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Regime uncertainty

2010-11-12T10:10:18Z

192.100.130.238: Internalized WP links.

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'''Regime uncertainty''' is a concept developed by [[Robert Higgs]], that describes [[uncertainty]] of investors in their private [[property rights]] in their [[capital]] and the income it yields because of [[government]] action.<ref name="Higgs_regime_uncertain">Robert Higgs. [http://www.independent.org/pdf/tir/tir_01_4_higgs.pdf "Regime Uncertainty - Why the Great Depression Lasted So Long and Why Prosperity Resumed after the War"] (pdf), The Independent Review, Vol, I, No. 4, Spring 1997. Referenced 2010-08-15.</ref>

Higgs uses this concept to explain the seriousness and prolonged duration of some economic crises, like the [[Great Depression]] or the current '[[The Great Recession|Great Recession]]'.<ref name="Higgs_Keynesians">Robert Higgs. [http://www.independent.org/pdf/tir/tir_14_03_et_higgs.pdf "Recession and Recovery - Six Fundamental Errors of the Current Orthodoxy"] (pdf), ''The Independent Review'', v. 14, n. 3, Winter 2010. Referenced 2010-08-15.</ref>

==Effect on investment==
[[Investment]] not only entails 'irreversibilities' or [[sunk costs]], but can be delayed. Investment spending may be highly sensitive to risk in various forms, including uncertainty over future tax and regulatory policy. A major cost of political and economic instability may be its depressing effect on investment.

This [[uncertainty]] can arise from many sources, ranging from simple tax-rate increases to the imposition of new kinds of [[tax]]es to outright confiscation of private property. Threats can arise from various sorts of [[Intervention|regulation]], for instance, of securities markets, labor markets, and product markets. The security of private property rights rests not so much on the letter of the law as on the character of the government that enforces, or threatens, presumptive rights.<ref name="Higgs_regime_uncertain" />

==Historical examples==
===The Great Depression===
During the Great Depression, private [[investment]] has fallen significantly. Gross private investment plunged from almost 16 percent of GDP in 1929 to less than 2 percent in 1932; recovered to 13 percent in 1937 before falling again in the recession of 1938; and as late as 1941 stood at only 14 percent. During the war years, private investment ratios ranged from 3 to 6 percent. From 1946 through 1950 they ranged from 14 to 19 percent and averaged 16 percent — the same as in 1929. In 1929, when gross private investment was $16.2 billion, net investment was $8.3 billion. Net investment fell precipitously to $2.3 billion in 1930 and then became negative during each of the following five years. For the eleven-year period of 1930 to 1940, net private investment totaled minus $3.1 billion. Only in 1941 did net private investment ($9.7 billion) exceed the 1929 amount. During the 1930s, private investment remained at depths never plumbed in any other decade for which data exist.

Given the unparalleled outpouring of business-threatening laws, regulations, and court decisions, the oft-stated hostility of President [[Franklin D. Roosevelt|Roosevelt]] and his lieutenants toward investors as a class, the political climate could hardly have failed to discourage some investors from making long-term commitments. There also exists a great deal of direct evidence that investors felt extraordinarily uncertain about the future of the property-rights regime between 1935 and 1941. Historians have recorded countless statements by contemporaries to that effect; in the years just before the war most business executives expected substantial weakening of private property rights ranging up to "complete economic dictatorship". The possibility that the United States might undergo an extreme regime shift seemed to many investors in the late 1930s and early 1940s not only possible but likely.<ref name="Higgs_regime_uncertain" /><ref name="Higgs_insider">Robert Higgs. [http://www.independent.org/blog/index.php?p=2620 "Regime Uncertainty in the 1930s: A New Deal Insider’s Account"], ''The Beacon'', blog of the The Independent Institute, Jun 29, 2009. Referenced 2010-08-15.</ref>

{{Main|Great Depression}}

===The Great Recession===
The December 2009 regular survey on Small Business Economic Trends by the [[National Federation of Independent Businesses|NFIB]] shows that capital expenditures and near-term plans for new capital investments remain stuck at 35-year lows. The same survey reveals that only 7% of small businesses see the next few months as a good time to expand. Only 8% of small businesses report job openings, as compared to 14%-24% in 2008, depending on month, and 19%-26% in 2007. The weak economy is the most prevalent reason given for why the next few months is "not a good time" to expand, but "political climate" is the next most frequently cited reason, well ahead of borrowing costs and financing availability. The authors state: "the other major concern is the level of uncertainty being created by government, the usually source of uncertainty for the economy. The 'turbulence' created when Congress is in session is often debilitating, this year being one of the worst. . . . There is not much to look forward to here."<ref name="NFIB_Small_business">William C. Dunkelberg, Holly Wade. [http://www.nfib.com/Portals/0/PDF/sbet/SBET200912.pdf "NFIB Small Business Economic Trends"] (pdf), December 2009. Referenced 2010-08-15.</ref>

Business investment in the third quarter of 2009 is down 20% from the low levels a year earlier. Job openings are at the lowest level since the government began measuring the concept in 2000. The pace of new job creation by expanding businesses is slower than at any time in the past two decades and, though older data are not as reliable, likely slower than at any time in the past half-century. While layoffs and new claims for unemployment benefits have declined in recent months, job prospects for unemployed workers have continued to deteriorate. The exit rate from unemployment is lower now than any time on record, dating back to 1967.

According to the Michigan Survey of Consumers, 37% of households plan to postpone purchases because of uncertainty about jobs and income, a figure that has not budged since the second quarter of 2009, and one that remains higher than any previous year back to 1960.<ref name="Becker_Uncertainty">Gary S. Becker, Steven J. Davis and Kevin M. Murphy. [http://online.wsj.com/article/SB10001424052748703278604574624711732528426.html "Uncertainty and the Slow Recovery"], ''The Wall Street Journal'', January 4, 2010. Referenced 2010-08-15.</ref> In 2009, companies were holding more cash — and a greater percentage of assets in cash — than at any time in the past 40 years.<ref name="McGinty_cash">Tom McGinty and Cari Tuna. [http://online.wsj.com/article/SB125712303877521763.html "Jittery Companies Stash Cash"], ''The Wall Street Journal'', November 3, 2009. Referenced 2010-08-15.</ref><ref name="Higgs_cash">Robert Higgs. [http://www.independent.org/blog/index.php?p=3890 "More Evidence of Current Regime Uncertainty?"], ''The Beacon'', blog of the The Independent Institute, Nov 7, 2009. Referenced 2010-08-15.</ref>

The chairman of China’s [[Sovereign wealth fund|sovereign wealth fund]] said in late 2008 that China had no plans for further investments in Western financial institutions. "Right now we do not have the courage to invest in financial institutions because we do not know what problems they may have." Mr. Lou said that the sheer pace of new initiatives and new rules issued by Western regulatory agencies was disconcerting and made it even harder for him to choose worthwhile investments. “If it is changing every week, how can you expect me to have confidence?” he asked.<ref name="Bradsher_China">Keith Bradsher. [http://www.nytimes.com/2008/12/04/business/worldbusiness/04yuan.html?_r=2&adxnnl=1&adxnnlx=1228594043-/gsxRDJZWxAxLLCcUhx8oQ "China Shuns Investments in West’s Finance Sector"], ''The New York Times'', published: December 3, 2008. Referenced 2010-08-15.</ref><ref name="Higgs_China">Robert Higgs. [http://www.independent.org/blog/index.php?p=635 "Regime Uncertainty in 1937 and 2008"], ''The Beacon'', blog of the The Independent Institute, Dec 6, 2008. Referenced 2010-08-15.</ref>

The chairman of the [[Business Roundtable|Business Roundtable]], an association of top corporate executives that has been [[Barack Obama|President Obama's]] closest ally in the business community, accused the president and Democratic lawmakers in June, 2010, of creating an "increasingly hostile environment for investment and job creation." ... "By reaching into virtually every sector of economic life, government is injecting uncertainty into the marketplace and making it harder to raise capital and create new businesses."<ref name="Montgomery_stifle_growth">Lori Montgomery. [http://www.washingtonpost.com/wp-dyn/content/article/2010/06/22/AR2010062205279.html "Business leaders say Obama's economic policies stifle growth"], ''Washington Post'', June 23, 2010. Referenced 2010-08-15.</ref>

{{Main|The Great Recession}}

==References==
{{Reflist}}

==External links==
* [http://www.independent.org/newsroom/article.asp?id=2813 Will Oil Drilling Become a Pipe Dream?] by Robert Higgs, June 2010
[[Category:Economic concepts]]

Argumentation:Paper money

2010-11-12T10:02:55Z

192.100.130.238: /* Deflation */ Linked to the underlying concepts.

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This list attempts to gather arguments for and against [[Fiat Money|fiat money]] (often called paper money) and the [[inflation]]ary policies accompanying it; contrasted with free market [[Money#Commodity money|commodity money]] (also called natural money or hard money).

==Rising prices==
The [[Money#Production of money|production]] of money decreases the value of already existing units of money, therefore, money [[price]]s tend to rise.

This is true for any type of money; however, commodity money has alternative uses besides its monetary function, and it becomes cheaper for these purposes.

Fiat money, in turn, tends to be notoriously easy to produce in large amounts and has no other uses.<ref name="Hulsmann_money" />

===Costs of money production===
The high costs of [[Money#Commodity money|commodity money]] are said to be another argument for paper money.

But are they really a problem? If a money is harder to multiply, then it has, in fact, a natural [[insurance]] against loss of purchasing power - something, that is too often seen with paper.

Fiat money causes further costs, like bureaucracies, that regulate them and large numbers of experts kept busy watching [[central bank]]s and foretelling their policies.

There is nothing wrong, per se, in experimenting with a cheaper medium of money, just note, that all such experiments have failed. That may be the reason, why the proponents of fiat money never argue for competition, but want to establish it by force.<ref name="Hulsmann_fiat_money" />

===Complete loss of value===
The worst case scenario for a commodity-based money is the loss of its monetary function (due to consumer choice, laws, etc.). It would lose part of its demand and hence command a lower price on the market.

Should a paper money stop being used as money, it would lose its only function and become essentially worthless.<ref name="Hulsmann_fiat_money" />

==Economic Growth==
There are claims, that '''[[economic growth]]''' is only possible with a corresponding growth in the money supply - otherwise, how could be the additional goods and services bought? Simply: any given amount of goods and services can be exchanged against any amount of money. If more goods are produced, their money prices will sink.

There are of course technical limitations. Assuming a long period of robust economic growth, some forms of money (like gold coins), could possibly shrink enough to be impractical. But this is no problem on the free market - people can switch to another form of money, like silver coins. In a free market, there are strong incentives to do this change swiftly and efficiently.

Some might object, that if businesses are forced to sell for lower prices, these could be too low if compared to their costs, leading to their bankruptcy. It is forgotten, that the businessman could foresee the sinking prices and strive to lower their costs appropriately. This is standard procedure in times of stable and sinking levels of prices, as is observed in dynamically growing industries (computers, IT, etc.), where such a situation is normal.<ref name="Hulsmann_fiat_money" />

===Greater growth===
It is claimed, that by lowering the interest rate, paper money can help grow the economy. Offering this newly printed money as credit raises its supply thereby making more of it available for businesses. They will invest or circulate this new money and the economy will grow.

There are too many mistakes to answer in one place. For one, capitalists invest only if they can earn some concrete rate; expectations of rising prices will make them ask for more.

Will the printing of new money lower interest rates? And if so, will it create more growth?
* If the businessmen estimate the rise in prices exactly, it won't. The only effect will be a new structure of [[capital]] and [[production]]; some will make money off it, while others will lose.
* If the businessmen were to ''over''estimate the expected rise in prices, the interest rates would rise, depriving many of them of credit and again, cause a different structure of capital and production, but wouldn't make things better or worse. (Really? Need some clearing up here.)
* What if they ''under''estimate the expected rise in prices or are unaware of it? The real interest rate will decline and business may be easily persuaded to borrow more and invest more, beginning more projects. But they won't be able to finish them (or at least not under the same conditions). The amount of capital hasn't changed and much of it will be wasted.<ref name="Hulsmann_fiat_money" />

==Deflation==
'''[[Deflation]]''', defined as a "sustained decrease of the price level," benefits buyers and (potentially) creates problems for sellers and debtors. Central Banks attempt to avoid deflation by creating '''[[inflation]]''' (increasing the supply of money). They do this due to the unfounded fear that falling prices lead to a fall in demand which creates a detrimental effect or downward spiral in the economy. But is this fear rooted in reality?

* There is no conclusive '''historical evidence''', that deflation is damaging to long-term economic growth.

* An '''unexpected strong deflation''' can motivate people to alter their behavior, that much is true. But that does not necessarily mean a slowing down of production in general. The consumers will eventually buy the goods and services they desire, even if observing constantly sinking prices: they would like to enjoy them sooner rather than later (the fact of [[Time preference|time preference]]). It can be therefore expected, that consumption during a deflation period will continue at a marginally slower rate, but the total production will actually grow: because resources unused for consumption are saved, and as such serve to increase production further. (Note: any abrupt change in the structure of consumer demand and prices will tend to have negative effects. It can be also said that a) in a free market, price changes are likely to be smoother and b) an inflationary system is not exactly immune to these shocks either.)

* '''clearing [[debt]]s''' can be harder, in a strong unexpected deflation as prices fall while nominal debt value remains the same. This can be a problem for companies going bankrupt in case of a large deflationary shock. But ultimately, the resources they control will not be lost, they will merely change hands.

* a deflation can indeed '''damage the [[Bank|banking industry]]''', as it complicates the clearing of debts. If one assumes a string of bankruptcies on the side of customers, a bank's liquidity may be stretched to such a degree, that it goes bankrupt itself. (Again, a 'dramatic change', no matter its cause can have negative effects.) However, it is pointed out, that the negative effects will impact industries who mostly profit from inflation, like banks and highly indebted companies. This problem will eventually adjust itself. A reduction in bank credit does not destroy any resources, it merely guides them to other applications. The dangers of deflation are not as terrible as it is claimed.<ref name="Hulsmann_fiat_money" />

* See also [[#Sticky prices|sticky prices]].

