GDP can to totted up in different ways. E.g. in a very simple economy consisting just of firms selling goods to people, GDP would equal the total of goods sold to people, plus it would equal total wages paid by firms to people.
In the case of “total goods sold to people”, note that stuff sold by firms to other firms (i.e. “intermediate” stuff) is not counted. But Austrians, it seems, DO WANT to include this intermediate stuff.
E.g. see Huerta de Soto’s “Money, Bank Credit and Economic Cycles” p.305 under the heading “Criticisms of the Measures in National Income Accounting”.
For another Austrian making the same point, see here. (Hat tip to Lord Keynes).
So let’s get this straight. Say there is a widget factory where the final stage in the production process is to paint the widgets, which is done in a special paint shop building. One day there is a management buy-out of the paint shop, but they continue just as before: painting the widgets, and selling them on at the same price as before.
Anyone with some common sense can see that nothing much has changed. Certainly neither national income or output have risen. But according to Austrians, national output or income or something HAS risen (by the total amount the new paint firm pays for unpainted widgets).
To be fair to de Soto, he does not make it 100% clear whether his “including intermediates” measure of GDP is just for the purposes of analysing the economy the way he wants to analyse it, or whether he is saying this new measure really does measure total output or total consumption. But I’m 99% sure he is saying BOTH.
He should certainly have made the latter point 110% clear.
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It's a measure of gross spending. It is obviously not a measure of output, and especially not net output. So you are 99% wrong in thinking he is claiming it measures total output or consumption.
ReplyDeleteIn the example you gave spending would go up by having two firms. A cash balance is going to be required by the new firm to purchase goods. This is not however the kind of spending it is trying to capture, changes due to mergers or splits, or why. You'd actually have to read the book to understand, and not just flip to a page and read a section out of context.
Austrians don't like aggregates because they destroy information about the structure of the economy. This GDO give a tiny bit more information about the economy and is very far away from the kind of information Austrians think is needed for valid economic analysis.
I is a very gross measure of the lengthing of the production process. It would only be a fully accurate measure if on average the kinds of splits and mergers of companies (which do not actually expand the average production process).
The same sorts of flaws are present in the GDP measurement. For example if the government decided to tear down the rocky mountains and fill in the grand canyon that would cause a spike in GDP although it doesn't actually accomplish anything economically useful. Cash for Clunkers being an example of this kind of nonsense. Another being the dropping of billions of dollars of bombs on the factories of your enemy.
In any case, this is merely an attempt to expand measurement. It is not a flaw in Austrian theory, and they are fully aware that it does not measure gross or net output.
ReplyDeleteNeither Keynesian nor Austrian theory expects a net increase in the kinds corporate spinoff of lines of production you have given in this example because of monetary policy. If one assumes such spinoffs vs mergers do not on net increase or decrease, then you could use GDO in the way Skousken does to show that Austrian Economics makes a prediction for which Keynsian economics fails. Thus showing that one model is superior to another. NO this measurement is NOT the model. Yes, it is flawed but not in a way that matters for distinguishing between predictions of the two models.
Keynesians think consumer "demand" is so much large in comparison to the intermediate "demand" that we need not even track it. The Austrians theory is about all these details the Keynesians wish away. There is a lot of spending that goes on in these intermediate levels and Austrian theory predicts this will tend to become a larger and larger proportion of the spending as the output expands (and the captital structure).
Since you still do not understand the Austrian model I can see why this measurement would be lost on you. Perhaps you should read the rest of that book.
For someone who actually understands the theory your criticisms so far are similar to those who criticize natural selection without understanding it by saying things like: "Darwin thinks we evolved from monkeys. If so then why are their still monkeys around?"
I wish you'd make an honest attempt at understanding the theory before jumping into criticisms. You made a valid point in that "Monkeys don't give birth to humans" but it's really not relevant to whether the theory is more or less accurate than other theories.
Keep in mind that every theory is a simplified model of the real world and all have areas where they diverge from reality. Darwin's original theory had not Mendelian genetics, and has since been improved. With it's flaws however it was superior to other models.
Austrian economics has flaws, no doubt, and I could name some of them. Compared to Keynesianims it is genius because at least, unlike Keynesianism, it isn't self contradictory (containing paradoxes), and doesn't call upon magic (animal spirits).
Keynesians actually have argued that WWII was good for the US economy based on GDP measurements. That WWII got us out of the Great Depression. Based on aggregate measurements like GDP which include paying soldiers to remain in trenches being shot at as a positive thing. Which is ridiculous.
I suggest you learn the purposes that prices serve in an economy (An example of one purpose being plan coordination via price signals). Learn about price controls and how they destroy such signals (causing shortages for example). Then learn that interest rates are a price, and one that coordinates future with present plans. Then learn that fractional reserve banking interferes with these interest rate price signals, which has a similar effect as any price control.
ReplyDeleteEven Krugman understood that the low interest rates would lead to a housing bubble. He was just mistaken that it would be a good thing (because again GDP is all Keynesians consider).
