WEBVTT NOTE XX. Interest, Credit Expansion, and the Trade Cycle (continued) 1 00:00:00.000 --> 00:00:09.000 6. The Gross Market Rate of Interest as Affected by Inflation and Credit Expansion 2 00:00:09.000 --> 00:00:14.560 Whatever the ultimate effects of an inflationary or deflationary movement upon the height 3 00:00:14.560 --> 00:00:20.840 of the rate of originary interest may be, there is no correspondence between them and 4 00:00:20.840 --> 00:00:26.760 the temporary alterations which a cash-induced change in the money relation can bring about 5 00:00:26.760 --> 00:00:30.040 in the Gross Market Rate of Interest. 6 00:00:30.040 --> 00:00:35.920 If the inflow of money and money substitutes into the market system, or the outflow from 7 00:00:35.920 --> 00:00:42.500 it, affects the loan market first, it temporarily disarranges the congruity between the gross 8 00:00:42.500 --> 00:00:47.440 market rates of interest and the rate of originary interest. 9 00:00:47.440 --> 00:00:52.840 The market rate rises or drops on account of the decrease or increase in the amount 10 00:00:52.840 --> 00:00:59.680 of Money offered for lending, with no correlation to changes in the originary rate of interest, 11 00:00:59.680 --> 00:01:06.420 which in the later course of events can possibly occur from the changes in the money relation. 12 00:01:06.420 --> 00:01:12.400 The market rate deviates from the height determined by that of the originary rate of interest, 13 00:01:12.400 --> 00:01:18.720 and forces come into operation which tend to adjust it anew to the ratio which corresponds 14 00:01:18.720 --> 00:01:21.880 to that of originary interest. 15 00:01:21.880 --> 00:01:27.680 It may happen that in the period of time which this adjustment requires, the height of originary 16 00:01:27.680 --> 00:01:34.360 interest varies, and this change can also be caused by the inflationary or deflationary 17 00:01:34.360 --> 00:01:38.680 processes which brought about the deviation. 18 00:01:38.680 --> 00:01:44.120 Then the final rate of originary interest, determining the final market rate toward which 19 00:01:44.120 --> 00:01:51.360 the readjustment tends, is not the same rate which prevailed on the eve of the disarrangement. 20 00:01:51.360 --> 00:01:56.480 Such an occurrence may affect the data of the process of adjustment, but it does not 21 00:01:56.480 --> 00:01:59.340 affect its essence. 22 00:01:59.340 --> 00:02:02.380 The phenomenon to be dealt with is this. 23 00:02:02.380 --> 00:02:07.860 The rate of originary interest is determined by the discount of future goods as against 24 00:02:07.860 --> 00:02:09.700 present goods. 25 00:02:09.700 --> 00:02:15.580 It is essentially independent of the supply of money and money substitutes, notwithstanding 26 00:02:15.580 --> 00:02:42.720 In this section we are concerned only with inflation and credit expansion. 27 00:02:42.720 --> 00:02:47.660 For the sake of simplicity, we assume that the whole additional amount of money and money 28 00:02:47.660 --> 00:02:53.680 substitutes flows into the loan market and reaches the rest of the market only via the 29 00:02:53.680 --> 00:02:55.880 loans granted. 30 00:02:55.880 --> 00:03:02.040 This corresponds precisely to the conditions of an expansion of circulation credit. 31 00:03:02.040 --> 00:03:08.820 Our scrutiny thus amounts to an analysis of the process caused by credit expansion. 32 00:03:08.820 --> 00:03:14.260 In dealing with this analysis, we must refer again to the price premium. 33 00:03:14.260 --> 00:03:19.860 It has been mentioned already that at the very beginning of a credit expansion, no positive 34 00:03:19.860 --> 00:03:22.340 price premium arises. 35 00:03:22.340 --> 00:03:28.820 A price premium cannot appear until the additional supply of money, in the broader sense, has 36 00:03:28.820 --> 00:03:34.180 already begun to affect the prices of commodities and services. 37 00:03:34.180 --> 00:03:40.340 But as long as credit expansion goes on and additional quantities of fiduciary media are 38 00:03:40.340 --> 00:03:47.100 hurled on the loan market, there continues a pressure upon the gross market rate of interest. 39 00:03:47.100 --> 00:03:52.940 The gross market rate would have to rise on account of the positive price premium, which, 40 00:03:52.940 --> 00:03:58.940 with the progress of the expansionist process, would have to rise continually. 41 00:03:58.940 --> 00:04:05.240 But as credit expansion goes on, the gross market rate continues to lag behind the height 42 00:04:05.240 --> 00:04:12.580 at which it would cover both originary interest plus the positive price premium. 43 00:04:12.580 --> 00:04:18.100 It is necessary to stress this point because it explodes the customary methods according 44 00:04:18.100 --> 00:04:24.940 to which people distinguish between what they consider low and high rates of interest. 45 00:04:24.940 --> 00:04:31.060 It is usual to take into account merely the arithmetical height of the rates, or the trend 46 00:04:31.060 --> 00:04:33.940 which appears in their movement. 47 00:04:33.940 --> 00:04:41.420 Public opinion has definite ideas about a normal rate, something between 3 and 5 percent. 48 00:04:41.420 --> 00:04:47.060 When the market rate rises above this height, or when the market rates, without regard to 49 00:04:47.060 --> 00:04:52.940 their arithmetical ratio, are rising above their previous height, people believe that 50 00:04:52.940 --> 00:04:58.380 But they are right in speaking of high or rising interest rates. 