* See also [[#Greater growth|greater growth]].

===Sticky prices===
Let's imagine, that powerful unions were able to raise wages in such a way, that the companies were unable to employ a large part of their employees profitably, resulting in mass unemployment. A good dose of inflation could raise the price level and make them employable again, problem solved!

Well, not quite. This 'solution' assumes, that the unions fail to recognize the inflation and won't raise their demands appropriately - which, historically, they eagerly did.<ref name="Hulsmann_fiat_money" />

An example are nationalized industries.<ref name="Harris_inflation">[[Wikipedia:Ralph Harris, Baron Harris of High Cross|Lord Ralph Harris]]. [http://www.pbs.org/wgbh/commandingheights/shared/minitextlo/int_ralphharris.html "Lord Ralph Harris"], ''Commanding Heights'', Interview conducted 2000-07-17, referenced 2009-05-19. ''"One of the important consequences of nationalized industries was that they were subsidized by the government because they could not be allowed to fail. A nationalized concern cannot, could not go bankrupt -- the government is the underwriter of the whole of the enterprise. When unions understood that, and could see could work with annual wage increases, the government then had to maintain a constant loosening of the monetary/fiscal control to allow prices to rise to cancel out the wage and price increases."''</ref>

(It is not considered here, whether such union activity is possible in the free market, or requires legal privileges. The moral implications of the inflationary strategy are also not considered - it is misleading, in other words, lying; and how compatible it is with ideals as transparency and honesty in public affairs.)

===Unemployment===
'''Minimum wage laws''' cause [[unemployment]]. If they are combined with a deflation, this effect would be even stronger. This was also the case in the [[Great Depression]]. However, this is not an argument against a free market.<ref name="MacKenzie_unemployment">D.W. MacKenzie. [http://blog.mises.org/archives/009042.asp "Why We Should Worry about Deflation"], ''[[Mises Institute]]'', referenced 2009-05-19.</ref>

==Hoarding==
Everyone is a holder of money to some degree.

'''Hoarding''', or excessive holding of money is supposed to be a great danger paper money will prevent. But how can it cause damage to the economy? Any amount of money can serve for exchange. In the worst case, if a large part of the population became hoarders, they might cause a given currency to be replaced by another. (Note, that there are perfectly reasonable AND moral reasons to hold large amounts of money. Also, hoarding is subjectively defined and the only way to find out whether someone is hoarding is to analyze each case on its own. Acting against hoarding in general can complicate the lives of many.)

What if the government attempts to raise the supply of money to stop the hoarding? More money will push to create higher prices, which may motivate the 'hoarders' to hoard even more.<ref name="Hulsmann_fiat_money" />

===Holding money===
According to some authors, not only hoarding, but holding money in general is unproductive and detrimental to the economy. Some make a softer claim: that an (unanticipated) increase in the demand for money "pushes the economy below its potential".

Holding [[money]] is useful. Because it can be employed for the instant satisfaction of the widest range of possible needs, it provides its owner with the best possible protection against [[uncertainty]]. In the real world, there is always uncertainty. To the extent a man's perception of uncertainty increases, so will his holdings of money. This is investment into the removal of perceived uncertainty: the person will be better prepared to face an uncertain future.

Even if all or most people would attempt to increase their cash holding, the physical production structure would be unaffected. With people striving to increase the size of their cash holdings, the money prices of goods will be bid down, and the purchasing power per unit money will rise. This results in a higher purchasing power of money and lower prices of goods.<ref name="Hoppe_holding">Hans-Hermann Hoppe. [http://mises.org/story/3449 "The Yield from Money Held" Reconsidered], ''[[Mises Institute]]'', posted 2009-05-14, referenced 2009-05-17.</ref>

Holding more money can have the very beneficial effect of increasing the degree of financial liquidity in the economic system. The higher is the degree of such financial liquidity, the less is the danger of insolvencies and bankruptcies and the greater is the security against any need for further increases in cash holdings. Therefore, increases in the demand for money for holding are self-limiting.<ref name="Reisman_deflation">George Reisman. [http://mises.org/daily/1298 "The Anatomy of Deflation"], Mises Daily, August 2003, referenced 2010-03-09.</ref>

==Transfer of wealth==
The positive effect of "having more money" benefits the producer of money and those getting it first; while the negative effects impact the latecomers. This redistribution of wealth may be limited to some degree (for example by doing business with those that get the money sooner), but cannot be avoided.<ref name="Hulsmann_money" />

(The question, whether the transfer of wealth is desirable, is ethical, not economical in nature.)

==Stability==
Stability of money appears to be a reasonable demand, In the classical meaning, it meant a stable composition of money. But to many it is the '''purchasing power''', that should be stable. Money stable in the old way tends to have a stable purchasing power as well; and the free market allows its participants to avoid rapid fluctuations in the value of money (not that there were so many - the largest upswing in precious metals in history stayed well below regular growth rates of paper currencies).

Perhaps it is "fine tuning" of the purchasing power of money, called for by many, led by the economist [[Wikipedia:Irving Fisher|Irving Fisher]], that is desirable. It failed in practice; evidenced by an unprecedented fall in value and fluctuations. If so, could it be done better some day and is it desirable?

The problem is, the "purchasing power of money" doesn't and can't have a clear and impartial definition. Any choice of goods and their relations, that should represent the it, is completely arbitrary and as an average of many values may not apply any particular person - some people may experience rising prices, others a drop. Those, that create the definition of purchasing power (and have to do so every year anew) are granted a large, arbitrary power.<ref name="Hulsmann_fiat_money" />

===Money as Measure===
[[Wikipedia:Bartholomew of Lucca|Ptolemy of Lucca]] argued that the alteration of coinage "would work to the people’s detriment, since money should be the measure of things . . . but the more the money or coinage is changed the more the value or the weight changes." The community would lose through alterations of the coinage because such alterations change a standard measure. This harm corresponds to the damage created by meddling with measures of length, temperature, etc. This applies to any alteration of money by the government.<ref name="Hulsmann_Ptolemy">[[Wikipedia:Bartholomew of Lucca|Ptolemy of Lucca]], On the Government of Rulers (Philadelphia: University of Pennsylvania Press, 1997), p. 134; referred to by Jörg Guido Hülsmann in [http://www.mises.org/books/moneyproduction.pdf "Ethics of Money Production"], online version, Chapter 3 Money within the Market Process, p.73 n.20, see also Chapter 6, p.99 n.13. Referenced 2009-05-31.</ref> [[Friedrich Hayek|Hayek]] also noted, that it upsets the reliability of accounting and will show spurious profits in excess to true gains. A wise manager could take this into account while calculating profits - but the tax authorities won't agree and will tax all the pseudo-profits. This taxation simply confiscates of some of the substance of capital, and in the case of a rapid inflation may become a very serious matter.<ref name="Hayek_accounting">[[Friedrich Hayek]]. [http://mises.org/pdf/austtrad.pdf "The Austrian Theory of the Trade Cycle and other essays"], "Can We Still Avoid Inflation?", p.84, referenced 2009-10-25.</ref>

==Debtors==
It is often asserted, that higher money prices benefit debtors, as it lowers the relative value of their debts. This may not always be the case: if the lender's estimate of the rising prices is too high, the debtor may end up paying more on account of the expected inflation.<ref name="Hulsmann_money">Jörg Guido Hülsmann. [http://www.mises.org/books/moneyproduction.pdf "Ethics of Money Production"], online version, Chapter 3 Money within the Market Process, referenced 2009-05-17.</ref>

(The question, whether the benefiting of debtors is desirable, is ethical, not economical.)

==Ethical Arguments==
While ethical considerations are not part of economical analysis, they are nonetheless relevant to the discussion. For several authors (Rothbard, Hülsmann) it is a major concern.

===Force===
No paper currency was produced in the free market, it was always forced on its users by government decree. This curtailing of civil liberties, in particular the freedom of association and freedom of contract alone makes a strong argument against fiat money.<ref name="Hulsmann_fiat_money">Jörg Guido Hülsmann. [http://www.mises.org/books/moneyproduction.pdf "Ethics of Money Production"], online version, Chapter 4 Utilitarian Considerations on the Production of Money, referenced 2009-05-17.</ref>

==Other Arguments==

===Historical impact===
Mises argues<ref name="Mises_decline">Ludwig von Mises. [http://mises.org/humanaction/chap30sec2.asp "Observations on the Causes of the Decline of Ancient Civilization"], Chapter XXX. Interference with the structure of prices, ''[[Human Action]]'', online edition, referenced 2009-05-17.</ref>, that the debasement of money was part of the reason why the ancient civilization of the Roman Empire has collapsed.

[[Nicole Oresme|Oresme]] hints at a similar conclusion.<ref name="Oresme_decline">[[Nicole Oresme]], [http://mises.org/books/oresme.pdf "The De Moneta of Nicholas Oresme and English Mint Documents"], Chapter 18, p. 29. ''"If the Italians or Romans did in the end make such alterations, as appears from bad ancient money sometimes to be found in the country, this was probably the reason why their noble empire came to nothing. It appears therefore that these changes are so bad that they are essentially impermissible."'' Referenced 2009-05-17.</ref>

===Growth of the state===
Inflation benefits the state on the expense of its population, and on the expense of lower levels of government. It is the economic driving force for the growth of the centralized state, and allows it monopolize more functions than under a natural production of money. This increases the influence on its citizens and weakens other groups.

The printing of money allows the state to act without support from the population, or against their will. To many philosophers, a government taking the property of its citizens arbitrarily is rightfully called a tyranny.<ref name="Hulsmann_ethics_inflation">Jörg Guido Hülsmann. [http://www.mises.org/books/moneyproduction.pdf "Ethics of Money Production"], online version, Chapter 13: The Cultural and Spiritual Legacy of Fiat Inflation, referenced 2009-07-15.</ref>

Inflation pushes taxpayers into higher income brackets and so leads to unlegislated tax increases. It was estimated, that in 1973 was the U.S. government's revenue from inflation more than $25 billion<ref name="Schuettinger_Price_controls">Robert L. Schuettinger and Eamonn F. Butler. "[[Forty Centuries of Wage and Price Controls]]", Chapter 1 - Ancient World, p. 9-18, referenced 2009-08-14.</ref> (compare against total receipts of that year: $359.5 billion<ref name="Budget_receipts">[http://www.whitehouse.gov/omb/budget/fy2010/assets/hist15z1.xls "Table 15.1—Total Government Receipts in Absolute Amounts and as Percentages of GDP: 1948–2008"], website of the Office of Management and Budget, referenced 2009-08-14.</ref>).

===War===
Paper money makes it possible to prolong war. People grow eventually tired of war and will try to resist further expenses of the state of it. The state can simply print the money and ignore the will of its citizens. This was reported to be the case in both World Wars, prolonged by months, if not years.

If everything is allowed in war (and e.g. the just war theory says otherwise), one should note there are others, less dangerous means to gather funds available.

Some might say, that a state is better informed about the war than the citizens. But isn't exactly that the role of political leaders, to inspire and inform the citizenry?<ref name="Hulsmann_ethics_inflation" />

===Moral Hazard===
{{Main|Moral hazard}}
Forced inflation is inherently unstable as it turns moral hazard and irresponsibility into an institution. The slow decline creates a "race to the bottom" in financial institutions and leads to repeated economic crises.<ref name="Hulsmann_ethics_inflation" />

===Moral consequences===
[[Money]] is one of the primary measures of value in any society. As such, money is a central source of stability, continuity, and coherence in any community. By making money worthless, inflation threatens to undermine and dissolve all sense of value in a society. Consider what happens to our lives when we are forced to take our money purely on faith and that faith is betrayed by the government.

From an analysis of [[hyperinflation]], several consequences are observed:<ref name="Cantor_Hyperinflation">Paul A. Cantor. [http://mises.org/journals/rae/pdf/RAE7_1_1.pdf "Hyperinflation and Hyperreality: Thomas Mann in Light of Austrian Economics"], The Review of Austrian Economics Vol.7 No.1 (1994), referenced 2010-01-25.</ref>
* people must concentrate more on the economic facts of life
* government interventions lead to others, interfering with the market, but people learn to work around them
* "flight into real goods" - the striving to quickly exchange depreciating money for real goods
* the transfer of wealth disrupts the social order, and hard-working people can easily end up in poverty
* a larger number of speculators
* future becomes uncertain and unpredictable
* authority of the older generation is discredited and power turns over to the youth
* a rising number of substitutes and products of lower quality
* while the rate of inflation differs, it affects every single country, and is the most pervasive economic fact of our time

==References==
{{Reflist}}

==External Links==
* James Kimball, [http://mises.org/journals/qjae/pdf/qjae8_3_4.pdf "The Gold Standard in Contemporary Economic Principles Textbooks: A Survey]" (pdf), Quarterly Journal of Austrian Economics 8, no. 3 (2005). (An overview of the most widely accepted present-day criticisms of natural money.)
* Ludwig von Mises, [http://mises.org/books/Theory_Money_Credit/Contents.aspx "The Theory of Money and Credit]" (1912). (The fundamental issues related to sound money that are crucial for a market economy.)
* Murray N. Rothbard, [http://mises.org/money.asp "What has Government Done to Our Money?"] (1964).
* Murray N. Rothbard, [http://mises.org/books/fed.pdf "The Case Against the Fed"] (pdf) (1994).
* Mark Thornton, [http://mises.org/journals/scholar/Thornton16.pdf "Mises vs. Fisher on Money, Method, and Prediction: The Case of the Great Depression"] (pdf).
* Jörg Guido Hülsmann, [http://mises.org/books/deflationandliberty.pdf "Deflation and Liberty"] (pdf).
[[Category:Argumentation]]

Eugen von Böhm-Bawerk

2010-11-10T15:31:41Z

192.100.130.238: Returned external links and part of the intro from a previous version.

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'''Eugen Ritter von Böhm-Bawerk''' (February 12, 1851 – August 27, 1914) was an Austrian economist best known for his three-volume work ''[[Capital and Interest]]''. He was a disciple of [[Carl Menger]] and made important contributions to the theories of subjective [[value]], [[capital]] and [[interest]], and criticized strongly the theories of [[Karl Marx]]. He was the mentor of [[Ludwig von Mises]]. Böhm-Bawerk served as the Austrian Minister of Finance from 1895 to 1904, and was pictured on the 100 schilling note until the introduction of the Euro.

