One of the assumptions I made in my analysis was that increasing profitability doesn’t necessarily involve a monetary cost. In this case, I think that’s absolutely true—it doesn’t cost anything to tell employees, “Hey, start paying more attention to service.” Even besides that, though, you’re so obsessed with nominal pricing that you’re missing the point.
If I pay $100 for a consultant and prices inflate by 10% during the time in which I try to earn that money back, I’ll need to earn $110 to break even in real terms—if I only earn $100 back (which does not have the same purchasing power as it did when I spent it), I have suffered a loss. Businesses ignore this at their own peril. If prices instead deflate by 10% as I try to earn that money back, I only need to earn $90 to break even in real terms.
Nope, they found that’s not necessarily true. In many ways the current productivity gain it all due to the fact that the process makers are gone and all that’s needed is process maintainers. It’s the same way in software development, where the developers aren’t always needed to maintain the software as designed.
Great Post Mansoor, but I believe you fall victim to some of the same faults that Keynes did. I will allow Mises to address these issues and paraphrase him, where necessary to clarify the Austrian position.
Money
To summarize
Money is generally the most vendible good, that is why people chose to hold it over lesser vendible goods.
Money exists to increase the likelihood of trade and exchange
You seem to agree to this mostly.
The need for money described eloquently by Mises.
Reasoning for savings
There are a few important points we should consider before moving forward regarding our understanding of savings. First, savings only exist due to a reasonable concern over an uncertain future. Second, the more uncertain the future perceived by man the more likelihood that a greater volume of savings will be held. Third if man perceives that his purchasing power will increase in the future(Deflation) he will choose to save in the now and purchase later. Conversely, if man believes that his purchasing power will decrease in future(Inflation) he will prefer to spend today, rather than save for tomorrow.
Yes, if money were held at a constant the economy would experience a steady deflation as the quantity of produce would slowly grow while money remained the same. His savings investment is an investment in the overall economy, from a monetary stance but more so when we consider that his savings is not likely to be cash savings, but invested savings.
A key point in a capitalist society. Savings is often found not in cash format but in invested formats. Savings provides the capital necessary for major economic expansions. Savings creates the opportunity for economic growth in this way.
So far you have followed very logically. You started at around A, moved on to B and C, but your following statements seem to jump to M without any reasoning behind it. As such the statements come across as non-sequitur.
I do not mean this in an antagonistic sense but your statement is arrogant and presumptuous. You pretend to have the ability of knowing how much production there should be. IE How much production consumers currently want. This implies a level of omniscience. The truth is there are no means available for us to measure what is excess production and excess savings. We can on the contrary see excess mal-investment. We see can see when consumers choose not to adopt a new product or service but we cannot judge whether or not an economy is in general over producing. To the contrary logic demonstrates, supported by empirical data, to us that savings and excess production is what makes a society rich. What we need to distinguish is, excess production of undesirable goods, and excess production of desirable goods. The former causes economic harm, the latter economic benefit and isn’t an excess at all.
There is no such thing as over-producing if the goods are desirable to consumers and are being purchased. If a firm produces a product more then demand requests he will simply be forced to adjust his price, and future production. If this means that he does not create a profit than the market will do it’s job by purging his inefficiency from the system, thereby eliminating him from squelching the finite natural resources available.
If all producers in society over produce(If we could even say that) objects that are considered desirable by consumers than all that has occurred is a huge jump in the wealth of the overall economy. No bust will follow, if the products are desirable consumers will purchase them, and continue to drive production.
What you seem to take issue is when there is overproduction of undesirable goods. The ABCT Describes the reasoning for this
The Boom Symptoms
The Boom, Over production in capital and goods that are not considered desirable by consumers. Typically producers only expand their operations when they have adequately pleased consumers and have been rewarded with the purchasing power to do so. This is done by making a large profit and utilizing some of their existing savings or invested funds available.
Over consumption of goods in the now, diminished individual savings. No purchasing of the objects being over produced
Despite the fact that producers are not selling goods to justify their business’s, cheap credit allows them to stay afloat and further expand operations, or new risky business endevours that would have otherwise never existed come into existence. In other words there is a longer delay of correction.
None of these things happen without an expansion to money. Over production in objects considered desirable by consumers is no boom at all, but a solid foundational economic growth. There will follow no bust assuming adequate savings was presented up front for the economic expansions. A bust can only occur when the resources were not available to account for those expansions.
On Savings and Inflation
Breif summarization of characteristics of the boom/bust cycle
In other words, there is no such thing as a random spontaneous boom. Without cheap credit business’s only expand from pre-existing savings. If the business expansion is unsuccessful the economy as a whole is not harmed, just that isolated section of capital. On the flip side, if the entire economy is leveraged on dept, everyone pays the cost when the business expansion fails. Furthermore as credit becomes more and more widely available people, praxeologically, attempt to find places to invest it. Since it is so wildly available entrepreneurs and capitalists desperately invest in ever more risky business opportunities.
