The Myth of Economic Bubbles

Economics Economics Questions
181

Bingo what? The questions expose a clear mis-understanding of capital theory as a whole. Did you think Austrian’s sat down and taxonomized various goods into their appropriate categories? The thought reveals a mis-understanding by what is meant by various order goods. Furthermore the answer of busts and expectations have already been answered adequately above by re-allocation of capital/labor and interest premiums or real rates.

lol you act like you just said something devastating. =p

Since your both now going in circles I’ll reset us back to where we were days ago.

182

Did you think Austrian’s sat down and taxonomized various goods into their appropriate categories? The thought reveals a mis-understanding by what is meant by various order goods. Furthermore the answer of busts and expectations have already been answered adequately above by re-allocation of capital/labor and interest premiums or real rates.

Well, nobody has addressed the question of which interest rates are relevant to the business cycle. The reality is “the interest rate” is a theoretical abstraction, presumably the natural rate is the composite of all sorts of different rates, although I’m not really sure how you’d aggregate them. However, the question remains, when long term interests remain unchanged but short term rates drop what do entrepreneurs do? What about the risk premium?

What if entrepreneurs (or, what do Austrians have to say about expectation formation full stop) expect the central bank to jack interest rates up within a month. Sure they might take the funds, who says they’ll invest them in “higher order” capital goods? It’s quite possible that “overinvestment” might occur but does one really need “capital theory” for that? Friedman’s simplistic model seems to capture that perfectly, and he didn’t waste his breath on capital theory.

My point about the brick is that “fifth order capital good” doesn’t refer to anything in the empirical world. Like I said, what order is the brick that is used to make the brick factory? The two goods are literally identical and perfectly substitutable and yet one would be nth order and the other would be n+1th order.

183

That is incorrect. Interest rates represent the accounting profits of various industry’s(Specific companies) along a temporal axis. If you’ve bothered to completely read up on ABCT then you would have known that Interest rates tell us where on the temporal axis is there the greatest market discrepancy’s offering up entrepreneurial opportunity for profit.

Stages of production furthest from production are least impacted by consumer low time-preference. On the other hand once consumer’s become thrifty then stages of production closest to consumption, like retail, will begin to suffer accounting losses. Stages furthest from consumption do not immediately feel this alteration in consumer behavior, as a result they may still be experiencing profits, even if the profits are substantially lower. This will move investment away from these industry’s into sectors furthest from consumption where the consumers preferences are least felt. This practice of consumers becoming thrifty, is the equivalent of saying interest rates fall, as the average or median begins to drop. It will be represented in smaller interest rates at the loan office, as a competitive mirroring of the market behavior. As a result capital begins to flow in the direction to where there still remains a profit, that is stages furthest from production.

When investment is placed into stages furthest from production, the future economy potentially becomes more productive. In the long run the new abundant economy may yet change consumer preference to alter their position of thrift, as products and goods are now more abundant and are offered at a cheaper cost. In that case investment may begin to move back into retail and into stages closest to consumption.

You seem to have missed the entire roll of what interest is, and how it plays into the Austrian Capital theory. Otherwise you would have known that the ABCT isn’t about interest rate aggregates, but about accounting profits getting distorted along the temporal axis.

As for your analysis of “overconsumption”. The term seems to be synonymous with mal-investment. If we’ve over-consumed out of alignment with consumer preference then by whatever percentage the over-investment occured, you’ll have a correction by that much. If consumers don’t want 2000 houses, but instead want 1000, well then you’ve got 1000 houses worth of idle capital needing to be re-allocated or destroyed. Which actually did occur in California.

As for your brick analogy, well again your taking the concepts too literally and missing the fundamental points.

IF you want a more literal explanation see the graph on page 293.

http://mises.org/books/desoto.pdf

You may as well just go ahead and read all of Chapter 5.

184

You seem to have generated more heat than light. I know that Austrians see the natural rate of interest as being the price differentials between the “stages of production” in equilibrium, and is the manifestation of the time preferences of individuals within society.