==External links==
* [http://mises.org/about/3229 Biography of Eugen von Böhm-Bawerk]
* [[Wikipedia:Eugen von Böhm-Bawerk|Eugen von Böhm-Bawerk]] on Wikipedia
* [http://www.econlib.org/library/Enc/bios/BohmBawerk.html Biography] in the Concise Encyclopedia of Economics
* [http://homepage.newschool.edu/het//profiles/bawerk.htm Profile] by the History of Economic Thought website
* Online works of [http://mises.org/literature.aspx?action=author&Id=107 Böhm-Bawerk]
* [http://mises.org/daily/1680 Böhm-Bawerk’s Critique of the Exploitation Theory of Interest] by Robert P. Murphy, November 2004
* [http://mises.org/daily/2674 Control or Economic Law] by Eugen von Böhm-Bawerk, November 2007
* [http://mises.org/daily/4637 The Law of Final Utility] by Eugen von Böhm-Bawerk, excerpted from ''The Austrian Economists''

{{DEFAULTSORT:Böhm-Bawerk, Eugen von}}
[[Category:Biographies]]

Capital

2010-11-10T10:56:53Z

192.100.130.238: /* External links */ Resource added.

{{RightTOC}}{{Stub}}

'''Capital''' are the [[good]]s, that were produced by previous stages of production, but do not directly satisfy [[Consumption|consumer's needs]]; they are used in [[production]] to eventually produce consumer goods.<ref name="Rothbard_Means">Murray N. Rothbard. [http://mises.org/rothbard/mes/chap1c.asp#9._The_Formation "9. The Formation of Capital"], ''[[Man, Economy and State]]'', referenced 2009-05-19.</ref>

==The Formation of Capital==
In the simplest example of an economy (the "[[Robinson Crusoe economy]]"), a person can spend [[time]] producing consumer goods and consuming them. In order to produce capital goods, he must [[Saving|save]], i.e. ''consume less'' than his means allow in the present. With capital, he can produce more and and so ''consume more'' in the future.

The creation of capital goods is called [[investment]].<ref name="Rothbard_Means" />

==Capital in Production==
Capital makes the [[production]] process more "roundabout"; in general are these methods are more productive than shorter, more direct methods. An actor will opt for longer, more roundabout methods so long as the enhanced output more than offsets the increased waiting time, which in itself is a disadvantage because of [[Time#Time preference|time preferences]].

Without the aid of capital, only goods with the shortest period of production are available. Goods with longer periods of production are not available unless capital goods are acquired.

There are two ways in which longer processes of production through the use of capital may increase productivity:
# by making possible a greater production of the same good per unit of time; or
# by making possible the production of consumer goods that were not available ''at all'' with a shorter process of production<ref name="Rothbard_Means" />

==The perishable nature of capital==
All capital goods are '''perishable'''. The few products that are not perishable but permanent become, to all intents and purposes, part of the [[land]]. Otherwise, all capital goods are perishable, used up during the processes of production. It can be said that capital goods are transformed into their products during production.

Some capital goods are used up in each production-event. Other capital goods are also used up, but not as suddenly; they may last many years. Each particular capital good has a different useful life and therefore a different rate of ''depreciation'', of being used up.<ref name="Rothbard_Saving_Capital">Murray N. Rothbard. [http://mises.org/rothbard/mes/chap1d.asp "9. The Formation of Capital"], [[Man, Economy and State]], online edition, referenced 2009-07-09.</ref>

==Capital as sunk costs==
The prevailing view assumes that capital is simply one of many factors used in equations, functions, and models. Capital is homogenous, so the greater the amount of capital, the better off society is. And it does not even matter how capital has taken shape in the past, since, once formed, it can be reformed wherever and whenever needed. It could be likened to clay, ready for the potter to reshape it in a moment's time.

But, in reality, capital is always a historic relic, a product of previous efforts and most of the time a '''sunk cost'''. It is not some mass that can be modified free form to fit the needs of today and tomorrow. As an example, note an old abandoned factory. It may be evidence to the massive investment of resources - but now it is evidence of the unyielding nature of most capital, a sunk cost with little to no alternative use.

If a company has (say) $100 million invested in technology, and the cost of a new system is $110 million, it does not mean that the effective cost is just an additional $10 million ($110 million minus the current capital of $100 million). The $100 million cannot be simply dipped into the new system. Some components of the current system may be portable to the new system, and reduce the total expenditure. But capital is, for the most part, fixed and sunk. This is especially true when it is mature and integrated into other systems.

In the Austrian view, the current structure of capital is a given, something that the entrepreneur must take into consideration when formulating his plans. If an entrepreneur wants to change the current structure of capital, he will wield dynamite and dozer, not water and wheel.

If the capital was malleable, there would be no real concern of credit expansion (see [[Inflation]]) leading to a [[Malinvestment|misallocation]] of capital, it would be just a minor inconvenience. In reality, misallocations are wasted resources, including precious and scarce [[time]]. Misallocated capital is of no use to anyone. It is a loss to the entrepreneur, the investor, and the consumer.<ref name="Fedako_potter">Jim Fedako. [http://mises.org/daily/3812 "The Austrians versus the Mainstream Potter and His Wheel"], Mises Daily, November 02 2009, referenced 2010-01-10.</ref>

===Capital and new technology===
Not every technological improvement is immediately applied - but then, not everybody throws away his old car or his old clothes as soon as a better car is on the market or a new fashion trend. In these considerations are people are motivated by the [[scarcity]] of available goods.

Let's say a new machine is constructed, more efficient than currently used machines. Should the plants replace the old machines, while they are still usable, and replace them with the new model? Only if the additional expenses are compensated for, is the scrapping of the old equipment economically sound. The same considerations apply for the moving of an existing plant to a location with more favorable conditions.<ref name="Mises_technology">[[Ludwig von Mises]]. [http://mises.org/humanaction/chap18sec6.asp XVIII. Action in the passing of Time], 6. The Influence of the Past Upon Action, [[Human Action]], online version, referenced 2010-02-05.</ref>

==Maintenance of capital==
A large part of [[investment]] must be spent simply to offset wear and tear and obsolescence of the existing capital stock.

In a country such as the United States, with an enormous fixed capital stock built up over the centuries, a great amount of funds must be allocated simply to maintain that stock. According to an estimate, in 2006, gross private domestic investment reached its most recent peak, at $2.33 trillion (in constant 2005 dollars). After remaining almost at this level in 2007, this measure of investment fell substantially during each of the next two years, reaching $1.59 trillion, in 2009. The "private capital consumption allowance" that attempts to measure these maintenance costs, has ranged from $1.29 trillion in 2005 to $1.46 trillion (in constant 2005 dollars) in 2009. Thus, even in the boom year 2006, about 60 percent of gross private domestic investment was required merely to maintain the economy’s productive capacity, leaving just 40 percent, or $889 billion in net private domestic investment, to increase that capacity.

From that level, net private domestic investment plunged during each of the following three years, it fell in 2009 to only $54 billion (in constant 2005 dollars), having declined altogether by 94 percent from its 2006 peak! In 2009 only 3.5 percent of all private investment spending went toward building up the capital stock. Thus, net private investment did not simply fall during the [[The Great Recession|recession]]; it virtually disappeared - while the '''maintenance costs''' kept increasing.<ref name="Higgs_Divergence">Robert Higgs. [http://www.independent.org/blog/index.php?p=7882 "The Great Divergence: Private Investment and Government Power in the Present Crisis"], ''The Independent Institute '', on Sep 18, 2010. Data taken or derived from the National Economic Accounts prepared by the Commerce Department’s ''Bureau of Economic Analysis'' (Tables 1.1.5, 1.1.6, and 5.2.6 - see a [http://www.bea.gov/national/nipaweb/SelectTable.asp?Selected=N list of tables] for information. Referenced 2010-09-20.</ref>

==Capital consumption==
Because [[capital]] is perishable, it must be renewed, if man wishes to enjoy the fruits of higher production. Saving must be repeated over and over, capital could break down and be replaced in whole or be repaired and kept in shape.

Man can avoid the trouble of saving and enjoy a higher consumption now. But if the capital is not replaced, [[production]] will later drop. Instead of saving and maintaining capital structure, capital is '''consumed'''. In this case, [[time preference]] has led man to prefer more present consumption, in exchange for greater losses in future consumption.<ref name="Rothbard_Saving_Capital">Murray N. Rothbard. [http://mises.org/rothbard/mes/chap1d.asp "9. The Formation of Capital"], [[Man, Economy and State]], online edition, referenced 2009-07-09.</ref>

Workers use capital goods to augment their labor to create consumption goods. Because of the [[time]] structure of [[production]], it is possible to temporarily boost everyone's consumption, but only at the expense of maintaining the capital goods, which are so "consumed." At some point, reality sets in, and no "stimulus" policies can prevent a sharp drop in consumption.

In the boom period of the [[business cycle]], people consume more - even while new, unsustainable investment projects are started. Sustainable projects initially require, that investors reduce their consumption and channel their savings into new projects. But during a boom induced by a [[central bank]], there hasn't been real savings to fund the new investments. That's why the boom is unsustainable, but also explains why consumption increases at the same time as investment in new projects. This is impossible in the long run, but possible in the short run. What happens is neglect of maintenance on critical intermediate goods. A modern economy is very complex, and it can take years for an unsustainable structure to become recognized as such.

During the [[recession]] following the artificial boom period, resources need to get rearranged; certain projects need to be abandoned; and critical intermediate goods need to be replenished since they were ignored during the boom. It takes time for all the different types of materials, tools, and equipment to be furnished to resume normal growth. During that transition, the contribution of the labor of some people is so low that it's not worth it to hire them (especially with [[Minimum wage|minimum-wage]] laws and other regulations). The result is [[unemployment]].<ref name="Murphy_Capital">Robert P. Murphy. [http://mises.org/story/3155 "The Importance of Capital Theory"], posted in Mises Daily on Monday, October 20, 2008, referenced 2009-10-02.</ref>
{{See also|Austrian Business Cycle Theory}}

==References==
{{Reflist}}

==External links==
* [[Wikipedia:Capital (economics)|Capital]] on Wikipedia
* [http://www.auburn.edu/~garriro/b4mismac.htm Austrian Capital Theory And The Future of Macroeconomics] by Roger W. Garrison, 1991
* [http://mises.org/daily/4788 Thinking Clearly about Capital, Interest, and Income] by Robert P. Murphy, November 2010
[[Category:Economic concepts]]

Austrian School

2010-11-08T14:58:50Z

192.100.130.238: /* Pre-Austrian Economists */ Internalized link to School of Salamanca and Physiocrats.

The '''Austrian School of Economics''' derives its name from its Austrian founders and early supporters, including [[Carl Menger]], [[Eugen von Böhm-Bawerk]] and [[Ludwig von Mises]]. Other significant economists include [[Henry Hazlitt]], [[Murray Rothbard]] and Nobel Laureate [[Friedrich Hayek]]. Current research is represented by, among many others, scholars from the [[Mises Institute|Ludwig von Mises Institute]].

This school emphasizes the spontaneous organizing power of the price mechanism and holds that the complexity of subjective human choices makes mathematical modeling of the evolving market extremely difficult (or impossible). Its proponents tend to advocate a laissez faire approach to the economy and the enforcement of voluntary contractual agreements between economic agents, but otherwise the smallest imposition of coercive force (especially government-imposed) on commercial transactions.

==History==
While the Austrian School of Economics has connections as far as 15th century, it began with notable 19th century economists of Austrian origin.

===Pre-Austrian Economists===
With noted contributions of earlier thinkers, like [[Nicole Oresme]], the Austrian school traces its roots to the followers of St. Thomas Aquinas, writing and teaching at the [[School of Salamanca|University of Salamanca]] in Spain.

These Late Scholastics established the first modern economic theories and argued, in current terms, for free [[trade]] and property rights. Over the course of several generations, they discovered and explained the laws of [[supply]] and [[demand]], the cause of [[inflation]], the operation of foreign exchange rates, and the subjective nature of economic [[value]]. They were advocates of property rights and the freedom to contract and trade. "Austrians share the scholastic belief that there is no such thing as an economic science dealing with autonomous variables. Economic problems are aspects of larger social phenomena; and it is most expedient to deal with them as such, rather than to analyze them in some twisted separation."<ref name="Hulsmann_scholastics">Jörg Guido Hülsmann. [http://www.mises.org/books/moneyproduction.pdf "Ethics of Money Production"], online version, Introduction p. 12, referenced 2009-05-10.</ref>

The first general treatise on economics, [http://socserv2.socsci.mcmaster.ca/~econ/ugcm/3ll3/cantillon/index.html Essay on the Nature of Commerce], was written in 1730 by [[Richard Cantillon]], a man schooled in the scholastic tradition. Born in Ireland, he emigrated to France. He saw economics as an independent area of investigation, and explained the formation of [[price]]s using the "thought experiment." He understood the market as an entrepreneurial process, and held to an Austrian theory of money creation: that it enters the economy in a step-by-step fashion, disrupting prices along the way.

Cantillon was followed by [[Anne Robert Jacques Turgot]], the pro-market French aristocrat and finance minister under the ''ancien regime'', one of the [[Physiocrats]]. His economic writings were few but profound. His paper "Value and Money" spelled out the origins of money, and the nature of economic choice: that it reflects the subjective rankings of an individual's preferences. Turgot solved the famous [[Wikipedia:Paradox of value|diamond-water paradox]] that baffled later classical economists, articulated the law of diminishing returns, and criticized usury laws (a sticking point with the Late Scholastics). He favored a classical liberal approach to economic policy, recommending a repeal of all special privileges granted to government-connected industries.

Turgot was the intellectual father of a long line of great French economists of the eighteenth and nineteenth century, most prominently [[Jean-Baptiste Say]] and [[Frederic Bastiat|Claude-Frederic Bastiat]]. Say was the first economist to think deeply about economic method. He realized that economics is not about the amassing of data, but rather about the verbal elucidation of universal facts (for example, wants are unlimited, means are scarce) and their logical implications.