51 00:04:58.380 --> 00:05:03.500 As against these errors, it is necessary to emphasize that under the conditions of a general 52 00:05:03.500 --> 00:05:10.100 rise in prices, drop in the monetary unit's purchasing power, the gross market rate of 53 00:05:10.100 --> 00:05:16.860 interest can be considered as unchanged with regard to conditions of a period of a by and 54 00:05:16.860 --> 00:05:23.780 and Large Unchanging Purchasing Power only if it includes a by and large adequate positive 55 00:05:23.780 --> 00:05:31.620 price premium. In this sense, the German Reichsbank's discount rate of 90% was, in 56 00:05:31.620 --> 00:05:40.260 the fall of 1923, a low rate. Indeed, a ridiculously low rate, as it considerably lagged behind 57 00:05:40.260 --> 00:05:45.620 the price premium and did not leave anything for the other components of the gross market 58 00:05:45.620 --> 00:05:52.500 Rate of Interest. Essentially, the same phenomenon manifests itself in every instance of a prolonged 59 00:05:52.500 --> 00:05:59.940 credit expansion. Gross market rates of interest rise in the further course of every expansion, 60 00:05:59.940 --> 00:06:06.220 but they are nonetheless low, as they do not correspond to the height required by the expected 61 00:06:06.220 --> 00:06:13.440 further general rise in prices. In analyzing the process of credit expansion, suppose we 62 00:06:13.440 --> 00:06:19.520 We assume that the economic system's process of adjustment to the market data and of movement 63 00:06:19.520 --> 00:06:25.320 toward the establishment of final prices and interest rates is disturbed by the appearance 64 00:06:25.320 --> 00:06:33.160 of a new datum, namely an additional quantity of fiduciary media offered on the loan market. 65 00:06:33.160 --> 00:06:38.400 At the gross market rate which prevailed on the eve of this disturbance, all those who 66 00:06:38.400 --> 00:06:48.400 Those who were ready to borrow money at this rate, due allowance being made for the entrepreneurial component of each instance, could borrow as much as they wanted. 67 00:06:48.400 --> 00:06:54.400 Additional loans can be placed only at a lower gross market rate. 68 00:06:54.400 --> 00:07:04.400 It does not matter whether this drop in the gross market rate expresses itself in an arithmetical drop in the percentage stipulated in the loan contracts. 69 00:07:04.400 --> 00:07:22.400 It could happen that the nominal interest rates remain unchanged and that the expansion manifests itself in the fact that at these rates, loans are negotiated which would not have been made before on account of the height of the entrepreneurial component included. 70 00:07:22.400 --> 00:07:30.400 Such an outcome, too, amounts to a drop in gross market rates and brings about the same consequences. 71 00:07:30.400 --> 00:07:37.140 A drop in the gross market rate of interest affects the entrepreneur's calculation concerning 72 00:07:37.140 --> 00:07:42.160 the chances of the profitability of projects considered. 73 00:07:42.160 --> 00:07:47.800 Along with the prices of the material factors of production, wage rates and the anticipated 74 00:07:47.800 --> 00:07:55.040 future prices of the products, interest rates are items that enter into the planning businessman's 75 00:07:55.040 --> 00:07:56.200 calculation. 76 00:07:56.200 --> 00:08:03.220 The result of this calculation shows the businessman whether or not a definite project will pay. 77 00:08:03.220 --> 00:08:08.960 It shows him what investments can be made under the given state of the ratio in the 78 00:08:08.960 --> 00:08:13.640 public's valuation of future goods as against present goods. 79 00:08:13.640 --> 00:08:18.260 It brings his actions into agreement with this valuation. 80 00:08:18.260 --> 00:08:23.840 It prevents him from embarking upon projects the realization of which would be disapproved 81 00:08:23.840 --> 00:08:28.840 by the public because of the length of the waiting time they require. 82 00:08:28.840 --> 00:08:34.760 It forces him to employ the available stock of capital goods in such a way as to satisfy 83 00:08:34.760 --> 00:08:39.520 best the most urgent wants of the consumers. 84 00:08:39.520 --> 00:08:45.380 But now the drop in interest rates falsifies the businessman's calculation. 85 00:08:45.380 --> 00:08:51.200 Although the amount of capital goods available did not increase, the calculation employs 86 00:08:51.200 --> 00:08:58.300 These figures which would be utilizable only if such an increase had taken place. 87 00:08:58.300 --> 00:09:02.540 The result of such calculations is therefore misleading. 88 00:09:02.540 --> 00:09:08.680 They make some projects appear profitable and realizable which a correct calculation 89 00:09:08.680 --> 00:09:17.240 based on an interest rate not manipulated by credit expansion would have shown as unrealizable. 90 00:09:17.240 --> 00:09:21.160 Entrepreneurs embark upon the execution of such projects. 91 00:09:21.160 --> 00:09:25.720 Business activities are stimulated. A boom begins. 92 00:09:25.720 --> 00:09:31.560 The additional demand on the part of the expanding entrepreneurs tends to raise the prices of 93 00:09:31.560 --> 00:09:38.120 producers' goods and wage rates. With the rise in wage rates, the prices of consumers' 94 00:09:38.120 --> 00:09:45.040 goods rise too. Besides, the entrepreneurs are contributing a share to the rise in the 95 00:09:45.040 --> 00:09:59.520 The general upswing in prices spreads optimism. 96 00:09:59.520 --> 00:10:04.960 If only the prices of producers' goods had risen and those of consumers' goods had not 97 00:10:04.960 --> 00:10:09.520 been affected, the entrepreneurs would have become embarrassed. 