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Source link: http://archive.mises.org/9976/a-rejoinder-to-brad-delong/

A Rejoinder to Brad DeLong

May 19, 2009 by

In his dismissive response to me, Brad DeLong provides some arithmetic that supposedly weighs against the Austrian theory of the business cycle as a plausible basis for understanding the current recession.The differences between DeLong and the Austrians are not to be resolved by doing the math but by understanding the theory. Tellingly, DeLong has overestimated and, at the same time, underestimated the significance of the housing bubble in the Austrians’ view of the current recession. FULL ARTICLE

{ 30 comments }

Ron May 19, 2009 at 9:43 am

I always love how mainstream economists eschew common sense in favor of mathematical equations. It’s as if the more disconnected from reality they are, the more seriously their opinions are considered. Amazing.

fundamentalist May 19, 2009 at 10:05 am

Nice rebuttal. I have noticed that rather than explain their own ineptness, mainstream economists want to attack the only school of economics that gets business cycle right. The intellectual dishonesty is amazing. Instead of correct his own mistakes, DeLong tries to shift the spotlight to Austrian economics. Worse, he doesn’t even make a half-hearted attempt to understand Austrian econ but tilts his lance and gallops toward windmills he mistakes for Austrian econ.

“He argues that the estimated $2 trillion worth of housing stock write-downs and the consequent construction slowdowns imply that the unemployment rate during the next decade should be higher by only 0.6%.”

The conceit of DeLong in thinking that he can estimate unemployment impact of the write –downs in the housing stock is simply astounding. Added to his conceit is the dishonesty in portraying the write-downs as the only cause of unemployment, as if the sectors of the economy are orthogonal islands. Garrison is very generous in calling it “overestimation.” Does DeLong honestly believe that the collapse in housing has no effect on any other industry?

newson May 19, 2009 at 10:47 am

hardly worth refuting de long, someone so craven as to invite comments, and then selectively prune those which challenge. i’m glad the link to his website has been removed, we deserve better opponents.

Yancey Ward May 19, 2009 at 10:49 am

Tilting at “strawmen” is probably a better phrase, Roger.

DeLong is doing what DeLong always does- assumes his readers are morons that can’t see through his sophistries and misdirections. For his fans, he is certainly correct in that assumption, but he studiously prevents them from reading any counterarguments on his blog, which is sad- people can learn a lot in honest, open debate.

And, indeed. Even if you grant that one could reliably calculate the future effect on employment of a $2 trillion write down of malinvestments in housing stock, that $2 trillion amount doesn’t include all the malinvestment inhousing-related production (lumber, cement, furniture, etc.).

redshirt May 19, 2009 at 10:51 am

ditto. Also, it’s worth noting that many industries are probably at different stages of their own boom while the bust of the most obvious boom is underway. It is a NON-LINEAR relationship. When the factors driving these other smaller booms die off, all the other bubbles go bust! (Precipitated by the obvious unemployment that occurs during resource realignment.)

The following come to mind: credit cards, higher education, higher order “investments”, the luxury market driven by easy credit, and so on. And of course banking, which is not being allowed to reset.

Back of the envelope calculations for this sort of thing are absurd.

(Sort of off topic… Can we add military spending? Those big budget items are being cut. For those who love their high tech military items it would behoove you to understand that maintaining an advanced military requires we maintain a SANE economy and overall smaller government. The best national security is a strong economy that can afford military spending.)

fundamentalist May 19, 2009 at 11:07 am

I was going for the Don Quixote metaphor. Quixote mistook windmills for monsters, but at least the windmills existed. DeLong creates the windmills in his own delirium.

Phil David May 19, 2009 at 12:11 pm

Perhaps someone can answer my question. I’m an austrian economics enthusiast, but I’m a relative novice. And I was having a discussion with another blogger about telltales that can signal an approaching downturn.

My counterpart mentionned to me that in many instances, a reversal in the treasuries yield curve can signal an imminent recession. I found that interesting. Knowing that according to the austrian business cycle theory, Booms and busts are caused by excessive money creation and the fact that in order to increase or shrink the money supply, the Fed has to buy or sell treasuries. Could credit expansion actually influence the yield curve?

Stephen Grossman May 19, 2009 at 12:55 pm

>[fundamentalist]Does DeLong honestly believe that the collapse in housing has no effect on any other industry?

To the extent that he knows no method of knowledge better than Pragmatist fragmentation, he’s honest. But if he was basically honest, he would recognize that he has no scientific method. This is a cultural situation ripe for fraud.

fundamentalist May 19, 2009 at 1:21 pm

Phil: “Could credit expansion actually influence the yield curve?”

Yes it does. The feds control primarily the short end of the curve, so changes in fed policy affect it first and it takes a while for the long end to get hit. There was a debate on this site about the yield curve over a year ago. You might want to google it. Some see it as a sign and some don’t.

