Would-be Austrian’s make themselves look bad (and therefore AE) when they straw men mainstream positions. Not everyone in the mainstream rejects the ABCT because they are entirely unfamiliar with it. Paul Samuelson, for example, had a somewhat profound understanding of it, from what I can tell (his paper A Summing Up demonstrates a pretty sound understanding). You must realize that the mainstream (especially the Monetarists and rational expectations crowd) reject that the market rate of interest can be suppressed below the natural rate for any extended period of time. Once you reject this position, you must reject the Austrian business cycle theory.
This is their position: An expansion in the supply of money can only reduce the market rate below the natural rate (they don’t adhere to the pure time preference theory of interest) when the ceteris paribus condition is present. Increasing the money supply will in fact elevate interest rates back to their appropriate position (and then some) once this condition is laxed. Increasing the supply of money will have a stimulative effect at first, and will lead to general price inflation; both of which increase the transaction demand for money (elevates the interest rate). The increasing rate of inflation, brought about by monetary expansion, will create inflation expectations which also place upward pressure on interest rates (Fisher effect: r = i - pie^e, where the real interest rate equals the nominal interest rate minus the expected rate of inflation ).
Thus, the market rate can only remain depressed in the very short run (liquidity effect), and will rise back to the natural level in the semi-long run (tension between the liquidity effect, income effect, price-level effect, and expected inflation). The government cannot prevent this correction.
Now, I’m sure many of you are familiar with this, and understand how to counter such arguments (the real nature of inflation, relative price distortions, heterogeneity of capital, et al.), but I find many uninformed would-be Austrian’s talking all kinds of nonsense all over the internet. It’s important to understand the position you’re critiquing.
I agree. The specific objection I have to the mainstream view of inflationary interest rates (I think this has been said by others) is that entrepreneurs are no better able to tell what the market rate “should” be than the central bank is. Once the central bank begins manipulating the interest rate, no one knows what the market or natural rate “should” be anymore, so it’s impossible to “factor in” the expected inflation rate. A given business either is or is not profitable at the nominal interest rate, irrespective of the real interest rate. The real interest rate is only real in the economist’s imagination, in reality, it is a fiction.
Exactly. The “just price” is determined solely by the market through the interplay of various individuals guided by subjective valuations. Their production functions and growth models, which appear intricate and nuanced, are really child’s play when compared to the real world. The most intelligent person in the world, armed with the greatest econometric model, is still unable to set the “correct” price (interest rate or whatever). And we’re back to Mises and Hayek’s calculation argument (which really obliterates all interventionist/socialist positions). But, again, this is a huge problem for the rational expectations crowd.
But my only point is that the mainstream’s arguments are not as simple as some make them out to be.