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Good Thing There Aren’t A Lot Of One-Handed Economists, Macroeconomics Edition…

November 11th, 2010 · 20 Comments

(See, it’s funny because you need two hands to say “but on the other hand”…fine, never mind…)

Last week I wrote a bit about John Maynard Keynes, which I felt was only appropriate given that Obama is, well, a Kenyan. (Wait, that’s not right…) I was careful to point out that not all economists agree that Keynes was correct in his conclusion that fiscal and monetary policies are effective in smoothing out economic ups and downs, so I guess I should give another side to the story.

Enter F.A. Hayek:

Friedrich August Hayek CH (8 May 1899 – 23 March 1992), born Friedrich August von Hayek, was an Austrian-born economist and philosopher best known for his defense of classical liberalism and free-market capitalism against socialist and collectivist thought. He is considered to be one of the most important economists and political philosophers of the twentieth century.[1] Hayek’s account of how changing prices communicate signals which enable individuals to coordinate their plans is widely regarded as an important achievement in economics.[2] Hayek also produced significant work in the fields of systems thinking, jurisprudence, neuroscience and the history of ideas.

In contrast to Keynes, Hayek disapproved of the use of monetary policy to mitigate business cycles. He instead felt that artificially low interest rates led to misallocation of capital and didn’t believe that a central bank would be able to have the relevant information and intelligence to govern the money supply correctly, even if such a thing were theoretically possible. Like Keynes, however, Hayek was no slouch- he won the Nobel Prize (or whatever you sticklers want to call it) in 1974, received the U.S. Presidential Medal of Freedom in 1991, and was one of the founders of the Austrian School of Economics.

Wait- the what now? I’m the first to admit (even as recently as last week) that I may not have paid as much attention as I could have in my macroeconomics classes, but I’m reasonably confident that the Austrian School was never mentioned, at least not by name. (In retrospect, I’m pretty sure I am right in this particular case.) As such, I was left in the lurch a bit when I first began posting stuff on the interwebs, since “what’s your view on the Austrian school?” was a shockingly common question. I quickly learned that my ignorance was largely due to the fact that the Austrian School is outside of mainstream academic economics and is typically associated (fairly or not) with, um, what I have in the past lovingly referred to as libertarian wackjobs. (It’s probably in a sense counterproductive, for example, that Glenn Beck pushed Hayek’s The Road to Serfdom to the top of the Amazon best seller list for a while.)

That said, the argument in my earlier Keynes discussion still holds: the jury is still out to some degree due to lack of empirical evidence, and just because a group is in the minority doesn’t mean that it’s wrong. (Personally, my beef with the Austrian School stems from its rejection of empirical methods and a seemingly unwavering support of laissez-faire ideals- as a researcher, I find it difficult to believe that objective research and thought never lead to conclusions that are at odds with one’s personal values, so I find the “free markets are always best” party line to be a tad suspect. Interestingly, this line is also not entirely consistent with the work of Hayek himself.)

Last year, economist Russ Roberts and non-economist film and TV guy John Papola created a video about the Keynes/Hayek debate that you may have seen:

After reading this article and seeing that video, it probably won’t surprise you to learn that Russ Roberts is a professor at George Mason University, which is one of the main academic organizations that claims a concentration of Austrian School thinkers. Turns out Russ and John are planning a follow up, and a preview and some discussion is given here:

What I find most interesting here is that yeah, they’re biased, but at least they acknowledge that Keynes exists, so I figure that’s at least a step towards a clearer picture of the overall macroeconomics landscape. 🙂

Tags: Macroeconomics

20 responses so far ↓

  • 1 Rob // Nov 11, 2010 at 5:07 pm

    Here’s a pretty concise description of the Austrian school’s approach to methodology:

    Of note with regard to Hayek:
    While sharing the subjectivist and methodological dualist positions of Menger
    and Mises, Hayek diverges from them on matters of epistemology. In particular,
    Hayek has distanced himself from Mises’s apriorism by accepting the philosopher
    of science Karl Popper’s principle that the hallmark of any scientific theory is its
    openness to empirical falsification. [89] In “Economics and Knowledge” Hayek
    defers to Mises on the a priori validity of the “Pure Logic of Choice”
    (praxeology) applied to individual plans, but argues that praxeology cannot
    explain interactive social processes without empirical or “ideal type” assumptions
    concerning the way in which individuals acquire knowledge, form expectations,
    and learn from their social experiences. Such empirical assumptions are to
    Hayek’s view particularly necessary for an economist who wishes to assert that
    market equilibrium will tend to come about. It is only by asserting the existence
    of a tendency toward equilibrium “that economics ceases to be an exercise in pure
    logic and becomes an empirical science.”…Yet Hayek’s methodological writings
    since the 1930s have undeniably shifted toward Popper and away from Mises.
    (p. 21)

    Apologies for the long quote. I’m not necessarily saying that the Austrians are right or wrong, but I do think their understanding of empiricism is often misunderstood, probably due to Mises’ influence more so than Hayek’s.

  • 2 Rob // Nov 11, 2010 at 5:09 pm

    I do love that video, and I watch it about once a week.

  • 3 Terri // Nov 11, 2010 at 7:24 pm

    Dear Econogirl: Long time listener first time blogger. I taught my first Microeconomics class to tech school students in an undergrad program on Saturday mornings in the winter in Indiana. This week marks three years of undergrad instruction after a career in banking; sales and legal firm administration. Is there an underground group somewhere who understands how funny this video is? Wildly accurate funny? I feel as if I am in a vacuum when no one in my facebook friends cache or my doctoral class comment. I’ve paid my 17 year old son to watch it just so I can laugh again and my 7 year old daughter laughs nervously when I explode at the site of Hayek opening the hotel room drawer to find Keynes text has replaced the Bible. Please advise on any regular group meeting I can join.

  • 4 Charles Dolci // Nov 11, 2010 at 8:28 pm

    “… the jury is still out to some degree due to lack of empirical evidence”

    Let’s look at some empirical evidence. One of the worst economic downturns in US history was the so-called Panic of 1837. The standard factor given as the cause of the Panic was an excess of land speculation driven, in part, by easy bank credit.
    However, that tells only half the story. Why was there so much speculation in Western lands? One reason is that the government set a price ceiling of $1.25 an acre. Not pocket change in the 1830s but still a sum not out of the reach of most citizens. It was certainly a price that was bound to attract speculation. Yes, easy credit was a contributing factor, but that was also the result of government action. Pres. Jackson so despised the 2nd Bank of the US (the early predecessor to the Federal Reserve System) he not only vetoed the legislation that would have extended its charter, he directed his secretary of the treasury to pull all federal funds out of the Bank and deposit them into the state banks. Awash with federal deposits, the banks were more than eager to issue their own bank notes and lend them out to the land speculators and others – result – inflation. Later, in 1836, Jackson’s last year in office, he issued an executive order (the Specie Circular- which probably exceeded his constitutional authority), requiring that all purchases of federal land be paid for with gold or silver (i.e. specie). Jackson thought there was too much speculation in land, the purchases then being largely paid with the state bank notes and he wanted to bring that to an end (kind of like the fed tightening credit because of “too much” speculation in the stock market in the late 1920s). The effect of the Specie Circular was the same as pursuing a tight money policy. Jackson’s successor, Van Buren, took no action to repeal the Specie Circular, and thus kept the money tight. It can hardly be said that Van Buren was a Laissez Faire guy, when he allowed government interference in the market to continue. The Specie Circular was repealed in 1838.

    Another economic downturn was the “Depression of 1920” shortly after the end of World War I. It lasted for only 18 months.

    There had been a brief downturn following the end of WWI as the US and Europe dealt with transitioning from a war-time economy to a peace time economy (not to mention that several European countries were economic basket cases because of the war.) However, President Wilson collapsed on September 25, 1919 and then suffered a debilitating stroke in 1919 that left him totally incapacitated. So the government did not react to the 1919 recession. Wilson was succeeded by Warren Harding, another “do nothing President”. And the recession ended 6 months after Harding took office.