Say discovered the productivity theory of resource pricing, the role of [[capital]] in the division of labor, and "[[Wikipedia:Say's Law|Say's Law]]": there can never be sustained "overproduction" or "underconsumption" on the free market if prices are allowed to adjust. He was a defender of laissez-faire and the industrial revolution, as was Bastiat. As a free-market journalist, Bastiat also argued that nonmaterial services are subject to the same economic laws as material [[good]]s. In one of his many economic allegories, Bastiat spelled out the "[[Wikipedia:Parable of the broken window|broken-window fallacy]]" later popularized by [[Henry Hazlitt]].

Despite the theoretical sophistication of this developing pre-Austrian tradition, the [[Wikipedia:Classical economics|British school]] of the late eighteenth and early nineteenth centuries won the day, mostly for political reasons. This British tradition (based on the objective-cost and labor-productivity theory of value) ultimately led to the rise of the Marxist doctrine of capitalist exploitation.

===The First Austrians===
The dominant British tradition received its first serious challenge in many years when [[Carl Menger]]'s [[Wikipedia:Principles of Economics|Principles of Economics]] ([http://mises.org/etexts/menger/principles.asp text]) was published in 1871. Menger, the founder of the Austrian School proper, resurrected the Scholastic-French approach to economics, and put it on firmer ground.

Together with the contemporaneous writings of [[Wikipedia:Leon Walras|Leon Walras]] and [[Wikipedia:William Stanley Jevons|Stanley Jevons]], Menger spelled out the subjective basis of [[Value|economic value]], and fully explained, for the first time, the theory of [[Utility|marginal utility]] (the greater the number of units of a [[good]] that an individual possesses, the less he will value any given unit). In addition, Menger showed how money originates in a free market when the most marketable [[commodity]] is desired, not for consumption, but for use in trading for other goods.

Menger's book was a pillar of the "[[Wikipedia:Marginalist revolution#The_Marginal_Revolution|marginalist revolution"]] in the history of economic science. When Mises said it "made an economist" out of him, he was not only referring to Menger's theory of money and prices, but also his approach to the discipline itself. Like his predecessors in the tradition, Menger was a classical liberal and methodological individualist, viewing economics as the science of individual choice. His Investigations, which came out twelve years later, battled the [[Wikipedia:Historical school of economics|German Historical School]], which rejected theory and saw economics as the accumulation of data in service of the state. They took great exception to his defense of "theory" and gave the work of Menger and his followers the derogatory name "'''Austrian school'''" because of their faculty positions at the University of Vienna. The term stuck.<ref name="School">[http://mises.org/about/3467#Austrian_Economics "FAQ: What is Austrian Economics"], ''[[Mises Institute]]'', referenced 2009-04-27.</ref>

As professor of economics at the University of Vienna, and then tutor to the young but ill-fated [[Wikipedia:Rudolf, Crown Prince of Austria|Crown Prince Rudol]]f of the House of Habsburg, Menger restored economics as the science of human action based on deductive logic, and prepared the way for later theorists to counter the influence of socialist thought. Indeed, his student [[Wikipedia:Friederich von Wieser|Friederich von Wieser]] strongly influenced Friedrich von Hayek's later writings. Menger's work remains an excellent introduction to the economic way of thinking.

Menger's admirer and follower at the University of Innsbruck, [[Eugen von Böhm-Bawerk]], took Menger's exposition, reformulated it, and applied it to a host of new problems involving [[value]], [[price]], [[capital]], and interest. His [[Wikipedia:Capital and Interest|History and Critique of Interest Theories]] ([http://mises.org/books/capitalandinterest.pdf pdf]), appearing in 1884, is a sweeping account of fallacies in the history of thought and a firm defense of the idea that the interest rate is not an artificial construct but an inherent part of the market. It reflects the universal fact of "[[time preference]]," the tendency of people to prefer satisfaction of wants sooner rather than later (a theory later expanded and defended by [[Wikipedia:Frank Fetter|Frank Fetter]]<ref name="Fetter">Jeffrey Herbener. [http://mises.org/about/3231 "Frank A. Fetter (1863-1949): A Forgotten Giant"], ''[[Mises Institute]]'', referenced 2009-04-28.</ref>).

Böhm-Bawerk's ''Positive Theory of Capital'' ([http://mises.org/books/positivetheory.pdf pdf]) demonstrated that the normal rate of business profit is the interest rate. Capitalists [[Saving|save]] money, pay laborers, and wait until the final product is sold to receive profit. In addition, he demonstrated that [[capital]] is not homogeneous but an intricate and diverse structure that has a time dimension. A growing economy is not just a consequence of increased capital investment, but also of longer and longer processes of production.

Böhm-Bawerk engaged in a prolonged battle with the [[Wikipedia:Marxian Economics|Marxists]] over the exploitation theory of capital, and refuted the socialist doctrine of capital and wages long before the communists came to power in Russia. Böhm-Bawerk also conducted a seminar that would later become the model for Mises's own Vienna seminar.

Böhm-Bawerk favored policies that deferred to the ever-present reality of economic law. He regarded interventionism as an attack on market economic forces that cannot succeed in the long run. In the last years of the Habsburg monarchy, he three times served as finance minister, fighting for balanced budgets, sound money and the [[gold standard]], free trade, and the repeal of export subsidies and other monopoly privileges.

===Mises and Hayek===
It was Böhm-Bawerk's research and writing that solidified the status of the Austrian School as a unified way of looking at economic problems, and set the stage for the School to make huge inroads in the English-speaking world. But one area where Böhm-Bawerk had not elaborated on the analysis of Menger was [[money]], the institutional intersection of the "micro" and "macro" approach. The young [[Ludwig von Mises]]<ref name="Mises">Murray N. Rothbard. [http://mises.org/about/3248 "Ludwig von Mises (1881-1973)"], ''[[Mises Institute]]'', referenced 2009-04-26.</ref>, economic advisor to the Austrian Chamber of Commerce, took on the challenge.

The result of Mises's research was [[Wikipedia:The Theory of Money and Credit|The Theory of Money and Credit]] ([http://mises.org/books/Theory_Money_Credit/Contents.aspx text]), published in 1912. He spelled out how the theory of [[Utility|marginal utility]] applies to [[money]], and laid out his "regression theorem," showing that money not only originates in the market, but must always do so. Drawing on the [[British Currency School|British Currency School]], [[Wikipedia:Knut Wicksell|Knut Wicksell]]'s theory of [[interest rate]]s, and Böhm-Bawerk's theory of the structure of production, Mises presented the broad outline of the [[Austrian Business Cycle Theory|Austrian theory of the business cycle]]. A year later, Mises was appointed to the faculty of the University of Vienna, and Böhm-Bawerk's seminar spent a full two semesters debating Mises's book.

Mises's career was interrupted for four years by [[Wikipedia:World War I|World War I]]. He spent three of those years as an artillery officer, and one as a staff officer in economic intelligence. 1919, at war's end, he published ''Nation, State, and Economy'' ([http://mises.org/nsande.asp text]), arguing on behalf of the economic and cultural freedoms of minorities in the now-shattered empire, and spelling out a theory of the economics of war. Meanwhile, Mises's monetary theory received attention in the U.S. through the work of [[Wikipedia:Benjamin Anderson|Benjamin M. Anderson, Jr.]]<ref name="Anderson">Mark Thornton. [http://mises.org/about/3226 "Benjamin Anderson (1886-1949)"], ''[[Mises Institute]]'', referenced 2009-04-26.</ref>, an economist at Chase National Bank. (Mises's book was panned by [[Wikipedia:John Maynard Keynes|John Maynard Keynes]], who later admitted he could not read German.{{Fact|reason=It would be cool to quote this somewhere.}})

In the political chaos after the war, the main theoretician of the now-socialist Austrian government was Marxist [[Wikipedia:Otto Bauer|Otto Bauer]]. Knowing Bauer from the Böhm-Bawerk seminar, Mises explained economics to him night after night, eventually convincing him to back away from Bolshevik-style policies.{{fact|reason=It would be great to have a resource on this.}} The Austrian socialists never forgave Mises for this, waging war against him in academic politics and successfully preventing him from getting a paid professorship at the university.

Undeterred, Mises turned to the problem of socialism itself, writing a blockbuster essay in 1921, which he turned into the book [[Wikipedia:Socialism (book)|Socialism]] ([http://www.mises.org/books/socialism/contents.aspx text]) over the next two years. Socialism permits no private property or exchange in [[Capital|capital goods]], and thus no way for resources to find their most highly valued use. Socialism, Mises predicted, would result in utter chaos and the end of civilization.

Mises challenged the socialists to explain, in economic terms, precisely how their system would work, a task which the socialists had heretofore avoided. The debate between the Austrians and the socialists continued for the next decade and beyond, and, until the collapse of world socialism in 1989, academics had long thought that the debate was resolved in favor of the socialists.

Meanwhile, Mises's arguments on behalf of the free market attracted a group of converts from the socialist cause, including [[Friedrich Hayek|Hayek]], [[Wikipedia:Wilhelm Roepke|Wilhelm Roepke]]<ref name="Roepke">Shawn Ritenour. [http://mises.org/about/3241 "Wilhelm Röpke (1899-1966): Humane Economist"], ''[[Mises Institute]]'', referenced 2009-04-27.</ref> , and [[Wikipedia:Lionel Robbins|Lionel Robbins]]. Mises began holding a private seminar in his offices at the Chamber of Commerce that was attended by [[Wikipedia:Fritz Machlup|Fritz Machlup]]<ref name="Machlup">Mark Thornton. [http://mises.org/about/3237 "Biography of Fritz Machlup (1902-1983)"], ''[[Mises Institute]]'', referenced 2009-04-27.</ref>, [[Wikipedia:Oskar Morgenstern|Oskar Morgenstern]], [[Wikipedia:Gottfried von Haberler|Gottfried von Haberler]]<ref name="Haberler">[http://mises.org/journals/aen/aen20_1_1.asp "Between Mises and Keynes An Interview with Gottfried von Haberler (1900-1995)"], ''The Austrian Economics Newsletter'' Spring 2000 Volume 20, Number 1, referenced 2009-04-27.</ref>, [[Wikipedia:Alfred Schutz|Alfred Schutz]]<ref name="Schutz">Peter Kurrild-Klitgaard. [http://mises.org/journals/qjae/pdf/qjae6_2_2.pdf "The Viennese Connection: Alfred Schutz and the Austrian School"](pdf), ''The Quarterly Journal Of Austrian Economics'' Vol.6, no.2, referenced 2009-04-27.</ref>, Richard von Strigl<ref name="Strigl">Jörg Guido Hülsmann. [http://mises.org/about/3243 "Richard von Strigl (1891-1942)"], ''[[Mises Institute]]'', referenced 2009-04-27.</ref>, [[Wikipedia:Eric Voegelin|Eric Voegelin]], [[Wikipedia:Paul Rosenstein-Rodan|Paul Rosenstein-Rodan]], and many other intellectuals from all over Europe.

Also during the 1920s and 30s, Mises was battling on two other academic fronts. He delivered the decisive blow to the [[Wikipedia:Historical school of economics|German Historical School]] with a series of essays in defense of the deductive method in economics, which he would later call [[praxeology]] or the logic of [[action]]. He also founded the Austrian Institute for Business Cycle Research, and put his student Hayek in charge of it.

During these years, Hayek and Mises authored many studies on the [[business cycle]], warned of the danger of credit expansion, and predicted the coming currency crisis. This work was cited by the [[Wikipedia:Nobel Memorial Prize in Economic Sciences|Nobel Memorial Prize]] committee in 1974 when Hayek received the award for economics. Working in England and America, Hayek later became a prime opponent of [[Wikipedia:Keynesian economics|Keynesian economics]] with books on exchange rates, capital theory, and monetary reform. His popular book [[Wikipedia:Road to Serfdom|Road to Serfdom]] helped revive the classical liberal movement in America after the [[Wikipedia:New Deal|New Deal]] and [[Wikipedia:World War II|World War II]]. And his series [[Wikipedia:Law, Legislation and Liberty|Law, Legislation, and Liberty]] ([http://books.google.com/books?id=wK49AAAAIAAJ&dq=Law,+Legislation+and+Liberty&printsec=frontcover&source=bl&ots=YAvviNdntc&sig=ZdwmZeD_vlQzvUM5nIIs2xmqp50&hl=en#PPP1,M1 online]) elaborated on the Late Scholastic approach to law, and applied it to criticize egalitarianism and [[Wikipedia:Nostrums|nostrums]] like [[Wikipedia:Social justice|social justice]].

===Outside of Austria===
In the late 1930s, after suffering from the [[Great Depression|worldwide depression]], Austria was threatened by a Nazi takeover. Hayek had already left for London in 1931 at Mises's urging, and in 1934, Mises himself moved to Geneva to teach and write at the [[Wikipedia:Graduate Institute of International Studies|International Institute for Graduate Studies]], later emigrating to the United States. Knowing Mises as the sworn enemy of national socialism, the Nazis confiscated Mises's papers from his apartment and hid them for the duration of the war. Ironically, it was Mises's ideas, filtered through the work of Roepke and the statesmanship of [[Wikipedia:Ludwig Erhard|Ludwig Erhard]], that led to Germany's postwar economic reforms and rebuilt the country. Then, in 1992, Austrian archivists discovered Mises's stolen Vienna papers in a reopened archive in Moscow.<ref name="Documents">Richard M. Ebeling. [http://www.fff.org/comment/ed0397e.asp "The Discovery of the Lost Papers of Ludwig von Mises"], ''The Future of Freedom Foundation'', March 1997, referenced 2009-04-28.</ref>

While in Geneva, Mises's wrote his masterwork, ''Nationalokonomie'' ([http://www.mises.org/books/nationaloekonomie.pdf pdf]), and, after coming to the United States, revised and expanded it into [[Wikipedia:Human Action|Human Action]] ([http://mises.org/resources/3250 text]), which appeared in 1949. His student [[Wikipedia:Murray Rothbard|Murray N. Rothbard]]<ref name="Rothbard">David Gordon. [http://mises.org/about/3249 "Murray N. Rothbard (1926-1995)"], ''[[Mises Institute]]'', referenced 2009-04-28.</ref> called it "Mises's greatest achievement and one of the finest products of the human mind in our century. It is economics made whole." It remains the economic treatise that defines the School. Even so, it was not well received in the economics profession, which had already made a decisive turn towards Keynesian.