98 00:10:09.520 --> 00:10:15.000 They would have had doubts concerning the soundness of their plans as the rise in costs 99 00:10:15.000 --> 00:10:21.080 of Production would have upset their calculations. But they are reassured by the fact that the 100 00:10:21.080 --> 00:10:27.660 demand for consumers' goods is intensified and makes it possible to expand sales in spite 101 00:10:27.660 --> 00:10:34.440 of rising prices. Thus they are confident that production will pay, notwithstanding the 102 00:10:34.440 --> 00:10:40.020 higher costs it involves. They are resolved to go on. 103 00:10:40.020 --> 00:10:45.420 Of course, in order to continue production on the enlarged scale brought about by the 104 00:10:45.420 --> 00:10:52.160 expansion of credit, all entrepreneurs, those who did expand their activities no less than 105 00:10:52.160 --> 00:10:58.020 those who produce only within the limits in which they produced previously, need additional 106 00:10:58.020 --> 00:11:02.700 funds, as the costs of production are now higher. 107 00:11:02.700 --> 00:11:08.900 If the credit expansion consists merely in a single, not repeated, injection of a definite 108 00:11:08.900 --> 00:11:15.680 amount of fiduciary media into the loan market and then ceases altogether, the boom must 109 00:11:15.680 --> 00:11:22.460 very soon stop. The entrepreneurs cannot procure the funds they need for the further conduct 110 00:11:22.460 --> 00:11:28.640 of their ventures. The gross market rate of interest rises because the increased demand 111 00:11:28.640 --> 00:11:35.000 for loans is not counterpoised by a corresponding increase in the quantity of money available 112 00:11:35.000 --> 00:11:42.160 for Lending, Commodity Prices Drop because some entrepreneurs are selling inventories 113 00:11:42.160 --> 00:11:49.220 and others abstain from buying, the size of business activities shrinks again, the boom 114 00:11:49.220 --> 00:11:55.660 ends because the forces which brought it about are no longer in operation, the additional 115 00:11:55.660 --> 00:12:02.200 quantity of circulation credit has exhausted its operation upon prices and wage rates, 116 00:12:02.200 --> 00:12:09.700 Prices, wage rates and the various individual's cash holdings are adjusted to the new money relation. 117 00:12:09.700 --> 00:12:14.700 They move toward the final state which corresponds to this money relation, 118 00:12:14.700 --> 00:12:20.700 without being disturbed by further injections of additional fiduciary media. 119 00:12:20.700 --> 00:12:26.200 The rate of originary interest which is coordinated to this new structure of the market 120 00:12:26.200 --> 00:12:31.200 acts with full momentum upon the gross market rate of interest. 121 00:12:31.200 --> 00:12:38.240 The gross market rate is no longer subject to disturbing influences exercised by cash-induced 122 00:12:38.240 --> 00:12:43.400 changes in the supply of money in the broader sense. 123 00:12:43.400 --> 00:12:49.760 The main deficiency of all attempts to explain the boom, namely, the general tendency to 124 00:12:49.760 --> 00:12:56.540 expand production and of all prices to rise, without reference to changes in the supply 125 00:12:56.540 --> 00:13:02.420 Supply of Money or Fiduciary Media is to be seen in the fact that they disregard this 126 00:13:02.420 --> 00:13:03.420 circumstance. 127 00:13:03.420 --> 00:13:10.860 A general rise in prices can only occur if there is either a drop in the supply of all 128 00:13:10.860 --> 00:13:17.500 commodities or an increase in the supply of money in the broader sense. 129 00:13:17.500 --> 00:13:22.940 Let us, for the sake of argument, admit for the moment that the statements of these non-monetary 130 00:13:22.940 --> 00:13:34.940 The explanations of the boom and the trade cycle are correct. Prices advance and business activities expand, although no increase in the supply of money has occurred. 131 00:13:34.940 --> 00:13:49.940 Then, very soon, a tendency toward a drop in prices must arise, the demand for loans must increase, the gross market rates of interest must rise, and the short-lived boom comes to an end. 132 00:13:49.940 --> 00:13:59.460 In fact, every non-monetary trade cycle doctrine tacitly assumes, or ought logically to assume, 133 00:13:59.460 --> 00:14:04.700 that credit expansion is an attendant phenomenon of the boom. 134 00:14:04.700 --> 00:14:11.620 It cannot help admitting that in the absence of such a credit expansion no boom could emerge, 135 00:14:11.620 --> 00:14:17.320 and that the increase in the supply of money in the broader sense is a necessary condition 136 00:14:17.320 --> 00:14:21.240 of the General Upward Movement of Prices. 137 00:14:21.240 --> 00:14:26.680 Thus on close inspection the statements of the non-monetary explanations of cyclical 138 00:14:26.680 --> 00:14:33.480 fluctuations shrink to the assertion that credit expansion, while an indispensable requisite 139 00:14:33.480 --> 00:14:40.620 of the boom, is itself alone not sufficient to bring it about, and that some further conditions 140 00:14:40.620 --> 00:14:44.120 are required for its appearance. 141 00:14:44.120 --> 00:14:51.040 But even in this restricted sense, the teachings of the non-monetary doctrines are vain. 142 00:14:51.040 --> 00:14:58.040 It is evident that every expansion of credit must bring about the boom as described above. 143 00:14:58.040 --> 00:15:05.660 The boom-creating tendency of credit expansion can fail to come only if another factor simultaneously 144 00:15:05.660 --> 00:15:08.760 counterbalances its growth. 