    The biggy – the Great Depression – the deepest and longest in American history – was caused, sustained and made so bad because of incessant meddling by the government.
    It seems to me that the empirical evidence is pretty clear – when you have government meddling (of the Keynesian variety or otherwise) what could be a minor economic adjustment becomes a recession/depression.

    Maybe we should give laissez faire economists a chance.
    Maybe we also need to define laissez-faire. It is not the equivalent of anarchy – quite the contrary. Laissez-faire means the government does not substitute its (read – bureaucrats’) judgment for that of those who actually have to live with the consequences of their decisions, and who know what is in their best interests; it means the government does not pick winners and losers. Laissez-faire is what umpires do in a baseball game. They make sure that the rules in effect (which apply equally to all parties) are observed and enforced and the umpires are indifferent to who wins and who loses. They also recognize that some teams are stronger and better than others and, given the rules, are more likely to win. They don’t change the rules as the game progresses to make it “fairer” for the weaker team. They don’t try to “level the playing field”. That is laissez-faire.

  • 5 Rev. Pfloyd // Nov 11, 2010 at 8:53 pm

    @Terri: I feel the same way. While I’m certainly not at the instructor level yet, my friends and other people in my social and professional circles have their eyes glaze over constantly every time I open my mouth about economics, even if they ask me a question in the first place.

    Apparently my excitement at drawing graphs on bar napkins or having a passionate moment about some seemingly obvious thing that I just thought about is not contagious.

  • 6 Rev. Pfloyd // Nov 11, 2010 at 8:59 pm

    @Charles Dolci: Wow, great post. I love when I learn something new that I had not even heard about before (the depression of 1837).

    Your other points are great too.

  • 7 Terri // Nov 11, 2010 at 9:02 pm

    @R. Pfloyd – thanks for your voiced solidarity. I tried to explain five months ago why the electronics would get less expensive over the coming months due to China’s monetary policy … even my wild arm motions explaining the impact on imports and exports did not prevent the first year college neck snap of my friends and family. Cantagious only in a small group of enthusiasts I suppose!

  • 8 Rob // Nov 11, 2010 at 10:06 pm

    @Charles – I have just a teeny weeny quibble with “…and who know what is in their best interests…”

    I am not sure anyone really knows what is truly in their best interests. But I do know that bureaucrats serve their own interests and not mine, except by coincidence.
    Now, in general, I keep reminding myself that the interesting thing about theories (economic or otherwise) is that ruling out a theory (or updating the probability of it being right to be less than its prior) on the basis of disconfirming evidence does not necessarily mean that any other competing theory is more correct. A theory stands or falls on its own merits. I think there are significant unexplained anomalies and disconfirming evidence associated with Keynes to regard him as a really smart guy who produced an immensely influential, but ultimately unsatisfactory, view of economics.

    I’m partial to Hayek. I think his ideas make a lot of sense. But disconfirming Keynes does not prove Hayek. When my engineering/scientist hat comes off, I wish it were otherwise.

  • 9 Charles Dolci // Nov 11, 2010 at 10:20 pm

    Thanks for the thoughtful comments.
    I have a quibble that is only slightly larger than teeny-weeny.
    I also agree that not everyone knows what is in his/her best interest. That is why children are under the control of their parents. That is why the law does not allow mental incompetents and children to enter into contracts.
    However, I do think that if someone is capable of working, creating wealth and supporting him/herself then he/she does know what is good for him/herself.
    I do not need a mommy, either my biological one or the federal one. Besides, I have a wife who tells me what is in my best interest.

    Likewise, I am a big fan of the Austrian school.

  • 10 Rob // Nov 11, 2010 at 10:22 pm

    I wonder if Jodi would be willing to comment on recent work by her fellow colleagues at Harvard (R. Barrow, C. Redlick, and J. Miron) who have provided critical analysis of Keynes or, more accurately, bureaucrats who use Keynes.

    Oh, and I watched the video *again* because it makes me laugh so hard.

  • 11 Rob // Nov 11, 2010 at 10:31 pm

    Charles: I totally agree.

  • 12 Seth // Nov 12, 2010 at 5:46 pm

    “…stems from its rejection of empirical methods and a seemingly unwavering support of laissez-faire ideals.”