Though Mises never held the paid academic post he deserved, he gathered students around him at New York University, just as he had in Vienna. Even before Mises emigrated, journalist [[Henry Hazlitt]] had become his most prominent champion, reviewing his books in the New York Times and Newsweek, and popularizing his ideas in such classics as [[Wikipedia:Economics in One Lesson|Economics in One Lesson]] ([http://fee.org/download/13/ pdf]). Yet Hazlitt made his own contributions to the Austrian School. He wrote a line-by-line [[Wikipedia:The Failure of the New Economics|critique]] ([http://www.mises.org/books/failureofneweconomics.pdf pdf]) of Keynes's [[Wikipedia:The General Theory of Employment, Interest and Money|General Theory]] ([http://www.marxists.org/reference/subject/economics/keynes/general-theory/ text]), defended the writings of Say, and restored him to a central place in Austrian macroeconomic theory. Hazlitt followed Mises's example of uncompromising adherence to principle, and as a result was pushed out of four high-profile positions in the journalistic world.

Mises's New York seminar continued until two years before his death in 1973. During those years, Rothbard was his student. Indeed, Rothbard's [[Wikipedia:Man, Economy, and State|Man, Economy, and State]] ([http://www.mises.org/rothbard/mes.asp text]) was patterned after Human Action, and in some areas--[[monopoly]] theory, [[utility]] and [[welfare]], and the theory of the state--tightened and strengthened Mises's own views. Rothbard's approach to the Austrian School followed directly in the line of Late Scholastic thought by applying economic science within a framework of a natural-rights theory of property. What resulted was a full-fledged defense of a capitalistic and stateless social order, based on [[property]] and freedom of association and contract.

Rothbard followed his economic treatise with an investigation of the [[Great Depression|Great Depression]], which applied [[Austrian Business Cycle Theory]] to show that the stock market crash and economic downturn was attributable to a prior [[bank]] [[Inflation|credit expansion]]. Then in a series of studies on government policy, he established the theoretical framework for examining the effects of all types of intervention in the market.

In his later years, Mises saw the beginnings of the revival of the Austrian School that dates from the appearance of ''Man, Economy, and State'' and continues to this day. It was Rothbard who firmly established the Austrian School and classical liberal doctrine in the U.S., especially with [[Wikipedia:Conceived in Liberty|Conceived in Liberty]] (volumes [http://mises.org/books/conceived1.pdf I], [http://mises.org/books/conceived2.pdf II], [http://mises.org/books/conceived3.pdf III], [http://mises.org/books/conceived4.pdf IV]), his four-volume history of colonial America and the secession from Britain. The reunion of natural-rights theory and the Austrian School came in his philosophical work, [[Wikipedia:The Ethics of Liberty|The Ethics of Libery]] ([http://www.mises.org/rothbard/ethics/ethics.asp text]), all while he was writing a series of scholarly economic pieces gathered in the two-volume ''Logic of Action'', published in Edward Elgar's ''Economists of the Century'' series.

The founding of the [[Mises Institute|Ludwig von Mises Institute]] in 1982, with the aid of Margit von Mises as well as Hayek and Hazlitt, provided a range of new opportunities for both Rothbard and the Austrian School. Through a steady stream of academic conferences, instructional seminars, books, monographs, newsletters, studies, and even films, they carried the Austrian School forward into the post-socialist age.

The fascinating history of this great body of thought, through all its ebbs and flows, is the story of how great minds can advance science and oppose evil with creativity and courage. Now the Austrian School enters a new millennium as the intellectual standard bearer for the free society. That it does so is thanks to the heroic and brilliant minds that make up the family history of the School, and to those who are carrying that legacy forward.

==Economics and Philosophy==
{{main|Economics}}

Austrian School economists advocate strict adherence to [[Wikipedia:Methodological individualism|methodological individualism]] – analyzing human [[action]] from the perspective of individual agents.<ref name="Mises_Individualism">Ludwig von Mises [http://mises.org/humanaction/chap2sec4.asp "The Principle of Methodological Individualism"], ''[[Human Action]]'' online edition, [[Mises Institute]]. Referenced 2009-04-24}.</ref> Proponents of this method, [[praxeology]], argue that the only means of arriving at a valid economic theory is to derive it logically from basic principles of human action. Proponents of this method hold that it allows for the discovery of fundamental economic laws valid for all human action. Alongside praxeology, the school has traditionally advocated an interpretive approach to history to address specific historical events.

==References==
{{Reflist}}

==External links==
* [http://mises.org/etexts/austrian.asp What is Austrian Economics?] from the [[Mises Institute]]
* [[Wikipedia:Austrian School|Austrian School]] on Wikipedia
* [http://www.econlib.org/library/Enc/AustrianSchoolofEconomics.html Austrian School of Economics] from The Concise Encyclopedia of Economics
* [http://homepage.newschool.edu/het//schools/austrian.htm The Austrian School] from the History of Economic Thought page
* [http://mises.org/daily/4390 A Primer on Austrian Economics] by Jonathan M. Finegold Catalan, June 2010
[[Category:Historical]]

Great Recession

2010-10-27T13:30:39Z

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The [[Wikipedia:Late-2000s recession|economical crisis]], that began in 2007, has been named the '''Great Recession''' due to its impact on the American and worldwide economy.<ref name="Zuckerman_recession">Zuckerman, Mortimer. [http://online.wsj.com/article/SB10001424052748703837004575013592466508822.html "Mortimer Zuckerman: The Great Recession Continues - WSJ.com"], ''The Wall Street Journal'', referenced 2010-07-23.</ref><ref name="Evans-Pritchard_recession">Evans-Pritchard, Ambrose. [http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/7871421/With-the-US-trapped-in-depression-this-really-is-starting-to-feel-like-1932.html "With the US trapped in depression, this really is starting to feel like 1932"]. ''The Daily Telegraph'' (London). Referenced 2010-07-27.</ref><ref name="Samuelson_recession">Robert J. Samuelson. [http://www.washingtonpost.com/wp-dyn/content/article/2010/07/11/AR2010071103038.html "The Great Recession's stranglehold"], ''The Washington Post'', July 12, 2010. Referenced 2010-07-27.</ref><ref name="Isidore_recession">Chris Isidore. [http://money.cnn.com/2009/03/25/news/economy/depression_comparisons/ "The Great Recession"], ''CNNMoney.com'', First Published: March 25, 2009. Referenced 2010-07-27.</ref>

==Prelude to the crisis==
Banks increasingly had the incentive to make long-term amortizing loans secured by long-term assets because the threat of bank runs has been taken away by increases in [[Wikipedia:Federal Deposit Insurance Corporation|FDIC]] deposit insurance. Deposit insurance started at $2,500 in the [[Great Depression]] and has increased in fits and starts to $250,000 in 2009. With the increase in deposit insurance there is no need to maintain liquidity. So instead of making short-term, self-liquidating business lines of credit, bankers opted for making real-estate loans.

Numbers from the FDIC reflect this shift over the past decade. At the end of the third quarter of 1999, the assets of the nation's banks totaled $5.5 trillion. As of September 30 2009, bank assets had grown to $13.2 trillion. Commercial and industrial loans outstanding only grew from $947 billion a decade ago to $1.27 trillion by September 30, 2009. Meanwhile, loans secured by real estate increased from $1.43 trillion in the fall of 1999 to $4.5 trillion in 2009. And investment in securities doubled, rising from $1.03 trillion to $2.4 trillion.<ref name="French_loans">Doug French. [http://mises.org/daily/3925 "Productive Debt versus Unproductive Debt"], Mises Daily, December 08, 2009. Referenced 2010-07-28.</ref>

Finance was once just a small portion of the US economy, but by 2007 it had mushroomed into being over a quarter of the S&P 500, after being only 5 percent of the index back in 1980 — and this doesn't count the financial affiliates of companies like GE. Finance is the largest sector of the US economy, so college graduates believe the road to riches lies with pushing paper, creating complex financial securities, and jockeying risk-management models.

These products served to grow Wall Street exponentially. All stocks in the S&P in 1957 had a market value of $220 billion. By the end of 2008, that index had a value of $9 trillion, but the real action was in derivatives, which totaled $518 trillion that year, "or about ten times the Gross Global Product." Credit Default Swaps owners jumped on this opportunity to profit and the CDS market grew to $62 trillion at its peak, while the entire market for home mortgages was only $12 trillion. Sold as an insurance to hedge against credit risk, the CDS market morphed into speculation.<ref name="French_finance_industry">Doug French. [http://mises.org/daily/4592 "Turning Bread into Stones"], Mises Daily, July 26, 2010. Referenced 2010-07-28.</ref>

The Washington Post has called the 2000s "[[Wikipedia:Lost Decade (Japan)|The lost decade]]". "The U.S. economy has expanded at a healthy clip for most of the last 70 years, but by a wide range of measures, it stagnated in the first decade of the new millennium. Job growth was essentially zero, as modest job creation from 2003 to 2007 wasn't enough to make up for two recessions in the decade. Rises in the nation's economic output, as measured by gross domestic product, was weak. And household net worth, when adjusted for inflation, fell as stock prices stagnated, home prices declined in the second half of the decade and consumer debt skyrocketed."<ref name="WashPost_decade">The Washington Post. [http://www.washingtonpost.com/wp-dyn/content/graphic/2010/01/01/GR2010010101478.html "The lost decade for the economy"], a graphic by Neil Irwin, Cristina Rivero and Todd Lindeman. Referenced 2010-07-30.</ref>

===Predicting the crisis===
<blockquote>''"...the notion of a bubble bursting and the whole price level coming down seems to me as far as a nationwide type of phenomenon really quite unlikely."'' <br />
<small>Federal Reserve Chairman [[Wikipedia:Alan Greenspan|Alan Greenspan]], 2003.</small><ref name="Greenspan_bubble">Alan Greenspan. [http://www.access.gpo.gov/congress/senate/pdf/108hrg/86497.pdf "Global Aging: Opportunity or Threat for the U.S. Economy?"] (pdf), Hearing before the [http://aging.senate.gov/ Special Committee on Aging], United States Senate, One Hundred Eighth Congress, First Session, Washington, DC, February 27, 2003, p.10. Referenced 2010-07-24.</ref></blockquote>

A common view from the very beginning of the credit crisis, shared from the upper echelons of the global financial and policy hierarchy and in academia to the general public, was that, ‘no one saw this coming’. However, several economical analysts warned specifically about a housing-led recession, going against the general mood and official assessment, and well before most observers turned critical from late 2007.<ref name="Bezemer_coming">Bezemer, Dirk J. [http://mpra.ub.uni-muenchen.de/15892/1/MPRA_paper_15892.pdf "No One Saw This Coming": Understanding Financial Crisis Through Accounting Models] (pdf), ''Groningen University'', 16. June 2009. Referenced 2010-07-30.</ref>

==Bubble economy==

===Housing bubble===
Psychology clearly plays a role in stimulating a bubble, but only monetary [[inflation]] enables it. It is difficult not to succumb to the temptation of astronomic profits in a short period of time. Resistance is even more difficult if the means to engage in the bubble are easily available at the nearest bank.

Former Fed chairman [[Wikipedia:Alan Greenspan|Alan Greenspan]] would suggest that "irrational exuberance" has the power to escalate asset prices. He could certainly claim exuberance, but there is nothing irrational in investing in higher-yield projects instead of watching your idle savings lose their purchasing power because of inflation.

With extremely low nominal interest rates and negative real interest rates (inflation is estimated at over 10% for 2007 and 2008), the rational behavior was to borrow and invest wherever it is possible. A booming real-estate market seemed to be the obvious choice most of the time. Under these conditions, everyone becomes a brilliant businessman. Entrepreneurial errors seem seldom while credit is abundant.

In the case of the housing sector, people failed to understand that demand for real estate is only sustainable if the ultimate reason for purchasing a property is to actually reside in it. Only [[saving]]s can allow for sustainable economic growth. Through inflation, credit flows excessively and distorts the production structure, allocating resources to projects that should have never existed in the first place and paving the way for the ensuing recession, that is, the adjustment of all the [[malinvestment]]s. Entrepreneurs can and will make mistakes even in the absence of inflation. But it is only through undue monetary expansion that the distortion occurs on a massive scale throughout the economy.

Production and saving cannot keep up with the pace of credit expansion, because production takes time and labor. The creation of additional money out of thin air does not add to the available amount of goods and services in the economy. If more credit is extended to construction companies, it does not mean there will be enough steel, cement, etc. — certainly not at prices that make the developments profitable. As soon as each company starts bidding for the same resource, it will tend to increase in [[price]], rendering some projects unviable. Resources are scarce. Printing more money can never alter this fact.<ref name="Ulrich_housing_bubble">Fernando Ulrich. [http://mises.org/daily/3956 "Rise and Fall in Dubai: An Austrian Perspective"], Mises Daily, December 16, 2009. Referenced 2010-07-28.</ref>

===Government intervention in the housing market===
Government policies intended to promote home ownership, even by people otherwise not able to afford it, date back to the 1930s if not before. Today, many government agencies and government-sponsored companies guarantee or subsidize mortgage loans, either directly or by providing a secondary market. Examples include the [[Wikipedia:Federal Home Loan Banks|Federal Home Loan Banks]], the [[Wikipedia:Federal Housing Administration|Federal Housing Administration]] (FHA), the [[Wikipedia:Government National Mortgage Association|Government National Mortgage Association]] (GNMA, "Ginnie Mae"), and the Department of Agriculture's [[Wikipedia:Rural Housing Service|Rural Housing Service]] and [[Wikipedia:USDA Rural Development|Rural Development Guaranteed Loan Program]]. Some programs aim to make housing more affordable for particular groups, including military veterans, police officers, teachers, and Native Americans.