The bust occurs when after these investments have taken place, all of these new business expansions realize that.
A) There was not enough REAL capital savings to support their new growth
B) Consumers are not interested in the products produced at the price offered
Ba) Consumers are likely not interested due to their own purchasing power being diminished by lack of savings/inflation. Consumers lack incentive for large investments due to missing real savings, and instead have been living off of credit. Consumers instead spend their real savings on immediate cheap items. This is why retail stores have exploded in growth during the bubble. Walmart, BestBuy, ect… Our biggest industries in this country are now retail based.
This is the cleansing process. All of those business expansions that consumers were not interested in were a huge waste of natural resources. New factories being built, and all sorts of physical equipment are now extremely difficult to re-allocate to new industries. The bust is the process where consumers recognize that they must begin savings again, as they did not have adequate capital in savings to support the economic expansion.
The difference beteen typical market expansion and the market expansion thats described in the ABCT is as follows.
Typical: General economic savings comes first, and market expansion is built on top of that
ABCT Occurance: Economic expansion comes first from credit, savings comes after and much of what was previously built is wasted.
Investment cannot increase, and consumption will not increase in the area’s necessary. It is silly to assume that we can force consumption to increase. If consumers were not interested in that product yesterday, they won’t be interested in the product today and if prices must be lowered via subsidization, bail-outs, and by other technique’s to vend the goods it’s just further proof that the particular business endevour was unsustainable. Subsidizing, taxing, and monetizing the sustainability of these in-efficient business’s does not help the economy, as it destroys the purchasing power of consumers and continues to support non desirable firms. In this process they are not actually making those goods more vendible, but in fact making all goods less vendible.
So unless savings comes first, there is no way to force new investment, and new production. For it was the previous FORCING of investment and production which lead to the mal-investment in the first place. All you have advocated is a perpetuation of the error and support for sustaining in-efficient business’s rather then allowing consumer preferred business’s to take their place.
This seems non-sequitur. More production does not mean unemployment. All it means is more opportunities for consumers, which will ultimately mean a more diverse job market.
Point 1 and 2 are contradictory. Point 1 cannot occur until point 2 is decreased. Savings comes before capital investment. This was explained in the video above but allow me to explain again.
Lets say Crusoe needs 7 fish a day to survive on his island.
He can fish 7 fish on average over a 5 day period, and saves 2 fish for a weekend leisure time.
Lets say Crusoe desires to have more leisure time, less work load, and more fish available to him. Should Crusoe begin by eating his existing fish?
Lets say Crusoe eats extra fish during the week, that would mean he has one less fish over the weekend, forcing him to work extra days. So then how does Crusoe invest in new capital? First he must save and sacrifice.
So what Crusoe does is work on a Saturday and sacrifice his leisure time. In this primitive example all that was lost was leisure time but in other examples a person may need to restrict himself from purchasing goods now, and save for later. He traded leisure time for the construction of a fish poll. IF Crusoe wanted to preserve his weekend leisure he will have to come up with extra Fish to substitute a day of production, where he is not fishing.
He may need to consume less fish over the week, to save for producing a fish poll on Monday. He may need to fish longer hours and get more fish on a per day basis. Either way Crusoe must aquire his savings first, he must sacrifice first(savings) to invest into the production of capital. Either way Crusoe must SACRIFICE FIRST by NOT CONSUMING before he can increase investment.
Consuming cannot possible come before producing, it’s non-sensical. Only after a sacrifice in consumption occurs will capital be available for new market expansion.
You must produce the fish before you can consume it. One follows the either, in no cases is it possible to turn that around.
Once Crusoe has his poll he can now fish 14 fish per week, and enjoys an extra day of Leisure. There ya go!
So to continue, Step 2 must be decrease in consumption, and step 1 must follow step 2. Step 3 I am confused on as I don’t know what you mean by unemployment. Unemployment occurs during the bust as people were employed in insufficient business’s. They must be re-located just as the bad capital is. They simply need to move to productive business practices, that does not equate to less work though. What we need is the market to grow off of savings, not on credit, and allow for sustainable business models to emerge and as those industries grow employment will follow.
Step 4 is a crucial one for recovery. Capital is heteregenous, that is, it is not easily re-allacotated. Consider a datacenter that was built, but shouldnt’ have been. All of the cables may have been cut to a specific length, they cannot necessarily be immediately moved to the next datacenter. Likewise in mal-investment capital is created for specific purposes, only to find out later there was never an economic use for that capital. Lets say a factory makes a specific type of Widget A, it is not easily moveable to a person who produces widget B. So these objects must be vended away at cheap prices.
