Economics Magazine

Yes, A Thought That Would Make Neither Group Happy

Posted on the 01 June 2013 by Lachmannian @TheLachmannian

Daniel Kuehn draws on a similarity between Austrian Business Cycle Theory (ABCT) and Minsky’s Financial Instability Hypothesis (FIH) theory. What is funny is that he is implying that neither group would be happy of the similarity which Daniel raised, and the two direct blog responses of Daniel’s post have the title of  ”X vs Y”.

Jon Catalan’s post, “Minsky v. Mises–Hayek“, tries to make the case that ABCT is superior to Minsky’s theory and ends up concluding that Minsky’s theory “just doesn’t seem necessary”.  Lord Keynes responds in his post,” Minsky versus ABCT“, and defends Minsky’s theory and attacks ABCT on three points: 1) that it is hard (possibly impossible) to classify capital goods into higher and lower orders and capital can have “a significant degree of durability and substitutability” and 2) that ABCT is dependent on equilibrium theory, and 3) “the ABCT has little concern with financial crises or asset bubbles, the real world economic phenomena associated with credit booms in poorly regulated financial systems”. I want to concentrate on the third criticism.

Jon does have a response to this over at his comments section, saying, “I agree that early literature on Austrian business cycle theory doesn’t focus on the financial aspect of bubbles, and instead focuses on malinvestment. But, in my opinion, it’s just a problem of extension and application. I’ve certainly applied it myself, and I think quite successfully.”

Both are right, to a certain extent. Jon is basically saying that over the years, Austrians have focused on the financial sector aspect of the economy using ABCT over time. This is fair to say, but I do not think it adequately answers the criticism raised by Lord Keynes.

For example, Post Keynesians have stressed the flaws of the loanable funds theory, especially when putting subjective expectations into the picture. In essence, the introduction of subjective expectations ruins the nice pretty picture of loanable funds theory.

Thus, to Post Keynesian, this is a huge problem with ABCT when trying to explain the financial sector of capitalistic economies because ABCT wholly needs loanable funds theory to be valid in order for ABCT to be valid. As Greg Hill tried to point out in his debate with Steve Horwitz, you must first prove loanable funds theory as correctly explaining real world economies before trying to say anything else of the financial sector. For a quick summary on this part of the debate, see here.

Thus, putting the last two paragraphs into consideration, Jon’s response doesn’t dent Lord Keynes’ third criticism.

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