Some programs have forged strong links with politicians. The [[Wikipedia:Fannie Mae|Federal National Mortgage Association]] (Fannie Mae) and [[Wikipedia:Freddie Mac|Federal Home Loan Mortgage Corporation]] (Freddie Mac), both government sponsored, have been particularly notorious, enjoying cozy relations with members of Congress and an implicit (later explicit) government guarantee of their bonds.

Several much-discussed laws and regulations, including the [[Wikipedia:Community Reinvestment Act|Community Reinvestment Act]] of 1977 and its sequels, pressured financial institutions to make mortgage loans to normally unqualified borrowers, and even to make them in parts of cities where a prudent person would hesitate to walk. Lenders have also been pressured to grant relief to troubled mortgage debtors.

It is not obvious that homeownership is unequivocally desirable. Owning a house puts friction in the way of the owner's moving to a place where he could have a better job. The owner carries the burdens of maintenance, landscaping, and finding plumbers and other repairmen when emergencies arise. These burdens might be left in the first place to managers of rental properties, who would take advantage of professionalism, risk-spreading, and economies of scale. Yet government has gone to remarkable lengths in obeisance to "the American dream."

Tax laws have long privileged owner occupancy over renting. Homeowners may deduct mortgage-interest payments and real-estate taxes in figuring their federal income taxes, and they enjoy favorable tax treatment of gains on the sale of their houses. Federal tax law permits state and local government agencies to offer below-market-rate financing to homebuyers. Owners enjoy tax-free nonmonetary income (implicit rental income) from occupancy of their homes, whereas landlords pay tax on their rental income and pass it and the property tax along to their tenants.

Such policies have effects. Cheap credit during the years of the boom compounded the long-term effects of government action. As one would predict, cheap credit encouraged borrowing, building construction, and bullish speculation in houses. Even financially unqualified homebuyers took advantage of dubiously attractive subprime mortgages, mortgages whose initial teaser rates could later be raised, loans requiring no payment of principal during the early years, and even negative-amortization loans.

Some borrowers and mortgage brokers connived to conceal applicants' inability to meet even the loosened financial standards. Borrowers and lenders were seduced by expectations that the collateral — houses — would keep rising in price indefinitely. Low interest rates spurred savers and institutions to look for better yields even on new or exotic and riskier kinds of investment. Financiers reached for these yields, resorting to complicated and poorly understood financial derivatives and making defective assessments and unclear explanations of risks.<ref name="Yeager_bubble_background">Leland B. Yeager. [http://mises.org/daily/4531 "Pandemic: The Contagious Crisis"], Mises Daily, July 08, 2010. Referenced 2010-07-28.</ref>

===Financial markets===
An advanced economy is a tissue of intricate interdependencies whose unraveling damages finance, production, employment, and consumption. Contagion particularly bedevils financial intermediation, which is the business of banks and other financial firms and the stock market. Lending institutions borrow, normally at shorter-term and lower rates of interest, to relend at higher rates. Banks, for example, owe short-term debt to their depositors and use the funds for medium- and long-term loans and securities.

Financial intermediation tailors types, maturities, and risk/reward characteristics of financial instruments to meet the desires both of ultimate savers and of borrowers and stock-issuing firms. In an advanced economy, this intermediation is essential to channel savings efficiently into factories, farms, machinery, and other capital goods, so promoting economic growth.

By its very nature, intermediation requires firms performing it to operate heavily with borrowed funds. Their excess of assets over liabilities — their capital in this accounting sense (net worth) — amounts to only a very small percentage of either. Even ordinary businesses use borrowed funds to some extent; but financial firms practice this [[Wikipedia:Leverage (finance)|leverage]], so called, to a more extreme degree. Their capital, a small percentage of their balance sheets, is vulnerable to being wiped out.

'''[[Wikipedia:Securitization|Securitization]]''' means bundling loans into packages that provide the backing for bonds issued by the bundlers. Ideally, these "[[Wikipedia:Collateralized debt obligation|collateralized debt obligations]]" enable their buyers to enjoy the convenience of not making individual mortgage loans and also, normally, the relative safety of diversification. The bundlers receive their shares of these benefits from an interest-rate spread between what they earn on the loans and what they pay on their own obligations.

The process can be carried to further stages as the first-level bonds are cut into "tranches" according to the estimated riskiness of their backing. The different tranches can then serve as backing for a further level of bonds, and even further levels. The results are called CDO2s (collateralized debt obligations squared). Many of them received the highest ratings by the three government-privileged bond-rating companies, S&P, Moody's, and Fitch, so becoming approved holdings even for conservative investors such as pension funds, and building confidence among other investors also.

Yet these ratings, especially of unfamiliar debt instruments, proved overoptimistic. At the beginning of the chain, some of the underlying mortgage borrowers may not have been creditworthy — and in recent years, many of them certainly were not. While the process may achieve the apparent safety of diversification, it also makes risk assessment more difficult and obscures how participants along the chain share the risk of default on the underlying mortgages. Unforeseen defaults can spread and magnify damage along the whole ingenious chain.<ref name="Yeager_bubble_background" />

'''[[Wikipedia:Credit default swap|Credit-default swaps]]''' can be described as an insurance that investors buy to compensate for a loss if a particular debtor defaults on its obligation (a loan, mortgage, government debt, etc). The investor pays the CDS spread (the "insurance premium") and if the debtor defaults on its debt, the investor receives the insured sum. The CDS spreads indicate the confidence in the underlying bond.

Investors can buy CDSs even if they do not own any debt from the company that they refer to. These are the infamous naked credit-default swaps (already banned in Germany, there are plans to extend this ban to the rest of the EU). From a free-market point of view, betting on defaults of financial institutions is as legitimate as betting against a certain soccer team in the World Cup.<ref name="Bagus_CDS">Philipp Bagus. [http://mises.org/daily/4502 "The Social Function of Credit-Default Swaps"], Mises Daily, June 29, 2010. Referenced 2010-07-28.</ref>

Generally, the option of insurance means more certainty and that people will be more eager to lend money. However, if many are buying a specific "insurance", it will increase the spreads,and indicate distrust of the market. The institution in question may find it hard to borrow more money (this in fact happened to the [[Wikipedia:2008–2010 Icelandic financial crisis|banks from Iceland]], and led to higher interest rate payments for the [[Wikipedia:2010 European sovereign debt crisis#Greek government funding crisis|Greek government]]). Speculators can in this way warn the public that a company - or a government - won't be able to pay its debts. They may also bring about the collapse of unstable companies sooner.<ref name="Mera_CDS">Xavier Méra. [http://blog.mises.org/13177/second-thoughts-on-sovereign-credit-default-swaps/ "Second Thoughts on Sovereign Credit-Default Swaps"], Mises Economics Blog, July 6, 2010. Referenced 2010-07-28.</ref><ref name="Bagus_CDS" /> The default-swap issuer can also go broke - and with greater likelihood than a regular "insurer", because of the relative complexity and novelty of the transactions. For an example see the insurer [[Wikipedia:American International Group|AIG]], which had to be rescued by the government.<ref name="Yeager_bubble_background" /> (As Treasury Secretary [[Wikipedia:Timothy Geithner|Timothy Geithner]] said: "Despite regulators in 20 different states being responsible for the primary regulation and supervision of AIG’s U.S. insurance subsidiaries, despite AIG’s foreign insurance activities being regulated by more than 130 foreign governments, and despite AIG’s holding company being subject to supervision by the Office of Thrift Supervision (OTS), no one was adequately aware of what was really going on at AIG."<ref name="Geithner_AIG">Secretary Timothy F. Geithner. [http://oversight.house.gov/images/stories/Hearings/Committee_on_Oversight/TESTIMONY-Geithner.pdf "Written Testimony"] (pdf) for the House Committee on Oversight and Government Reform, January 27, 2010. Referenced 2010-07-28.</ref>)

The whole tissue of economic interrelations rests on '''trust'''. Confidence can be justified, excessive, or abnormally weak. Confidence can rise or fall in waves of herding: understandably, people without enough information to make judgments on their own regard others' behavior as guided by information that they possess. A boom reinforces confidence. People are inclined to fall for dishonest schemes. A bust saps confidence. People and institutions, including banks, become more cautious in doing business with one another.

The stock market, swinging widely, both registers and magnifies the state of confidence or fear. Loss of stock and house values makes consumers hesitant to spend money, depriving businesses of sales in a further fall of dominos.

'''[[Moral hazard]]''' is a danger: past rescues breed expectations of more in the future. So soothed, firms run greater risks than would otherwise be prudent (just as fire insurance soothes homeowners to be less obsessively cautious than they would be without it). Against a long background of bank and hedge-fund rescues, the rescue of [[Wikipedia:Bear Stearns|Bear Stearns]] in March 2008 further bolstered expectations. These were disappointed when [[Wikipedia:Lehman Brothers|Lehman Brothers]] was allowed to fail in mid-September. The crisis deepened, arousing hopes that the authorities had learned a lesson and would not allow a similar major collapse. The economy faces a [[Wikipedia:Catch-22 (logic)|catch-22]]: damned by immediate damage if a rescue goes unattempted, and damned by the longer-run moral hazard if a rescue ''is'' undertaken.

Moral hazard presents a major short-run versus long-run contrast. Rescue of a troubled bank may seem the best thing to do immediately, but it reinforces expectations of further rescues, inviting repeated trouble later.<ref name="Yeager_bubble_background" />

===Regime uncertainty===
The December 2009 regular survey on Small Business Economic Trends by the [[Wikipedia:National Federation of Independent Businesses|NFIB]] showed that capital expenditures and near-term plans for new capital investments remained stuck at 35-year lows. The same survey revealed that only 7% of small businesses saw the next few months as a good time to expand. Only 8% of small businesses reported job openings, as compared to 14%-24% in 2008, depending on month, and 19%-26% in 2007. The weak economy was the most prevalent reason given for why the next few months are "not a good time" to expand, but "political climate" was the next most frequently cited reason, well ahead of borrowing costs and financing availability. The authors stated: "the other major concern is the level of uncertainty being created by government, the usually source of uncertainty for the economy. The 'turbulence' created when Congress is in session is often debilitating, this year being one of the worst. . . . There is not much to look forward to here."<ref name="NFIB_Small_business">William C. Dunkelberg, Holly Wade. [http://www.nfib.com/Portals/0/PDF/sbet/SBET200912.pdf "NFIB Small Business Economic Trends"] (pdf), December 2009. Referenced 2010-08-15.</ref>

Business investment in the third quarter of 2009 was down 20% from the low levels a year earlier. Job openings were at the lowest level since the government began measuring the concept in 2000. The pace of new job creation by expanding businesses was slower than at any time in the past two decades and, though older data are not as reliable, likely slower than at any time in the past half-century. While layoffs and new claims for unemployment benefits have declined in recent months, job prospects for unemployed workers have continued to deteriorate. The exit rate from unemployment was lower now than any time on record, dating back to 1967.

According to the Michigan Survey of Consumers, 37% of households planned to postpone purchases because of uncertainty about jobs and income, a figure that has not budged since the second quarter of 2009, and one that remained higher than any previous year back to 1960.<ref name="Becker_Uncertainty">Gary S. Becker, Steven J. Davis and Kevin M. Murphy. [http://online.wsj.com/article/SB10001424052748703278604574624711732528426.html "Uncertainty and the Slow Recovery"], ''The Wall Street Journal'', January 4, 2010. Referenced 2010-08-15.</ref> In 2009, companies were holding more cash — and a greater percentage of assets in cash — than at any time in the past 40 years.<ref name="McGinty_cash">Tom McGinty and Cari Tuna. [http://online.wsj.com/article/SB125712303877521763.html "Jittery Companies Stash Cash"], ''The Wall Street Journal'', November 3, 2009. Referenced 2010-08-15.</ref><ref name="Higgs_cash">Robert Higgs. [http://www.independent.org/blog/index.php?p=3890 "More Evidence of Current Regime Uncertainty?"], ''The Beacon'', blog of the The Independent Institute, Nov 7, 2009. Referenced 2010-08-15.</ref>

The chairman of China’s [[Wikipedia:Sovereign wealth fund|sovereign wealth fund]] said in late 2008 that China had no plans for further investments in Western financial institutions. "Right now we do not have the courage to invest in financial institutions because we do not know what problems they may have." Mr. Lou said that the sheer pace of new initiatives and new rules issued by Western regulatory agencies was disconcerting and made it even harder for him to choose worthwhile investments. "If it is changing every week, how can you expect me to have confidence?" he asked.<ref name="Bradsher_China">Keith Bradsher. [http://www.nytimes.com/2008/12/04/business/worldbusiness/04yuan.html?_r=2&adxnnl=1&adxnnlx=1228594043-/gsxRDJZWxAxLLCcUhx8oQ "China Shuns Investments in West’s Finance Sector"], ''The New York Times'', published: December 3, 2008. Referenced 2010-08-15.</ref><ref name="Higgs_China">Robert Higgs. [http://www.independent.org/blog/index.php?p=635 "Regime Uncertainty in 1937 and 2008"], ''The Beacon'', blog of the The Independent Institute, Dec 6, 2008. Referenced 2010-08-15.</ref>

The chairman of the [[Wikipedia:Business Roundtable|Business Roundtable]], an association of top corporate executives that has been [[Wikipedia:Barack Obama|President Obama's]] closest ally in the business community, accused the president and Democratic lawmakers in June, 2010, of creating an "increasingly hostile environment for investment and job creation." ... "By reaching into virtually every sector of economic life, government is injecting uncertainty into the marketplace and making it harder to raise capital and create new businesses."<ref name="Montgomery_stifle_growth">Lori Montgomery. [http://www.washingtonpost.com/wp-dyn/content/article/2010/06/22/AR2010062205279.html "Business leaders say Obama's economic policies stifle growth"], ''Washington Post'', June 23, 2010. Referenced 2010-08-15.</ref>
{{Main|Regime uncertainty}}