    I think they believe the proof is in the pudding and empirical methods, supervised by clever and biased folks and limited in accurately representing dynamic reality, are prone to missing the proof as well as the pudding. And that does nobody any favors. I could be wrong.

    Carl Sagan said, “To make an apple pie from scratch, you first must invent the universe.” Data hounds don’t seem to realize that no matter how rich you make a subverse, it won’t produce anything remotely resembling a freshly baked apple pie. It took me awhile to understand that myself.

    Further yet, the most effective way to improve upon the best apple pie recipes that have been promoted through eons of trial and error is by accident. You tell if you have a winner by how many people ask for the recipe.

  • 13 Amarsir // Nov 14, 2010 at 1:03 am

    Russ Roberts does a weekly podcast at and has a wide variety of guests. I only found them earlier this year so catching up is yielding me several hours a week of excellent conversation.

  • 14 cloned // Nov 14, 2010 at 12:41 pm

    Jodi –

    On methodology, if you haven’t already, you should read Hayek’s The Counter-Revolution of Science. I found it much less obtuse than Mises on the same subject.

    Here is a link to it at an excellent source for inexpensive yet nicely done classic books:

    Google “the counter-revolution of science” and you can find much more, including a review in The Freeman.

    As I recall about half the book is on methodology in a more technical sense, and half is on historical developments. If I recall correctly, I read somewhere that it could have been rewritten or more fully integrated, but was more a compilation of some of the things Hayek had been reading and writing about. Perhaps that was in the preface. Some of the French names are fairly obscure (but, not really Comte), though the more you read the more you might happen across them. I actually found the historical account somewhat amusing in places. But maybe that is just me. 🙂

    Anyway, it relates directly to your concerns about the Austrian school, as well as to your preferred methodology.

  • 15 Rev. Pfloyd // Nov 15, 2010 at 8:49 pm

    I listen to EconTalk religiously. Maybe Jodi needs to expand into the podcast world. 😀

  • 16 Moudi // Nov 22, 2010 at 2:50 pm

    Amateur speaking, but here goes.

    I graduate this year with a BS in Econ and Philosophy, and I will be on my way to getting a Masters in Marxist Economic Theory, after which I want to get a degree in Austrian Economic Theory, following by Neo-Classical theory for a Phd. Is that too much to ask?

    I personally agree with (and love) the Austrian School of Thought, but it disturbs me to read that Glenn Beck pushed Hayek’s book to a number one list. The problem is that Beck, and his followers, blindly shout out free market with no consequences or understanding of the basic theorems, so they can suck it.

    As far as empirical evidence goes, I agree. That does bug, but when you mix Neo-Classical and Austrian, you get something beautiful.

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  • 18 Jacob // Jun 4, 2011 at 8:16 pm

    It looks like the Austrian School has some scholarly fans here.

    I don’t understand how economists don’t seem to realize that the Austrian school brought virtually all of the modern concepts into play (not to say that the French economists played no role): marginal utility, subjective value preference, time coordination, opportunity cost, and a coherent theory of credit cycles. Frederic Bastiat said it best “…What Is Not Seen…”

    Can we measure total utility (especially in modern terms) without first finding the marginal units? How can we possibly accept top down price signals?

    Consumption patterns must align proportionately with the (re)investment patterns so there is a harmony of production and consumption. If we manipulate the price signals (Im looking at you, FED) we alter people’s investment preferences and therefore the productive structure is distorted and will lead to an imbalance in the labor markets because the consumer preference patterns do not allow for sound reinvestment in the productive and labor markets that the market wants. In other words, we screw up the term structure of savings and people’s projections of savings volume.

    And they stick to “libertarian wackjobs” set of ideals because it points blame at the Federal Reserve System. Hmmm. Can we audit their transactions with foreign governments? “No.” Foreign central banks? “No.” International Financial Organizations? “No.” What about private corporations? “No.” And why, Mr. Bernanke, can’t we audit you? “Because it will undermine market confidence.” (AKA “No! Don’t look at our books, they’re bad, TRUST US, you don’t want to see.”)

    Does credit come from a printing press in a crusoe economy? or savings? hmmmmm.

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