But as Austrians have pointed out over and over again, we can’t observe the natural rate of interest in such a way so entrepreneurs use the rate of interest expressed in loan markets to guide their decisions. Which is where my question comes in, given that there are numerous rates of interest in any given economy which ones are used by entrepreneurs and how does the risk component factor into the decisions of entrepreneurs.

As for your brick analogy, well again your taking the concepts too literally and missing the fundamental points.

So, I’m kinda doing exactly what you guys do when you talk of mainstream economists modelling capital the way they do? In any case, this is an important question, because apparently nth order goods don’t necessarily refer to anything in the real world.

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So, I’m kinda doing exactly what you guys do when you talk of mainstream economists modelling capital the way they do? In any case, this is an important question, because apparently nth order goods don’t necessarily refer to anything in the real world.

If you mean in terms of objective properties of the goods, no. Why does it matter?

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So it doesn’t bother you at all that you’re theoretical framework is empirically empty? What use is theory that doesn’t enlighten us on the empirical world, I know a lot of the talk of mathterbation are valid, but this seems just as bad.

Hell, even in theory you can’t tell me what order good is the brick that builds the brick factory.

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Hell, even in theory you can’t tell me what order good is the brick that builds the brick factory.

What a ridiculous question. If you can tell us what stage the factory is from, relative to the final consumer good, we could answer your question. Otherwise, how are we to know? Even knowing that information, it could be that the same factory provides the same good for two different ends, and so really they are at different stages of the productive process.

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the brick is a lowest order consumption good that I purchased to provide Economist-In-Training-Confusion Services to me.

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You should probably start a philosophy thread. Something along the lines of “rationalists vs. empiricists” or something. You should check out the debate Grayson had with Neoclassical a while back. It was on methodological dualism.

It can’t be pegged as being “fifth” or “sixth”? So what? It doesn’t need to be any one of those things for the theory to still be true. It’s not an empirical approach.

191

So it doesn’t bother you at all that you’re theoretical framework is empirically empty?

According to…?

What use is theory that doesn’t enlighten us on the empirical world, I know a lot of the talk of mathterbation are valid, but this seems just as bad.

It does enlighten regarding the “empirical” world. But you seem to have some stupid preconception that goods of an nth order should have a label with that written on it stuck to them. Why?

Hell, even in theory you can’t tell me what order good is the brick that builds the brick factory.

A higher order good? Oh but you mean if it’s 3rd, 4th or 5th? Why does this matter?

Try harder.

192

I’m not sure if I eluded to this but it’s still incorrect. Entrepreneurs don’t use any form of aggregate “interest” rate to direct their business activities. They use profit and loss, and they find industry’s along a temporal-axis which appear to be the most profitable. The loan market is not apart of that process. Where the loan market does affect things is providing added capital, made available via a central bank, which reduces the costs involved in business expansion. A) Giving the appearance of a greater amount of resources available. B)Creating noise in the profit & loss system which causes a lateral expansion of production in all stages, both stages closest, and furthest from consumption. This makes it difficult to ascertain where profits are greatest and effectively disconnects the market’s steering from consumer preference.

Again, entrepreneurs are looking at industry specific profits to direct their entrepreneurial activities. They look for discrepancies in the market which are opportunities for potential profit. Accounting profits along those various stages of production are interest rates essentially. IE they are a price discrepancy between the desirability of future goods to present goods.

You need to stop thinking of it as “Interest”, like credit & interest, and start thinking of it as accounting profit.

193

filc I think you’re quite incorrect, even as far as Austrian economists goes. Price differentials between the stages of production can’t be observed most times, and even if they can, the firm can only gauge the profitability of investment decisions with reference to the market rate of interest. I can’t believe you’re seriously denying that firms use the market interest rate in their investment decisions, trust me I’ve interned at two large multinational corporations, and they do use the market interest for investment decisions.

If the market for loanable funds only mattered insofar as it made it appear as if more funds were available there would be no malinvestment, which as far as I’m aware is what distinguishes the Austrian story. I also think you’re putting the cart before the horse, there would be no lateral expansion of production if there was no price that had already been “distorted”.