This is still not a bad thing however, as it allows responsible marketable business’s to aquire new capital at discount rates. SO lets re-order and re-word your process to recovery.
Decrease our consumption and begin to save. Do not artificially increase demand for goods and services, allow ineffecient firms to fail
Once savings is established Increase investment activity will occur. AFTER Step 1.
Re-allocate capital and labor to productive industries and firms
There you go, thats the road to recovery.
It seems un-important but that is because you do not understand the roll money plays in the way of economic calculation. Business’s move forward based on calculation in monetary terms. If the exchange ratio between goods and money is altered it perverts the business man’s anticipations and calculations of future investments. Money is paramount in calculating healthy market growth.
This is why there are reasoning behind the artificial demand for housing, education, and other expensive goods. It was due to the high availability of credit. Had interest rates been much higher would you still argue that the housing bubble would still occur?
And it will, as this last business cycle has proven. Though not through government dept monetization but through reserve expansions in the Fed’s participating banks. Not Real reserve expansion, just reserve guarantees. Money does not sit idle. It is not netural, and it’s roll is not to sit in a bank hidden. Money is built around human action and as such it moves, and is dynamic. It is naive to assume that we can monetize our dept, and assume that inflation and consumption would not equally occur. It also cannot be shown empirically but instead it’s the opposite. Monetizing our dept would eventually cause massive deflation, and a loss of interest in the Dollar as a global investment currency.
Much of your confusion on this matter would be alleviated by reading Human Action. Mises is addressing your argument specifically, and other Keynesian arguments like it.
To Summarize,
Bad economic expansion does not occur arbitrarily due to animal spirits. It occurs only when monetary expansion occurs with it. Otherwise typical economic expansion only occurs at the direction of the consumer, and in those cases a bust would not likely follow.
Ok. I was talking about productivity increases in the past year.
But long term productivity increases (output per labor hour) have been increasing steadily for hundreds of years but specially since the industrial revolution and they have gone up with warp speed with information techology, best practices in business process management knowlege increases and better ways of managing workers in the past 25 years.
Nope, not even the past year’s gains are due to psychology alone. Also, the rate of acceleration of productivity over all isn’t due to a pure Kurzweillian singularity either. It’s simply due to the nature of all production: savings yield investment which yield production which yields wealth (excess gains of production) which goes back into savings and the cycle begins again. It’s not magical, it’s a fricking feedback loop.
I don’t really want to get into this too much but I want to know something, if too much savings and thrift caused the crash then why is it that America’s net savings rate has been negative for the past few years?
Also, what would you say to the argument that, in the assumption that you are correct and the crash was due to savings, that this simply means that the savings meant that people wish to consume later, not now, and that therefore the recession is the necessary thing in order to do what the economy is actually supposed to do, satisfy people’s wants? Furthermore should the state step in and perform these tasks and succeeds in boosting aggregate demand then isn’t actually in tune with people’s value preferences and that therefore it is simply a further boom which will result in further boom and bust cycles as the time preferences of the savers change?
I think the critical point that you’re missing is that neither inflation nor deflation is inherently good or bad. You still have failed to adequately explain your deflation bogeyman.
Don’t look at America in isolation. Look at the planet. The planet is a closed economic system. If too many people save too much on the planet (Chinese, Germans, Japanese, etc) and by save I mean fiat savings or savings in gold coins (forms of money) not savings in real business assets (factories, patents, etc), stocks or physical or mental capital (training etc.) then we will have widespread deflation.
Not really. You’re talking about bread loaf factories. Give me evidence about this bread loaf factory and savers knowing about too many factories. Evidence that these savers/producers saw loss of profit at these bread factories. And then find evidence that other jobs were not available for workers to shift from bread-making to another kind of job. For one, not all job sectors are cutting jobs. Some are hiring. Find evidence for all of this, since you pointed out you like evidence then I’ll go with what you say - give me evidence of this bread factory and evidence that no other job sectors are hiring. I mean Mexican workers are still running across the U.S. southern border because of all the jobs here. Give me the evidence.
Also do you know what a mortgage is? I must ask at this point.
What do you think was the dot com crash or the residential real estate or soon to be commercial real estate crash. Too many “bread factories”. With double digit umemployment rate now and no end in sight.
And how did people get their money for dot.com or residential real estate? What did the Fed. have to bail out and why? Why were their bankruptcy’s? Why wouldn’t people have money to pay on their – fill in the blank --?
I find the common justification of many economic and political suggestions on the great depression to be extremely annoying. The Great Depression is a single datapoint. A datapoint with many many unique characteristics. The GD is historically an atypical event. Conclusions should not be made from atypical events. Mathmatically and logically, it is irresponsible to use this event for any suggestion based on statistical significance.