145 00:15:08.760 --> 00:15:14.040 If for instance, while the banks expand credit, it is expected that the government will 146 00:15:14.040 --> 00:15:20.200 will completely tax away the businessman's excess profits, or that it will stop the further 147 00:15:20.200 --> 00:15:27.340 progress of credit expansion as soon as pump priming will have resulted in rising prices. 148 00:15:27.340 --> 00:15:29.580 No boom can develop. 149 00:15:29.580 --> 00:15:35.160 The entrepreneurs will abstain from expanding their ventures with the aid of the cheap credits 150 00:15:35.160 --> 00:15:41.040 offered by the banks because they cannot expect to increase their gains. 151 00:15:41.040 --> 00:15:46.320 It is necessary to mention this fact because it explains the failure of the New Deal's 152 00:15:46.320 --> 00:15:51.040 pump priming measures and other events of the thirties. 153 00:15:51.040 --> 00:15:57.600 The boom can last only as long as the credit expansion progresses at an ever accelerated 154 00:15:57.600 --> 00:15:59.000 pace. 155 00:15:59.000 --> 00:16:05.120 The boom comes to an end as soon as additional quantities of fiduciary media are no longer 156 00:16:05.120 --> 00:16:07.720 thrown upon the loan market. 157 00:16:07.720 --> 00:16:15.240 But it could not last forever even if inflation and credit expansion were to go on endlessly. 158 00:16:15.240 --> 00:16:20.920 It would then encounter the barriers which prevent the boundless expansion of circulation 159 00:16:20.920 --> 00:16:21.920 credit. 160 00:16:21.920 --> 00:16:27.760 It would lead to the crack-up boom and the breakdown of the whole monetary system. 161 00:16:27.760 --> 00:16:34.320 The essence of monetary theory is the cognition that cash-induced changes in the money relation 162 00:16:34.320 --> 00:16:41.000 affect the various prices, wage rates and interest rates neither at the same time nor 163 00:16:41.000 --> 00:16:43.440 to the same extent. 164 00:16:43.440 --> 00:16:48.040 If this unevenness were absent, money would be neutral. 165 00:16:48.040 --> 00:16:53.280 Changes in the money relation would not affect the structure of business, the size and direction 166 00:16:53.280 --> 00:16:59.280 of production in the various branches of industry, consumption and the wealth and income of the 167 00:16:59.280 --> 00:17:02.640 various strata of the population. 168 00:17:02.640 --> 00:17:07.980 And the gross market rate of interest, too, would not be affected, either temporarily 169 00:17:07.980 --> 00:17:14.040 or lastingly, by changes in the sphere of money and circulation credit. 170 00:17:14.040 --> 00:17:20.000 The fact that such changes can modify the rate of originary interest is caused by the 171 00:17:20.000 --> 00:17:27.200 changes which this unevenness brings about in the wealth and income of various individuals. 172 00:17:27.200 --> 00:17:32.400 The fact that, apart from these changes in the rate of originary interest, the gross 173 00:17:32.400 --> 00:17:39.960 market rate is temporarily affected, is in itself a manifestation of this unevenness. 174 00:17:39.960 --> 00:17:45.200 If the additional quantity of money enters the economic system in such a way as to reach 175 00:17:45.200 --> 00:17:51.260 the loan market only at a date at which it has already made commodity prices and wage 176 00:17:51.260 --> 00:17:57.820 When wage rates rise, these immediate temporary effects upon the gross market rate of interest 177 00:17:57.820 --> 00:18:01.980 will be either slight or entirely absent. 178 00:18:01.980 --> 00:18:07.600 The gross market rate of interest is the more violently affected, the sooner the inflowing 179 00:18:07.600 --> 00:18:14.540 additional supply of money or fiduciary media reaches the loan market. 180 00:18:14.540 --> 00:18:20.340 When under the conditions of credit expansion, the whole amount of the additional money substitutes 181 00:18:20.340 --> 00:18:27.860 is led to businessmen, production is expanded. The entrepreneurs embark either upon lateral 182 00:18:27.860 --> 00:18:33.740 expansion of production, namely the expansion of production without lengthening the period 183 00:18:33.740 --> 00:18:40.780 of production in the individual industry, or upon longitudinal expansion, namely the 184 00:18:40.780 --> 00:18:47.220 lengthening of the period of production. In either case, the additional plants require 185 00:18:47.220 --> 00:18:51.300 are the investment of additional factors of production. 186 00:18:51.300 --> 00:18:56.700 But the amount of capital goods available for investment has not increased. 187 00:18:56.700 --> 00:19:02.980 Neither does credit expansion bring about a tendency toward a restriction of consumption. 188 00:19:02.980 --> 00:19:08.220 It is true, as has been pointed out above in dealing with forced saving, that in the 189 00:19:08.220 --> 00:19:14.300 further progress of the expansion a part of the population will be compelled to restrict 190 00:19:14.300 --> 00:19:16.220 its consumption. 191 00:19:16.220 --> 00:19:21.800 But it depends on the particular conditions of each instance of credit expansion whether 192 00:19:21.800 --> 00:19:28.580 this forced saving of some groups of the people will overcompensate the increase in consumption 193 00:19:28.580 --> 00:19:34.300 on the part of other groups, and will thus result in a net increase in the total amount 194 00:19:34.300 --> 00:19:37.820 of saving in the whole market system. 