I was reading Hayek’s “Prices and Production” in 2007 and he mentions that the peak in the cycle is about when profits are at their highest. The new media were all a twitter over record profits at the time. So I exited the stock market about June. The stock market peaked about 6 months later and the economy soon followed.

What’s difficult is determining when psychology will turn around. Psychology can keep the market running upward long after the fundamentals turn.

Jonathan Finegold Catalán May 19, 2009 at 1:30 pm

“Knowing that according to the austrian business cycle theory, Booms and busts are caused by excessive money creation and the fact that in order to increase or shrink the money supply, the Fed has to buy or sell treasuries.”

I think that it’s important to clarify that the Austrian Business Cycle Theory pinpoints fractional-reserve banking as the cause of inflation (Jesús Huerta de Soto in Money, Bank Credit and Economic Cycles & Ludwig von Mises in The Theory of Money and Credit). Central banking allows fore credit creation to happen much more dramatically. The following formulas are from Huerta de Soto’s book, and paraphrased for a very short paper for my economics class.

Jesús Huerta de Soto provides the mathematical formula for a single bank practicing fractional-reserve banking:

X = d (1 – c) / 1 + k (c – 1)

d: the money originally deposited in the bank’s vaults;
c: the cash or reserve ratio maintained by the bank;
k: the proportion of loans granted which, on average, remain unused by borrowers at any given time
x: the bank’s maximum possible credit expansion starting from d

Now, let’s look at the formula when dealing with a banking cartel, or basically a monopoly, as existent through the Federal Reserve. In this case, k=1; this is because a borrower has no other options other than maintaining as deposits all funds they are lent, or the recipients of the money are also client of the cartel (the current banking system). Therefore, the formula turns into:

X = d (1 – c) / c

Let’s say that the original deposit was $1,000,000:

X = 1,000,000 (1 – 0.1) / 0.1 = 1,000,000 × 0.9 / 0.1 = 9,000,000

It has basically multiplied the money supply by ten (9,000,000 + 1,000,000 = 10,000,000).

It’s also not just about “excessive” money creation. It’s about money creation without an increase in capital, and more about the loaning of credit without being backed up by real savings. This causes resource misallocations, and leads to an unsustainable boom (since there is no real shift in demand for future goods).

Eric May 19, 2009 at 2:31 pm

I think someone is positioning themselves for a job at the FED.

I broke up laughing at the “Marx-Hoover-Hayek Axis”. It’s as funny as Bush’s Axis of evil.

On the other side is found his best quotes, which include “Keynes’s genius….” and “that markets can go seriously awry and so must be managed with care”.

I guess we need a new federal department of market-care.

greg May 19, 2009 at 2:56 pm

After receiving my masters in economics I entered the real world with the same views on what moves markets. Working for a major corporation, I found my superiors were attentive to my thoughts and concerns. Then I woke up one day and realized that nothing made sense. That is when I quit and started my own construction company.

As I built the company and worked with sub contractors, I realized that these subs that performed my clean up had more on the ball about business and the direction of the economy than any of the VPs or college professors that I have ever met. It is because they maintained a viable business and provided support to their families. They had to read the economy because their families depended on it.

So you can take your Austrian view about interest rates and the housing bubble and file it away (I have to disagree that the Austrian view lays the blame on interest rates). You can take the Keynesian response to the downturn and file that too. All of you need to talk to my clean up man and he will give you the problems and how to correct it.

All of you get caught up in your degrees and publications and non of you listen to the common man that runs his successful business day in and day out. Try talking less and listening more!

Bruce Koerber May 19, 2009 at 3:25 pm

I am curious why Brad DeLong’s website was listed as an “Outside Link” on this Mises Economics Blog site for quite a long time?

Does he have some connection to Austrian economics in the past?

Is he a chameleon like Greenspan?

(8?» May 19, 2009 at 4:43 pm

I was told there would be no math.

Tom Woods May 19, 2009 at 4:48 pm

Greg, you’re saying that instead of thinking rigorously about the economy, we should quit being pointy-heads and instead compile a list of haphazard observations, seeing what we can derive from that? That doesn’t strike me as a fruitful direction to take.

Robert Groot May 19, 2009 at 5:04 pm

This is the money quote from Roger:

“The actual length and depth will not even be fully determined by those distortions as magnified by the secondary contraction, but rather by the initial and secondary contractions as compounded by the ill-conceived policies aimed at restoring macroeconomic health.”

How De Long can say with a straight face that he *knows* that the unemployment rate will rise by 0.60000000000000000000% over the course of the next decade?

Does he have a crystal ball into the minds of the ill-informed politicians who consider themselves our saviors, who have yet to think about why the collapse occurred, let alone act in trying to solve it?

newson May 19, 2009 at 6:21 pm

so greg,
why do you bother reading the articles and commenting? wouldn’t you be better off concentrating on business, which is a different skill to theorizing, as you correctly point out.

phaesed May 19, 2009 at 7:32 pm

Mr. Garrison mentions Hayek discussing a “secondary contraction”…. In which book does he discuss this? I would desperately like to read this analysis (or reread it) since I think that’s what we’re waiting on right now while the government and Goldman Sachs plays footsies with the S&P Futures.