Of course, none of this answers the question, which interest are we using when we talk of “giving the appearance of greater amount of resources available”, clearly it would be folly to deny that the interest rate in the market for loanable funds plays no part in the Austrian story, so let’s be straight on which interest rate matters.

194

It does enlighten regarding the “empirical” world. But you seem to have some stupid preconception that goods of an nth order should have a label with that written on it stuck to them. Why?

If you guys are kicking up a fuss about capital theory, you should at least be able to identify goods in theory as belonging to one or another stage of production. The fact that you can’t even tell me what order it belongs to in such a simple example does not bode well for the possibility of applying capital theory to the real world where matters are infinitely more complex.

195

The fact that you can’t even tell me what order it belongs to in such a simple example does not bode well for the possibility of applying capital theory to the real world where matters are infinitely more complex.

More of this nonsense. What is the use of distinguishing what stage of production any given good belongs to? This isn’t what capital theory sets out to do.

196

Mathematical models might be able to tell us about empirical phenomena. Its great if they can. But they’ll never be able to model, say the Stock Market, as anything other than psuedo physical phenomena. You lose all the subjective stuff revealed through human action. You can’t get at it any other way.

But maybe it is enough for you to perceive the world mechanistically? Depends what you’re trying to do.

197

You guys are awfully terse, I hope I’m not irritating anybody. It matters because if you guys can’t distinguish the stages of production from one another then perhaps your capital theory isn’t quite as rock solid as you thought it was.

Let me try putting this in other terms, interest rate sensitivity increase as one moves further away from consumption. Now, let’s say you have various goods of increasing orders, so nth order good… bricks for factory, machine used to make bricks, bricks… house. Which is more interest rate sensitive, the machine used to make bricks or the bricks themselves?

198

I’m most certainly correct. Entrepreneurs look to see if it’s more profitable to start a steel smelting plant as opposed to a grocery store based on industry specific metrics. They look to see where the greatest amount of profit currently lies, as reported by other business activities in those area’s. Entrepreneurs do not spend their time looking at loan interest rates to decide if it’s more profitable to open a record/CD music store, as opposed to a McDonalds. You don’t look at interest rates to decide whether or not to open a lumber-mill, silicon PCB printing lab, or software development firm. We look at various industry-centric metrics which indicate the greatest potential for profits.

I can’t believe you that you can’t believe. Open up, http://mises.org/books/desoto.pdf

Do a search for “accounting profit”. Use a little common sense before you embarrass yourself =p.

I think it can be said in all certainly that you’ve only bothered to read Austrian Capital theory in a quick birds eye view summations, and haven’t yet bothered to dive into it’s rich underlying points. Which is bothersom since your attacking it as allegedly dead.

This completely ignores the exposition I provided above as all of this was cleared up.

199

EconomistinTraining,

You guys are awfully terse, I hope I’m not irritating anybody. It matters because if you guys can’t distinguish the stages of production from one another then perhaps your capital theory isn’t quite as rock solid as you thought it was.

What does distinguishing at what stage a particular economic good is at have to do with distinguishing different stages of production from each other?

Now, let’s say you have various goods of increasing orders, so nth order good… bricks for factory, machine used to make bricks, bricks… house. Which is more interest rate sensitive, the machine used to make bricks or the bricks themselves?

This question has already been answered. According to your own definition of the concept of “interest rate sensitivity”, it would be the one farther away from the final stage of production, or what which produces the consumer-good. What you seem to be trying to “disprove” is a linear approach to capital theory. But, that is the approach that Hayek discarded when he delved into dynamic capital theory (the idea that there is no clear structure of production, and that a good can change orders depending with what line of production it goes into).

200

Further evidence that you haven’t a clue as to what various stages of production actually means. Goods are classified in various stages of production based on their use, IE based on human action. There is no objective property which classify’s a good as first, second or third order good. What utility is derived from each good is decided subjectively. If a good offers no utility beyond preparing the completion for another good, then thats fine. But the same good could be used as an end unto itself and be classified entirely differently. For example:

For some people a motor is a higher order good used to propel a vehicle, for others however it’s a consumption good and an end unto itself. Specifically for those who enjoy working on cars as a passtime.