after this that the central bank can continue to inflate even at high levels without this causing hyperinflation (which as I define it is not to be thought of as a threshold level of price rises) because the economy can adjust to permanent money supply increases. It all depends on the psychology of the people and whether they are willing to accept the situation. If they do accept it then through the general ignorance of the effects of inflation real wealth will be transferred to those otherwise unprofitable enterprises.
No comments:
Post a Comment