195 00:19:37.820 --> 00:19:43.500 At any rate, the immediate consequence of credit expansion is a rise in consumption 196 00:19:43.500 --> 00:19:49.620 on the part of those wage earners whose wages have risen on account of the intensified demand 197 00:19:49.620 --> 00:19:54.660 for labor displayed by the expanding entrepreneurs. 198 00:19:54.660 --> 00:20:00.540 Let us for the sake of argument assume that the increased consumption of these wage earners 199 00:20:00.540 --> 00:20:06.580 favored by the inflation and the forced saving of other groups prejudiced by the inflation 200 00:20:06.580 --> 00:20:13.900 are equal in amount, and that no change in the total amount of consumption has occurred. 201 00:20:13.900 --> 00:20:16.780 Then the situation is this. 202 00:20:16.780 --> 00:20:22.440 Production has been altered in such a way that the length of waiting time has been extended, 203 00:20:22.440 --> 00:20:28.260 but the demand for consumers' goods has not dropped so as to make the available supply 204 00:20:28.260 --> 00:20:30.940 last for a longer period. 205 00:20:30.940 --> 00:20:36.780 Of course, this fact results in a rise in the prices of consumers' goods and thus brings 206 00:20:36.780 --> 00:20:40.020 about the tendency toward forced saving. 207 00:20:40.020 --> 00:20:46.940 However, this rise in the prices of consumers' goods strengthens the tendency of business 208 00:20:46.940 --> 00:20:49.280 to expand. 209 00:20:49.280 --> 00:20:55.020 The entrepreneurs draw from the fact that demand and prices are rising the inference 210 00:20:55.020 --> 00:20:59.080 that it will pay to invest and to produce more. 211 00:20:59.080 --> 00:21:05.140 They go on, and their intensified activities bring about a further rise in the prices of 212 00:21:05.140 --> 00:21:12.680 producers' goods, in wage rates, and thereby again in the prices of consumers' goods. 213 00:21:12.680 --> 00:21:19.180 Business booms, as long as the banks are willing to expand credit more and more. 214 00:21:19.180 --> 00:21:25.620 On the eve of the credit expansion, all those production processes were in operation, which, 215 00:21:25.620 --> 00:21:30.140 Under the given state of the market data were deemed profitable. 216 00:21:30.140 --> 00:21:36.620 The system was moving toward a state in which all those eager to earn wages would be employed 217 00:21:36.620 --> 00:21:42.780 and all non-convertible factors of production would be employed to the extent that the demand 218 00:21:42.780 --> 00:21:49.500 of the consumers and the available supply of non-specific material factors and of labor 219 00:21:49.500 --> 00:21:51.340 would permit. 220 00:21:51.340 --> 00:21:58.060 A further expansion of production is possible only if the amount of capital goods is increased 221 00:21:58.060 --> 00:22:05.220 by additional saving, that is, by surpluses produced and not consumed. 222 00:22:05.220 --> 00:22:11.260 The characteristic mark of the credit expansion boom is that such additional capital goods 223 00:22:11.260 --> 00:22:13.860 have not been made available. 224 00:22:13.860 --> 00:22:20.020 The capital goods required for the expansion of business activities must be withdrawn from 225 00:22:20.020 --> 00:22:22.900 Other Lines of Production 226 00:22:22.900 --> 00:22:30.780 We may call P the total supply of capital goods available on the eve of the credit expansion, 227 00:22:30.780 --> 00:22:37.660 and G the total amount of consumers' goods which these P could, over a definite period 228 00:22:37.660 --> 00:22:44.680 of time, make available for consumption without prejudice to further production. 229 00:22:44.680 --> 00:22:51.160 Now the entrepreneurs enticed by credit expansion embark upon the production of an additional 230 00:22:51.160 --> 00:22:59.400 quantity of G3 of goods of the same kind which they already used to produce, and of a quantity 231 00:22:59.400 --> 00:23:05.680 of G4 of goods of a kind not produced by them before. 232 00:23:05.680 --> 00:23:13.680 For the production of G3 a supply of P3 of capital goods is needed, and for the production 233 00:23:13.680 --> 00:23:17.920 Expansion of G4, a Supply of P4. 234 00:23:17.920 --> 00:23:25.320 But as according to our assumptions the amount of capital goods available has remained unaltered, 235 00:23:25.320 --> 00:23:30.320 the quantities P3 and P4 are lacking. 236 00:23:30.320 --> 00:23:37.560 It is precisely this fact that distinguishes the artificial boom created by credit expansion 237 00:23:37.560 --> 00:23:46.240 from a normal expansion of production, which only the addition of P3 and P4 to P can bring 238 00:23:46.240 --> 00:23:48.000 about. 239 00:23:48.000 --> 00:23:54.320 Let us call R that amount of capital goods which, out of the gross proceeds of production 240 00:23:54.320 --> 00:24:01.680 over a definite period of time, must be reinvested for the replacement of those parts of P used 241 00:24:01.680 --> 00:24:04.720 up in the process of production. 242 00:24:04.720 --> 00:24:10.920 If R is employed for such replacement, one will be in a position to turn out G again 243 00:24:10.920 --> 00:24:18.200 in the following period of time. If R is withheld from this employment, P will be reduced by 244 00:24:18.200 --> 00:24:27.440 R, and P minus R will turn out in the following period of time only G minus A. 245 00:24:27.440 --> 00:24:33.800 We may further assume that the economic system affected by credit expansion is a progressing 246 00:24:33.800 --> 00:24:34.800 System. 247 00:24:34.800 --> 00:24:40.800 It produced, normally, as it were, in the period of time preceding the credit expansion, 248 00:24:40.800 --> 00:24:46.120 a surplus of capital goods, P1 plus P2. 