Austrians understand that the interest rates generated by fractional reserve banking will be below the market rate during a boom, and above during the bust. This is quite out of the control of any single banker because fractional reserve banking causes the price signal incentives to go in one direction during the boom and the other during the contraction.
Fractional reserve banking is inherently unstable for these reasons. Interest rates go below what the market price would be during the boom (as banks lower their reserves increasing the money supply).
The increased money at the old price structure (created with less money) causes distortions because it tends to be injected unevenly into the economy. Some industries (like housing) are more sensitive to interest rates than others (like radish growing) and where the new money gets injected matters.
The increase money also sends a false signal as to the total amount of real savings in the system. If I make bricks and sell a pallet of brick for $100 and then lend the money out with a bond at a 30 year maturity then someone else can borrow my $100 and use those brick for 30 years with no mismatch. Our plans are coordinated.
If on the other hand I put the money in the bank, expecting to take it out in a year to potentially buy those bricks back, then they are not going to be there.
Or worse I put the money in the bank and the bank lends out $200 against the $100 in reserves for thirty years (a 50% reserve rate). The individuals borrowing (at the current price structure) are being given loans that amount to twice the amount of actual savings at the current price structure. Total plan discoordination caused by fractional reserve banking.
There is much more to the theory than what I have covered here. These however are the arguments you have to counter.
I could write a computer simulation that would generate business cycles by introducing fractional reserve banking, that would not be there without the practice of fractional reserve banking. You claim in another article that fractional reserve banking cannot cause the business cycle does not hold water.
ReplyDeleteThis is not about animal spirits. If the bank loans out more cash at current prices than there is actual savings well then of course the market will eventually discover this fraud.
Fractional reserve banking is a kind of temporal pyramid scheme. I could explain that in more detail but eventually the banking system will stop expanding. Unlike a pyramid scheme it is not merely shifting a fixed set of assets around. It is causing distortions to the structure of production that causes malinvestment (for example building too many houses).
Note that there are different kinds of price control schemes that can be used, and not all involve fixing prices. Others include subsidies, trying to buy the price up, which could be done under a fiat system via monetary printing. All these schemes fail.
Fractional reserve banking uses not fiat money printing, but printing against reserves to accomplish it's lowering of interest rates to below market levels.
Each of these different methods have their flaws. Using fiat printing to subsidize would eventually lead to permanent price inflation (with the same effects as just letting the producers counterfiet a fixed amount of currency). Fractional reserve printing leads to a boom bust cycle. Redistribution of taxes for subsidies has other effects.
All these effects are bad. The boom is bad, the bust is the attempt by the market to correct the exposed losses caused by the pyramid scheme.
When you merge a pyramid scheme with what would normally be good business practice you are of course going to get bad effects.
Some Austrians want to ban the pyramid scheme directly. Others think that if you let the banks run their independent pyramid schemes that competition between banks in destroying each others pyramid schemes will cause the system as a whole to be stable enough. I think the former are correct and the latter are mistaken.
They never use the term "pyramid scheme" BTW. I did that. I don't think they even noticed that moving more and more people into maturity mismatched contracts is similar to a pyramid scheme.
Brian, Re your claim that de Soto is not saying that the sale of intermediate goods should be included in GDP, I notice you don’t actually quote a passage from his book which says as much. I certainly could’nt find such a passage, which makes me wonder whether he knows what his is talking about. But I might have missed something. You claim to have a much more detailed knowledge of Austrian literature than me, so I’m sure you’ll be above to find the relevant passage in de Soto’s book.
ReplyDeleteRe your point that Austrians don’t like aggregate, their preferred measure of GDP consists of aggregates!!! See:
http://socialdemocracy21stcentury.blogspot.com.au/2012/01/austrian-substitutes-for-gdp-they-are.html
Re your point that the conventional measure of GDP is flawed because it involves dropping bombs, the same flaw apples to Austrian’s preferred measure. Indeed you claim that their measure consists of final sales (i.e. excludes intermediate sales) and “final sales” (no doubt unfortunately) includes sale of bombs to the military.
Re your claim that Keynsians think final demand is large compared to intermediate demand, can you cite me any passages from Keynsian authors making this claim? I’ve never come across them saying this.
Re your 3rd comment, thanks for explaining that prices serve to coordinate via price signals. I think anyone who has got half way thru a simple introductory economics text book has worked that out.
Re your point that fractional reserve brings artificially low interest rates, what did I say that implied I thought otherwise? I actually did a post just recently making that very point. See:
http://ralphanomics.blogspot.com/2012/01/fractional-reserve-causes-artificially.html
Good refutation of Austrian national accounting. I want to point out that the way Hayek 'refuted' paradox of thrift is deeply flawed also. He wrote "Paradox of Savings" and It is obvious he is talking about real savings S=I. Austrians now run around and say: see, Hayek refuted paradox of thrift. No he didn't.
ReplyDeleteAustrians never understood monetary economics=they never understood reality.