Roger W. Garrison May 19, 2009 at 8:39 pm

phaesed:

Here is a mention of (and citation to) the “secondary” aspect of the downturn as seen by Hayek. The passage is from my “Overconsumption and Forced Saving in the Mises-Hayek Theory of the Business Cycle,” which posted in .htm format at:
http://www.auburn.edu/~garriro/strigl.htm

History suggests that there is clearly a danger, especially in the face of ill-conceived policy actions by the monetary and fiscal authorities and counterproductive measures of the regulatory authorities, that the recovery phase [of the business cycle] will be preempted by a spiraling downward into deep depression. … This is the aspect of the downturn that concerned Keynes in his General Theory…. Hayek ([1939] 1975, [Profits, Interest, and Investment] p. 176; 1975, p. 44) recognized that the downturn can feed on itself, but he labeled this possible development a “secondary deflation” or “secondary depression” to distinguish it from the more direct implications of an artificially low rate of interest.

Roger W. Garrison

Yancey Ward May 19, 2009 at 8:50 pm

Roger,

Perhaps DeLong does see monsters when he looks at Austrian Econ. I really do sense some desperation in some of the writings of the Keynesians- many of them are, at the moment, preparing their exit arguments for why their prescriptions didn’t work.

filc May 19, 2009 at 9:09 pm

Greg,

The ironic thing is, the Austrian school is the only community fighting for your divine right to keep your business. Keep it free from government intervention, intrusion, and coercion. And you have so casually dismissed them and jumped on the bandwagon with the rest. I think it goes without saying that if such fallacy’s as Keynesianism, Marxism, and Socialism did not exist the great demand for the Austrian school would be much smaller and much less out spoken. Sadly we don’t live in such a utopia. Be thankful that even though you are ungrateful there is at least someone defending your business politically.

Maybe they should all go away and the corrupt world of government can have it’s way with your small business.

P.M.Lawrence May 19, 2009 at 9:54 pm

Have a look at this, that I posted on the DeLong thread. Look where DeLong sticks his snide remark, and read back to see what I wrote. He has clearly come in part way through a sentence of mine that begins with an introductory remark and cut the rest. Internal evidence clearly shows he is censoring without indicating that he is removing stuff and distorting what people have to say!

phaesed May 20, 2009 at 12:41 am

Mr. Garrison:

Thank you for that link to the paper, I was most particularly intrigued by figure 3 and the 8 stages, I had not seen that version before. The reason I am so curious about this “secondary” depression is because I believe we are on the verge of it, the resources being made available by the Fed, having no proper home for an engine of true growth, are being allocated to dubious investments, such as the banks themselves. I guess it’s time for me to read your book as I am becoming ever more obsessed with Hayekian “Triangles”, most especially because I am drawn to the idea that they are instead fractal in nature. Thank you for your many contributions to the Austrian School.

Dan

P.M.Lawrence May 20, 2009 at 1:37 am

How odd. DeLong has just censored a reply in which I pointed out his censorship.

Inquisitor May 20, 2009 at 8:34 am

Greg, do you ever do anything but whine about the articles? Seriously.

Yancey Ward May 20, 2009 at 9:05 am

P.M Lawrence,

That is DeLong’s modus operandi.

Vanmind May 20, 2009 at 9:44 pm

Isn’t the observation of “real world businesses” and policy adjustment (fiscal/monetary) based on those observations what the Historical School was all about? I have not studied what those Germans were up to back then.

Brian Macker May 21, 2009 at 7:01 am

Brad Delong is one of the people responsible for this train wreck. He was an adviser to the Clinton administration. Do you really think he is going to take responsibility for the mess his ridiculous economic theories have caused? He’s got a major mental roadblock that is sure to prevent him from recognizing Alan Greenspan and his incompetence.

Brian Macker May 21, 2009 at 7:12 am

Greg,

“I have to disagree that the Austrian view lays the blame on interest rates.”

Who did you ask to find that out, your coveted economic adviser, the “clean up man”?

Meanwhile every Austrian I’ve seen discuss the issue was complaining back in the 90′s when Greenspan was using below market interest rates to generate a boom. I understand the theory and interest rates play a very important part.

BTW, if the Fed was holding interest rates way above the market price over all these years then there would have been different bad effects according to Austrian theory. In that case the Austrians would be criticizing that policy.

I told you that just in case you though Austrians were merely against low interest rates. Which seems like a mistake you would be likely to make given your comment.

Ludwig van den Hauwe May 29, 2009 at 10:20 am

Brilliant article! Congratulations to Roger! Austrians tend to focus on the generic features of business cycles, that is, on those characteristics all cycles have in common. The paper would equally well fit any of a dozen of previous boom-bust cycles. It would be interesting to know whether Austrians believe whether this episode presents any specific features that make it markedly different from other, previous boom-bust sequences.

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