249 00:24:46.120 --> 00:24:51.640 If no credit expansion had intervened, P1 would have been employed for the production 250 00:24:51.640 --> 00:24:58.760 of an additional quantity of G1 of the kind of goods produced previously, and P2 for the 251 00:24:58.760 --> 00:25:05.120 The Production of the Supply G2 of a Kind of Goods Not Produced Before 252 00:25:05.120 --> 00:25:10.960 The total amount of capital goods which are at the entrepreneur's disposal and with regard 253 00:25:10.960 --> 00:25:17.440 to which they are free to make plans is R plus P1 plus P2. 254 00:25:17.440 --> 00:25:27.200 However, deluded by the cheap money, they act as if R plus P1 plus P2 plus P3 plus P4 were 255 00:25:27.200 --> 00:25:35.360 are available, and as if they were in a position to produce not only G plus G1 plus G2, but 256 00:25:35.360 --> 00:25:40.040 beyond this also G3 plus G4. 257 00:25:40.040 --> 00:25:46.000 They outbid one another in competing for a share of a supply of capital goods which is 258 00:25:46.000 --> 00:25:51.440 insufficient for the realization of their over-ambitious plans. 259 00:25:51.440 --> 00:25:57.600 The ensuing boom in the prices of producers' goods may at the beginning outrun the rise 260 00:25:57.600 --> 00:26:00.600 in the prices of consumers' goods. 261 00:26:00.600 --> 00:26:06.720 It may thus bring about a tendency toward a fall in the originary rate of interest. 262 00:26:06.720 --> 00:26:12.560 But with the further progress of the expansionist movement, the rise in the prices of the consumers' 263 00:26:12.560 --> 00:26:17.960 goods will outstrip the rise in the prices of producers' goods. 264 00:26:17.960 --> 00:26:23.960 The rise in wages and salaries and the additional gains of the capitalists, entrepreneurs and 265 00:26:23.960 --> 00:26:29.840 farmers, although a great part of them is merely apparent, intensify the demand for 266 00:26:29.840 --> 00:26:32.080 consumers' goods. 267 00:26:32.080 --> 00:26:36.760 There is no need to enter into a scrutiny of the assertion of the advocates of credit 268 00:26:36.760 --> 00:26:44.040 expansion that the boom can, by means of forced saving, really increase the total supply of 269 00:26:44.040 --> 00:26:46.200 consumers' goods. 270 00:26:46.200 --> 00:26:59.200 At any rate, it is certain that the intensified demand for consumers' goods affects the market at a time when the additional investments are not yet in a position to turn out their products. 271 00:26:59.200 --> 00:27:06.200 The gulf between the prices of present goods and those of future goods widens again. 272 00:27:06.200 --> 00:27:18.200 A tendency toward a rise in the rate of originary interest is substituted for the tendency toward the opposite, which may have come into operation at the earlier stages of the expansion. 273 00:27:19.200 --> 00:27:29.200 This tendency toward a rise in the rate of originary interest and the emergence of a positive price premium explains some characteristics of the boom. 274 00:27:29.200 --> 00:27:35.680 Home. The banks are faced with an increased demand for loans and advances on the part 275 00:27:35.680 --> 00:27:42.680 of business. The entrepreneurs are prepared to borrow money at higher gross rates of interest. 276 00:27:42.680 --> 00:27:49.840 They go on borrowing in spite of the fact that the banks charge more interest. Arithmeticly, 277 00:27:49.840 --> 00:27:55.600 the gross rates of interest are rising above their height on the eve of the expansion. 278 00:27:55.600 --> 00:28:06.600 Nonetheless, they lag catallactically behind the height at which they would cover originary interest plus entrepreneurial component and price premium. 279 00:28:06.600 --> 00:28:15.600 The banks believe that they have done all that is needed to stop unsound speculation when they lend on more onerous terms. 280 00:28:15.600 --> 00:28:22.600 They think that those critics who blame them for fanning the flames of the boom frenzy of the market are wrong. 281 00:28:22.600 --> 00:28:29.840 are wrong. They fail to see that in injecting more and more fiduciary media into the market, 282 00:28:29.840 --> 00:28:36.280 they are in fact kindling the boom. It is the continuous increase in the supply of the 283 00:28:36.280 --> 00:28:43.900 fiduciary media that produces, feeds and accelerates the boom. The state of the gross market rates 284 00:28:43.900 --> 00:28:50.400 of interest is only an outgrowth of this increase. If one wants to know whether or not there 285 00:28:50.400 --> 00:28:56.480 There is credit expansion, one must look at the state of the supply of fiduciary media, 286 00:28:56.480 --> 00:29:00.560 not at the arithmetical state of interest rates. 287 00:29:00.560 --> 00:29:08.200 It is customary to describe the boom as over-investment, however additional investment is only possible 288 00:29:08.200 --> 00:29:14.240 to the extent that there is an additional supply of capital goods available. 289 00:29:14.240 --> 00:29:20.240 As apart from forced saving, the boom itself does not result in a restriction but rather 290 00:29:20.240 --> 00:29:23.080 are in an increase in consumption. 291 00:29:23.080 --> 00:29:27.900 It does not procure more capital goods for new investment. 292 00:29:27.900 --> 00:29:34.440 The essence of the credit expansion boom is not over-investment, but investment in wrong 293 00:29:34.440 --> 00:29:38.160 lines, that is, malinvestment. 294 00:29:38.160 --> 00:29:45.680 The entrepreneurs employ the available supply of R plus P1 plus P2 as if they were in a 295 00:29:45.680 --> 00:29:55.180 A position to employ a supply of R plus P1 plus P2 plus P3 plus P4. They embark upon 296 00:29:55.180 --> 00:30:02.280 an expansion of investment on a scale for which the capital goods available do not suffice. 