==Burst of the bubble==
Some consider the [[Wikipedia:Bankruptcy of Lehman Brothers|bankruptcy of Lehman Brothers]] to cause the financial panic of late 2008.<ref name="Jones_Lehman">Sam Jones. [http://ftalphaville.ft.com/blog/2009/03/12/53515/why-letting-lehman-go-did-crush-the-financial-markets/ "Why letting Lehman go did crush the financial markets"], ''Financial Times'' on Mar 12 2009. Referenced 2010-07-30.</ref> According to others, the main risk indicators only took off after Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke's [[Wikipedia:Troubled Asset Relief Program|TARP]] speeches to Congress on Sept. 23 and 24.<ref name="Cochrane_TARP">John H. Cochrane and Luigi Zingales. [http://online.wsj.com/article/SB10001424052970203440104574403144004792338.html "Lehman and the Financial Crisis"], ''The Wall Street Journal'', September 15, 2009. Referenced 2010-07-30.</ref><ref name="Taylor_responses">John B. Taylor. [http://www.stanford.edu/~johntayl/FCPR.pdf "The Financial Crisis and the Policy Responses: An Empirical Analysis of What Went Wrong"] (pdf), November 2008, referenced 2010-07-30.</ref>

Still others point out, that the previous bailouts (esp. Bear Stearns in March 2008) produced in the markets an expectation, that the government will bail out large financial institutions and its decision to let Lehman Brothers to fall has surprised and shocked them.<ref name="Suster_Lehman">Matěj Šuster. [http://www.libinst.cz/komentare.php?id=574 "Pád Lehman Brothers a finanční panika"] ("Fall of Lehman Brothers and financial panic", in ''[[Wikipedia:Czech language|Czech]]''), ''[http://libinst.cz/stranka_en.php?id=2 Liberalni Institut]'', 2009-09-20. Referenced 2010-07-30.</ref> (It has been noted, however, that there is a significant relationship between lobbying and bailout money, as well as a greater chance of getting bailouts depending on a bank’s ties with either the Federal Reserve or key members of Congress.<ref name="Mitchell_corruption">Daniel J. Mitchell. [http://www.cato-at-liberty.org/2009/12/22/university-of-michigan-study-confirms-link-between-financial-bailout-and-corruption/ "University of Michigan Study Confirms Link between Financial Bailout and Corruption"], ''Cato Institute'', December 22, 2009. Referenced 2010-07-31.</ref>)

===Unemployment===
Total employment peaked in 2007 at 137.6 million persons on nonfarm payrolls, fell slightly in 2008, and then dropped precipitously in 2009 to 132.0 persons, for a two-year loss of 5.6 million jobs. In 2009, total employment was approximately equal to its magnitude in 2001, even though the labor force had grown substantially in the interim.

The loss of employment has occurred entirely in the private sector: employment fell from 115.4 million persons in 2007 to 109.5 million persons in 2009, a decline that took private employment back to its level at the end of the 1990s. As private employment has collapsed since 2007, however, the government payroll has actually grown slightly from 22.2 million persons in 2007 to 22.5 million persons in 2009, which puts this class of employment roughly 1.7 million persons above its magnitude in 2000.<ref name="Higgs_unemployment">Robert Higgs. [http://www.independent.org/blog/index.php?p=4728 "Pity the Poor Private-Sector Workers"], ''The Independent Institute'', Jan 9, 2010. Referenced 2010-07-31.</ref>

The government employees also enjoyed increased compensation. The growth in six-figure salaries has pushed the average federal worker’s pay to $71,206, compared with $40,331 in the private sector.<ref name="Higgs_federal">Robert Higgs. [http://www.independent.org/blog/index.php?p=4383 "The Federal Bureaucracy-Plutocracy"], ''The Independent Institute'', Dec 12, 2009. Referenced 2010-07-31.</ref><ref name="Cauchon_Feds">Dennis Cauchon. [http://www.usatoday.com/news/washington/2009-12-10-federal-pay-salaries_N.htm "For feds, more get 6-figure salaries"], ''USA TODAY'', 2009-12-10. Referenced 2010-07-31.</ref>

This situation bears a resemblance to the employment situation during the [[Great Depression]], when private nonfarm hours worked fell steeply from 1929 to 1932 and did not get back to the 1929 level until 1941, notwithstanding (or perhaps because of) the millions of persons added to government payrolls during the New Deal period. In both cases, the possibility that government employment crowds out private employment, rather than stimulating it, cannot be dismissed out of hand.

The 2000s may prove to have been America’s second "lost decade" (the 1930s having been the first), an interval of little or no net economic gain, owing to destructive government policies that produced only unsustainable booms followed by inevitable busts, along with such huge, frequent, and unsettling changes in government policies that private planning, especially for long-term investment, has become too risky for private investors to bear — a situation called [[Uncertainty#Regime uncertainty|regime uncertainty]].<ref name="Higgs_unemployment" />

==After the fall==
Since the summer of 2008, the U.S. Treasury and the Fed initiated a new wave of spending, lending, and subsidizing programs ostensibly aimed at stemming the recession that began early in that year and deepened quickly in its last quarter and in the first quarter of 2009. Among the most notable of these programs have been attempts to prop up the real estate market and the residential construction industry, where the Fed’s easy-money policies in the first half of the present decade induced lenders to make millions of mortgage loans to home buyers who would not have qualified for such loans if traditional underwriting standards had been applied.

Rather than terminating the government policies that had encouraged the foolish behavior of real estate buyers, sellers, and lenders, the government has undertaken to continue and even to compound the selfsame policies that in large part caused our present economic troubles. For example, Fannie and Freddie, now effectively government owned and operated firms, continue to extend loans as if promising borrowers were superabundant.

Moreover, the [[Wikipedia:Federal Housing Administration|Federal Housing Administration]], a government agency created in 1934 to insure conventional mortgage loans, has greatly expanded the volume of its business, and according to a [http://www.nytimes.com/2009/11/20/business/20limits.html?_r=1 report] in the New York Times, the FHA "is underwriting loans at quadruple the rate of three years ago even as its reserves to cover defaults are dwindling." The Mortgage Bankers Association affirmed on November 19, 2009 that "more than one in six F.H.A. borrowers was behind on payments." The FHA has backed 37 percent of all residential mortage loans made in 2009. Reporter Patrice Hill observes that "these loans are exposing taxpayers to the same kinds of soaring default rates and losses that brought down Fannie Mae and Freddie Mac as well as destroyed many banks and the private market for mortgage loans."<ref name="Higgs_housing">Robert Higgs. [http://www.independent.org/blog/?p=4069 "Government Responds to Economic Woes by Making More Bad Mortgage Loans"], ''The Independent Institute'', Nov 22, 2009. Referenced 2010-07-30.</ref>

Households across a majority of large U.S. cities received more foreclosure warnings in the first six months of 2010 than in the first half of 2009. In all, 154 out of 206 metropolitan areas with at least 200,000 residents posted an annual increase in foreclosure activity between January and June. The threat of foreclosures is spreading well beyond the top tier of metropolitan areas located in California, Florida, Nevada and Arizona, which have borne the brunt of the fallout from the housing crisis. "The face of foreclosure is driven much more now by unemployment than in the past," said the speaker of a foreclosure listing firm. The number of households facing foreclosure in the first half of the year climbed 8 percent versus the same period last year, but dropped 5 percent from the last six months of 2009.<ref name="Veiga_foreclosures">AP Real Estate Writer Alex Veiga. [http://news.yahoo.com/s/ap/20100729/ap_on_bi_ge/us_foreclosure_rates "Foreclosure activity up across most US metro areas"], ''Yahoo News'' / ''Associated Press'', Jul 29, 2010. Referenced 2010-07-31.</ref>

===Impact on Investment===
In 2006, gross private domestic [[investment]] reached its most recent peak, at $2.33 trillion (in constant 2005 dollars), or 17.4 percent of GDP. After remaining almost at this level in 2007, this measure of investment fell substantially during each of the next two years, reaching $1.59 trillion, or 11.3 percent of GDP, in 2009.

The greater part of gross investment consists of what the statisticians call the capital consumption allowance, an estimate of the amount of money that must be spent simply to offset wear and tear and obsolescence of the existing capital stock. In a country such as the United States, with an enormous fixed capital stock built up over the centuries, a great amount of funds must be allocated simply to maintain that stock. In recent years, the private capital consumption allowance has ranged from $1.29 trillion in 2005 to $1.46 trillion (in constant 2005 dollars) in 2009. Thus, even in the boom year 2006, about 60 percent of gross private domestic investment was required merely to maintain the economy’s productive capacity, leaving just 40 percent, or $889 billion in net private domestic investment, to augment that capacity.

From that level, net private domestic investment plunged during each of the following three years, taking the greatest dive between 2008 and 2009, when it fell to only $54 billion (in constant 2005 dollars), having declined altogether by 94 percent from its 2006 peak! Only 3.5 percent of all private investment spending in 2009 went toward building up the capital stock. Thus, net private investment did not simply fall during the recession; it virtually disappeared. Without substantial net private investment, brisk economic growth is unthinkable beyond the very short run.<ref name="Higgs_Divergence">Robert Higgs. [http://www.independent.org/blog/index.php?p=7882 "The Great Divergence: Private Investment and Government Power in the Present Crisis"], ''The Independent Institute'', on Sep 18, 2010. Data taken or derived from the National Economic Accounts prepared by the Commerce Department’s ''Bureau of Economic Analysis'' (Tables 1.1.5, 1.1.6, and 5.2.6 - see a [http://www.bea.gov/national/nipaweb/SelectTable.asp?Selected=N list of tables] for information. Referenced 2010-09-20.</ref>

==References==
{{Reflist}}

==External links==
* The [[Wikipedia:Late-2000s recession|Late-2000s recession]] on Wikipedia
* [http://video.google.com/videoplay?docid=-2757699799528285056 Real Estate Roller Coaster] (video), history of home values, 1890-2006
* [http://mises.org/daily/4059 Illusions of the Age of Keynes] by Doug French, January 2010
* [http://www.independent.org/blog/index.php?p=5142 Anatomy of the Current Recession] by Robert Higgs, February 2010
* [http://mises.org/daily/4787 Bank Failures in Slow Motion] by Doug French, October 2010
[[Category:Economical Concepts]]
[[Category:Historical]]

Mises Institute

2010-10-26T15:19:49Z

192.100.130.238: /* Mission */ Expanded links to the Institutes' websites.

The Ludwig von Mises Institute is a research center, founded in 1982, that is dedicated to supporting the intellectual tradition, particularly in economic and political theory, represented by [[Ludwig von Mises]] (1881-1973).

==Mission==
The Institute, founded with the blessing of Mises's widow, Margit (1890-1993), who served as chairman, sponsors teaching programs and professional meetings, publishes journals and books, makes available audio and video, offers student assistance, and otherwise provides a wide range of services to uphold the Misesian tradition. The Institute does not consider itself a traditional think tank, as it does not seek to implement public policy. It has no formal affiliation with any political party (including the Libertarian Party), nor does it receive funding from any. The Institute also has a formal policy of not accepting contract work from corporations or other organizations, or accepting government funding.

Its declared mission is to back research and writing in defense of Austrian economics, the market economy, private property, sound money, and peaceful international relations, while opposing government [[intervention]] as economically and socially destructive.<ref name="Institute">FAQ. [http://www.mises.org/about/3467#what "What is the Mises Institute?"], ''[[Mises Institute]]'', referenced 2009-04-27.</ref> It is based in Auburn, Alabama.

There are also several other Institutes and websites with the same name throughout the world, including those in [http://www.vonmisesinstitute-europe.org Belgium], [http://www.mises.ch/ Switzerland], [http://www.mises.de/ Germany], [http://mises.jp/ Japan], [http://www.mises.se/ Sweden], [http://www.mises.pl/en/ Poland], [http://www.fundacionvonmises.org.ar/ Argentina], [http://www.icumi.info/ Mexico], Russia, [http://www.mises.org.br/ Brazil], [http://www.mises.ec/ Ecuador] and [http://misesromania.org/ Romania]. However, the Institute has no formal ties with any of them.

==History==
The founding of the Ludwig von Mises Institute in 1982, with the aid of Margit von Mises as well as Hayek and [[Henry Hazlitt|Hazlitt]], provided a range of new opportunities for both Rothbard and the Austrian School. Through a steady stream of academic conferences, instructional seminars, books, monographs, newsletters, studies, and even films, Rothbard and the Mises Institute carried the Austrian School forward into the post-socialist age.

The first issue of the Rothbard-edited ''Review of Austrian Economics''<ref name="Review">[http://mises.org/periodical.aspx?Id=5 "Review of Austrian Economics"], ''[[Mises Institute]]'', 1987-1997, referenced 2009-04-29.</ref> appeared in 1987, and became a quarterly in 1998, [[Wikipedia:Quarterly Journal of Austrian Economics|The Quarterly Journal of Austrian Economics]].<ref name="Quarterly">[http://www.mises.org/periodical.aspx?Id=4 "The Quarterly Journal of Austrian Economics"], ''[[Mises Institute]]'', 1998-present, referenced 2009-04-29.</ref> The Mises Institute's instructional summer school has been held every year since 1984. For many of these years, Rothbard presented his research into the history of economic thought. This culminated in his two-volume An Austrian Perspective on the History of Economic Thought, which broadens the history of the discipline to encompass centuries of writing.

Through the Mises Institute's student fellowships, study guides, bibliographies, and conferences, the Austrian School has permeated, at some level, virtually every department of economics and the social sciences in America, and in many foreign countries as well. The annual Austrian Scholars Conference at Auburn University attracts scholars from around the world to discuss, debate, and apply the entire Austrian tradition.

==References==
{{Reflist}}

==External Links==
* [http://www.mises.org/ "The Mises Institute"], homesite
* [[Wikipedia:Mises Institute|Mises Institute]], Wikipedia page
[[Category:Historical]]

Business cycle

2010-09-27T08:38:35Z

192.100.130.238: /* External links */ Resource added.