297 00:30:02.280 --> 00:30:08.780 Their projects are unrealizable on account of the insufficient supply of capital goods. 298 00:30:08.780 --> 00:30:15.560 They must fail sooner or later. The unavoidable end of the credit expansion makes the 299 00:30:15.560 --> 00:30:21.620 defaults committed visible. There are plants which cannot be utilized, because the plants 300 00:30:21.620 --> 00:30:27.680 needed for the production of the complementary factors of production are lacking. Plants 301 00:30:27.680 --> 00:30:33.780 the products of which cannot be sold, because the consumers are more intent upon purchasing 302 00:30:33.780 --> 00:30:40.640 other goods, which, however, are not produced in sufficient quantities. Plants the construction 303 00:30:40.640 --> 00:30:46.060 One of which cannot be continued and finished because it has become obvious that they will 304 00:30:46.060 --> 00:30:47.840 not pay. 305 00:30:47.840 --> 00:30:54.960 The erroneous belief that the essential feature of the boom is over-investment and not malinvestment 306 00:30:54.960 --> 00:31:00.640 is due to the habit of judging conditions merely according to what is perceptible and 307 00:31:00.640 --> 00:31:02.200 tangible. 308 00:31:02.200 --> 00:31:08.320 The observer notices only the malinvestments which are visible and fails to recognize that 309 00:31:08.320 --> 00:31:14.720 But these establishments are malinvestments only because of the fact that other plants, 310 00:31:14.720 --> 00:31:20.560 those required for the production of the complementary factors of production, and those required 311 00:31:20.560 --> 00:31:28.200 for the production of consumers' goods more urgently demanded by the public, are lacking. 312 00:31:28.200 --> 00:31:33.680 Technological conditions make it necessary to start an expansion of production by expanding 313 00:31:33.680 --> 00:31:39.800 First, the size of the plants producing the goods of those orders which are farthest removed 314 00:31:39.800 --> 00:31:42.800 from the finished consumer's goods. 315 00:31:42.800 --> 00:31:49.420 In order to expand the production of shoes, clothes, motor cars, furniture, houses, one 316 00:31:49.420 --> 00:31:56.880 must begin with increasing the production of iron, steel, copper and other such goods. 317 00:31:56.880 --> 00:32:03.680 In employing the supply of R plus P1 plus P2, which would suffice for the production 318 00:32:03.680 --> 00:32:14.480 of A plus G1 plus G2, as if it were R plus P1 plus P2 plus P3 plus P4, and would suffice 319 00:32:14.480 --> 00:32:24.080 for the production of A plus G1 plus G2 plus G3 plus G4, one must first engage in increasing 320 00:32:24.080 --> 00:32:29.140 Building the output of those products and structures which for physical reasons are 321 00:32:29.140 --> 00:32:31.240 first required. 322 00:32:31.240 --> 00:32:37.120 The whole entrepreneurial class is, as it were, in the position of a master builder 323 00:32:37.120 --> 00:32:43.600 whose task it is to erect a building out of a limited supply of building materials. 324 00:32:43.600 --> 00:32:49.520 If this man overestimates the quantity of the available supply, he drafts a plan for 325 00:32:49.520 --> 00:32:55.020 for the execution of which the means at his disposal are not sufficient. 326 00:32:55.020 --> 00:33:01.520 He oversizes the groundwork and the foundations, and only discovers later in the progress of 327 00:33:01.520 --> 00:33:07.280 the construction that he lacks the material needed for the completion of the structure. 328 00:33:07.280 --> 00:33:13.480 It is obvious that our master builder's fault was not over-investment, but an inappropriate 329 00:33:13.480 --> 00:33:17.380 employment of the means at his disposal. 330 00:33:17.380 --> 00:33:22.540 It is no less erroneous to believe that the events which resulted in the crisis amounted 331 00:33:22.540 --> 00:33:28.900 to an undue conversion of circulating capital into fixed capital. 332 00:33:28.900 --> 00:33:34.900 The individual entrepreneur, when faced with the credit stringency of the crisis, is right 333 00:33:34.900 --> 00:33:40.300 in regretting that he has expended too much for an expansion of his plant and for the 334 00:33:40.300 --> 00:33:42.800 purchase of durable equipment. 335 00:33:42.800 --> 00:33:47.600 He would have been in a better situation if the funds used for these purposes were still 336 00:33:47.600 --> 00:33:51.640 at his disposal for the current conduct of business. 337 00:33:51.640 --> 00:33:58.640 However, raw materials, primary commodities, half-finished manufacturers and foodstuffs 338 00:33:58.640 --> 00:34:04.780 are not lacking at the turning point at which the upswing turns into the depression. 339 00:34:04.780 --> 00:34:11.460 On the contrary, the crisis is precisely characterized by the fact that these goods are offered in 340 00:34:11.460 --> 00:34:16.440 in such quantities as to make their prices drop sharply. 341 00:34:16.440 --> 00:34:22.500 The foregoing statements explain why an expansion in the production facilities and the production 342 00:34:22.500 --> 00:34:28.960 of the heavy industries and in the production of durable producers' goods is the most conspicuous 343 00:34:28.960 --> 00:34:31.320 mark of the boom. 344 00:34:31.320 --> 00:34:36.000 The editors of the Financial and Commercial Chronicles were right when, for more than 345 00:34:36.000 --> 00:34:41.920 In 100 years, they looked upon production figures of these industries as well as of 346 00:34:41.920 --> 00:34:46.640 the construction trades as an index of business fluctuations. 