{{Stub}}

The development of our modern economic life is not an even and continuous growth; periods of rapid progress are followed by periods of stagnation. If we disregard secondary phenomena, like breakdowns, bankruptcies, and panics, the '''business cycle''' presents itself as a periodic up and down of general business activity, or, more precisely, of the volume of [[production]]. The growth of production does not show a continuous, uninterrupted trend upward but a wavelike movement around its average annual increase.<ref name="Haberler_cycle">Gottfried Haberler. [http://mises.org/pdf/austtrad.pdf "Money and the Business Cycle] (pdf) from ''The Austrian Theory of the Trade Cycle'', p.33-57. Referenced 2010-06-25.</ref>

In the nearly periodic economic crises, the sudden onset was called a "panic," and the lingering trough period after the panic was called
"depression." Later on it was called "recession", "downturn," or, even better, "slowdown," or "sidewise movement."<ref name="Rothbard_teminology">Murray N. Rothbard. [http://mises.org/pdf/austtrad.pdf "Economic Depressions: Their Cause and Cure"], ''The Austrian Theoryof the Trade Cycle and other essays'', p.58-59. Referenced 2010-07-08.</ref> The business cycle is sometimes called a "boom-bust" cycle.<ref name="Rothbard_cycle">Murray N. Rothbard. [http://mises.org/rothbard/agd/chapter1.asp "The Positive Theory of the Cycle"] from ''America's Great Depression'', online version. Referenced 2010-06-25.</ref>

{{See also|Austrian Business Cycle Theory}}

==Business Cycles and Business Fluctuations==
It is important to distinguish between business cycles and ordinary '''business fluctuations'''. We live in a society of continual and unending change, change that can never be precisely charted in advance. People try to forecast and anticipate changes as best they can, but such forecasting can never be reduced to an exact science. [[Entrepreneur]]s are in the business of forecasting changes on the market, both for conditions of demand and of supply. The more successful ones make profits hand in hand with their accuracy of judgment, while the unsuccessful forecasters fall by the wayside. As a result, the successful entrepreneurs on the free market will be the ones most adept at anticipating future business conditions. Yet, the forecasting can never be perfect, and entrepreneurs will continue to differ in the success of their judgments. If this were not so, no profits or losses would ever be made in business.

Changes, then, take place continually in all spheres of the economy. Consumer tastes shift; [[time preference]]s and consequent proportions of [[investment]] and consumption change; the labor force changes in quantity, quality, and location; natural resources are discovered and others are used up; technological changes alter production possibilities; vagaries of climate alter crops, etc. All these changes are typical features of any economic system. In fact, we could not truly conceive of a changeless society, in which everyone did exactly the same things day after day, and no economic data ever changed. And even if we could conceive of such a society, it is doubtful whether many people would wish to bring it about. It is, therefore, absurd to expect every business activity to be "stabilized" as if these changes were not taking place. To stabilize and "iron out" these fluctuations would, in effect, eradicate any rational productive activity.

But declines in specific industries can never ignite a general depression. Shifts in data will cause increases in activity in one field, declines in another. There is nothing here to account for a general business depression—a phenomenon of the true "business cycle." Suppose, for example, that a shift in consumer tastes, and technologies, causes a shift in demand from farm products to other goods. It is pointless to say, as many people do, that a farm depression will ignite a general depression, because farmers will buy less goods, the people in industries selling to farmers will buy less, etc. This ignores the fact that people producing the other goods now favored by consumers will prosper; their demands will increase.

The problem of the business cycle is one of general boom and depression; it is not a problem of specific industries.<ref name="Rothbard_cycle" />

==Characteristics of the business cycle==
A major feature of a depression is a sudden '''general cluster of business errors'''. Business activity moves along nicely with most business firms making handsome profits. Suddenly, without warning, conditions change and the bulk of business firms are experiencing losses; they are suddenly revealed to have made grievous errors in forecasting.

Another common feature of the business cycle is the well-known fact that '''capital-goods industries''' fluctuate more widely than do the consumer-goods industries. The capital-goods industries - especially the industries supplying raw materials, construction, and equipment to other industries — expand much further in the boom, and are hit far more severely in the depression.

A third feature of every boom that needs explaining is the '''increase in the quantity of money''' in the economy. Conversely, there is generally, though not universally, a fall in the money supply during the depression.<ref name="Rothbard_cycle" />

===Boom and Bust===
The "'''boom'''" is actually a period of wasteful [[Malinvestment|misinvestment]]. It is the time when errors are made, due to bank credit's tampering with the free market. The "crisis" arrives when the consumers come to reestablish their desired proportions. The "'''depression'''" is actually the process by which the economy adjusts to the wastes and errors of the boom, and reestablishes efficient service of consumer desires. The adjustment process consists in rapid liquidation of the wasteful investments. Some of these will be abandoned altogether (like the Western [[Wikipedia:Ghost town|ghost towns]] constructed in the boom of 1816–1818 and deserted during the [[Wikipedia:Panic of 1819|Panic of 1819]]); others will be shifted to other uses. In sum, the free market tends to satisfy voluntarily-expressed consumer desires with maximum efficiency, and this includes the public's relative desires for present and future consumption. The inflationary boom hobbles this efficiency, and distorts the structure of production, which no longer serves consumers properly. The crisis signals the end of this inflationary distortion, and the depression is the process by which the economy returns to the efficient service of consumers. In short, and this is a highly important point to grasp, the depression is the "recovery" process, and the end of the depression heralds the return to normal, and to optimum efficiency. The depression, then, far from being an evil scourge, is the necessary and beneficial return of the economy to normal after the distortions imposed by the boom. The boom requires a "bust."<ref name="Rothbard_cycle" />

===Bubble===
A '''bubble''' can be defined as activities that spring up on the back of loose monetary policy of the [[central bank]]. In other words, in the absence of monetary pumping these activities would not emerge. Since bubble activities are not self-funded, their emergence must come at the expense of various self-funded or productive activities. This means that less real funding is left for productive activities, which in turn undermines those activities. In short, monetary pumping gives rise to the [[Malinvestment|misallocation]] of resources, which as a rule manifests itself through a relative increase in non-productive activities against productive activities.

When new [[money]] is created, its effect is not felt instantaneously across all market sectors. The effect moves from one individual to another individual and thus from one market to another market. Monetary pumping generates bubble activities across all markets as time goes by. Once, however, the central bank tightens its monetary stance, i.e. reduces monetary pumping, this undermines various bubble activities. The bubble bursts. Since monetary pumping generates bubble activities across all markets, obviously the eventual bursting of the bubbles will permeate all markets — including the housing market.

As a rule the act of bursting bubbles, or the liquidation of nonproductive activities, is set in motion by a tighter monetary stance of the central bank. A tighter stance purges various nonproductive activities thereby eliminating past excesses, which in turn lowers the ratio of nonproductive-to-productive activities, so to speak. In short, a tighter stance brings harmony to the structure of production and sets the foundation for a sustainable economic revival. A situation however, can occur where the bursting of bubbles takes place despite an easy stance by the central bank. This can emerge when the [[Subsistence fund|pool of real funding]] begins to shrink.<ref name="Shostak_bubble">Frank Shostak. [http://mises.org/daily/1177 "Housing Bubble: Myth or Reality?"], Mises Daily, March 04, 2003. Referenced 2010-07-24.</ref>

==Business cycles in history==
These are some of the more recognized or outstanding boom-bust cycles and panics recorded throughout history.

===Tulip mania===
One of the first and well-known panics was the [[Wikipedia:Tulip mania|Tulip mania]] (1634-37) in Netherlands. The popular flower became a status symbol, the rare bulbs were hard to reproduce and in great demand. A large futures market formed for the seasonal flower and the speculation escalated. At its peak, the prices rose twenty-six times in January 1637, only to fall to one-twentieth of its peak price a week later. Finally, the Court of Holland judged the tulip sales to be bets under Roman law and basically cancelled all contracts. The growers of the bulbs absorbed the most of the damage and the number of bankruptcies increased.

Throughout 17th century, precious metals from the New World, Japan and other locales have been channeled into Europe, with corresponding price increases. As kings throughout Europe debased their currencies, the Dutch provided a sound money policy with money backed one hundred per cent by specie. Free coinage laws (later limited) created more money from the increased supply of coin and bullion, than what the market demanded. Ironically, this acute increase in the supply of money fostered an atmosphere, that was ripe for speculation and malinvestment, and led to one of the first recorded panics or speculative bubbles.<ref name="French_Tulip_mania">Doug French. [http://mises.org/journals/qjae/pdf/qjae9_1_1.pdf "The Dutch Monetary Environment During Tulipmania"] (pdf), Quarterly Journal of Austrian Economics, Vol. 9 Num. 1. 2006, referenced 2009-10-18.</ref>

===Panic of 1819===
In the United States, a monetary expansion led to a boom in real estate prices and speculation, and rapidly growing indebtedness by farmers. The [[Wikipedia:Second Bank of the United States|Second Bank of the United States]] was authorized by Congress to solve the monetary problems and provide a sound and uniform currency. Instead, it has continued and enhanced the expansion. The boom continued for a while, but the banks were soon having problems with the return to specie payments. The Second Bank started a painful contraction and a wave of bankruptcies followed, known as the [[Wikipedia:Panic of 1819|Panic of 1819]].<ref name="Rothbard_Panic">Murray N. Rothbard. [http://mises.org/books/panic1819.pdf "The Panic of 1819"](pdf), online version, Chapter I: The Panic and its Genesis: Fluctuations in American Business 1815-1821. New York: Columbia University Press, 1962. Mises Institute 2007. Referenced 2009-10-03.</ref>

Before the Panic, specie payments were suspended from August 1814 to February 1817. For two and a half years could banks expand while issuing what was in effect fiat paper and bank deposits. From then on, every time there was a banking crisis brought on by inflationary expansion and demands for redemption in specie, state and federal governments looked the other way and permitted general suspension of specie payments while bank operations continued to flourish. It became clear to the banks that in a general crisis they would not be required to meet the ordinary obligations of contract law or of respect for property rights, so their inflationary expansion was permanently encouraged by this massive failure of government to fulfill its obligation to enforce contracts and defend the rights of property.<ref name="Rothbard_1819">Murray N. Rothbard. [http://mises.org/books/historyofmoney.pdf "A History of Money and Banking in the United States: The Colonial Era to World War II"] (pdf), The War of 1812 and its Aftermath, p.72-82. Referenced 2010-06-30.</ref>

===Panic of 1907===
A severe financial crisis, the [[Wikipedia:Panic of 1907|Panic of 1907]], struck in early October. Not only was there a general recession and contraction, but the major banks in New York and Chicago were, as in most other depressions in American history, allowed by the government to suspend specie payments, that is, to continue in operation while being relieved of their contractual obligation to redeem their notes and deposits in cash or in gold. While the Treasury had stimulated inflation during 1905–1907, there was nothing it could do to prevent suspensions of payment, or to alleviate "the competitive hoarding of currency" after the panic, that is, the attempt to demand cash in return for increasingly shaky bank notes and deposits. This crisis has led to the establishment of the [[Federal Reserve System|Federal Reserve]].<ref name="Rothbard_1907">Murray N. Rothbard. [http://mises.org/books/historyofmoney.pdf "A History of Money and Banking in the United States: The Colonial Era to World War II"] (pdf), The Panic of 1907 and Mobilization for a Central Bank, p.240. Referenced 2010-06-30.</ref>

===The Great Depression===
The great boom of the 1920s USA (also called "[[Wikipedia:Roaring Twenties|Roaring Twenties]]") was largely fueled by credit expansion going into time deposits. When the expansion ended the '''Great Depression''' followed soon after.<ref name="Rothbard_Federal_Reserve">[[Murray N. Rothbard]]. [http://mises.org/books/mysteryofbanking.pdf "The Mystery of Banking"] (pdf), Chapter XVI: Central banking in the United States IV: The Federal Reserve System, p.235-246, referenced 2009-10-03.</ref>

{{Main|Great Depression}}

==References==
{{Reflist}}

==External links==
* [[Wikipedia:Business cycle|Business cycle]] on Wikipedia
* [http://mises.org/daily/4527 Can Gold Cause the Boom-Bust Cycle?] by Robert P. Murphy, June 2010
* [http://mises.org/daily/4741 How Useful Is the NBER's Dating of Business Cycles?] by Frank Shostak, September 2010


[[Category:Historical]]
[[Category:Economical Concepts]]

Marginal utility

2010-07-15T14:23:15Z

192.100.130.238: Fixed category.

{{Stub}}

People use their means for the most important ends. If they have to give up a unit of their stock, they will continue to satisfy the more important ends. The satisfaction provided by the marginal unit is called '''marginal utility'''.<ref name="Rothbard_marginal">Murray N. Rothbard. [http://mises.org/rothbard/mes/chap1b.asp#B._THE_LAW "B. The Law of Marginal Utility"], [[Man, Economy and State]], online version, referenced 2009-07-07.</ref>

==Law of Marginal utility==
People make decisions on the '''margin'''. No one chooses between "guns" or "butter", but between a definite amount of guns and a definite amount of butter.

As an actor acquires more and more units of a good, he devotes them to successively less and less urgent ends (i.e. ends that are lower on his scale of values). Therefore the marginal utility of a good declines as its supply increases. This is the '''law of diminishing marginal utility'''.<ref name="Murphy_marginal">Robert P. Murphy. [http://mises.org/rothbard/mes/guidechap1.asp "A Study Guide to Murray Rothbard's Man, Economy, and State, with Power and Market"], Chapter 1, referenced 2009-07-07.</ref>

==References==
{{Reflist}}

==External links==
* [[Wikipedia:Marginal utility|Marginal utility]] on Wikipedia
* [http://mises.org/story/3100 Diminishing Marginal Utility: It's a Law] by Art Carden, October 2008
* [http://mises.org/story/2610 Marginal Utility Is Not Rocket Science] by Frank Shostak, June 2007
* [http://mises.org/story/2628 Marginal Utility and Interest Formation] by Frank Shostak, July 2007
* [http://mises.org/daily/3918 What's Wrong with the Utility Function?] by Predrag Rajsic, December 2009
* [http://mises.org/daily/4037 It's the Language of Action, Not a Trick] by Predrag Rajsic, February 2010
[[Category:Economical Concepts]]

Marginal utility

2010-07-15T14:22:16Z

192.100.130.238: Adding categories