347 00:34:46.640 --> 00:34:52.400 They were only mistaken in referring to an alleged overinvestment. 348 00:34:52.400 --> 00:34:57.340 Of course, the boom affects also the consumers' goods industries. 349 00:34:57.340 --> 00:35:02.000 They too invest more and expand their production capacity. 350 00:35:02.000 --> 00:35:08.440 However, the new plants and the new annexes added to the already existing plants are not 351 00:35:08.440 --> 00:35:14.600 always those for the products of which the demand of the public is most intense. 352 00:35:14.600 --> 00:35:20.920 They may well have agreed with the whole plan aiming at the production of R plus G1 plus 353 00:35:20.920 --> 00:35:25.200 G2 plus G3 plus G4. 354 00:35:25.200 --> 00:35:31.200 The failure of this oversized plan discloses their inappropriateness. 355 00:35:31.200 --> 00:35:37.820 A sharp rise in commodity prices is not always an attending phenomenon of the boom. 356 00:35:37.820 --> 00:35:43.800 The increase of the quantity of fiduciary media certainly always has the potential effect 357 00:35:43.800 --> 00:35:46.400 of making prices rise. 358 00:35:46.400 --> 00:35:52.200 But it may happen that at the same time forces operating in the opposite direction are strong 359 00:35:52.200 --> 00:35:59.220 enough to keep the rise in prices within narrow limits, or even to remove it entirely. 360 00:35:59.220 --> 00:36:04.760 The historical period in which the smooth working of the market economy was again and 361 00:36:04.760 --> 00:36:12.560 again interrupted through expansionist ventures was an epoch of continuous economic progress. 362 00:36:12.560 --> 00:36:18.100 The steady advance in the accumulation of new capital made technological improvement 363 00:36:18.100 --> 00:36:20.020 possible. 364 00:36:20.020 --> 00:36:25.020 Output per unit of input was increased, and business filled the markets with increasing 365 00:36:25.020 --> 00:36:27.860 quantities of cheap goods. 366 00:36:27.860 --> 00:36:33.700 If the synchronous increase in the supply of money in the broader sense had been less plentiful 367 00:36:33.700 --> 00:36:39.780 than it really was, a tendency toward a drop in the prices of all commodities would have 368 00:36:39.780 --> 00:36:41.780 taken effect. 369 00:36:41.780 --> 00:36:48.460 As an actual historical event, credit expansion was always embedded in an environment in which 370 00:36:48.460 --> 00:36:54.140 powerful factors were counteracting its tendency to raise prices. 371 00:36:54.140 --> 00:37:00.360 As a rule, the resultant of the clash of opposite forces was a preponderance of those producing 372 00:37:00.360 --> 00:37:02.500 a rise in prices. 373 00:37:02.500 --> 00:37:07.740 But there were some exceptional instances, too, in which the upward movement of prices 374 00:37:07.740 --> 00:37:09.800 was only slight. 375 00:37:09.800 --> 00:37:17.620 The most remarkable example was provided by the American boom of 1926 to 1929. 376 00:37:17.620 --> 00:37:23.580 The essential features of a credit expansion are not affected by such a particular constellation 377 00:37:23.580 --> 00:37:25.860 of the Market Data. 378 00:37:25.860 --> 00:37:32.220 What induces an entrepreneur to embark upon definite projects is neither high prices nor 379 00:37:32.220 --> 00:37:39.540 low prices as such, but a discrepancy between the costs of production inclusive of interest 380 00:37:39.540 --> 00:37:45.220 on the capital required and the anticipated prices of the products. 381 00:37:45.220 --> 00:37:51.180 A lowering of the gross market rate of interest as brought about by credit expansion always 382 00:37:51.180 --> 00:37:56.740 Mises has the effect of making some projects appear profitable, which did not appear so 383 00:37:56.740 --> 00:38:07.140 before. It actuates business to employ R plus P1 plus P2 as if it were R plus P1 plus P2 384 00:38:07.140 --> 00:38:15.460 plus P3 plus P4. It necessarily brings about a structure of investment and production activities 385 00:38:15.460 --> 00:38:22.940 which is at variance with the real supply of capital goods, and must finally collapse. 386 00:38:22.940 --> 00:38:28.140 That sometimes the price changes involved are laid against a background of a general 387 00:38:28.140 --> 00:38:33.940 tendency toward a rise in purchasing power, and do not convert this tendency into its 388 00:38:33.940 --> 00:38:41.380 manifest opposite, but only into something which may, by and large, be called price stability, 389 00:38:41.380 --> 00:38:46.020 modifies merely some accessories of the process. 390 00:38:46.020 --> 00:38:52.220 However conditions may be, it is certain that no manipulations of the banks can provide 391 00:38:52.220 --> 00:38:55.820 the economic system with capital goods. 392 00:38:55.820 --> 00:39:02.380 What is needed for a sound expansion of production is additional capital goods, not money or 393 00:39:02.380 --> 00:39:04.560 fiduciary media. 394 00:39:04.560 --> 00:39:09.200 The boom is built on the sands of banknotes and deposits. 395 00:39:09.200 --> 00:39:11.920 Must Collapse. 396 00:39:11.920 --> 00:39:17.040 The breakdown appears as soon as the banks become frightened by the accelerated pace of 397 00:39:17.040 --> 00:39:22.120 the boom and begin to abstain from further expansion of credit. 398 00:39:22.120 --> 00:39:28.280 The boom could continue only as long as the banks were ready to grant freely all those 399 00:39:28.280 --> 00:39:34.940 credits which business needed for the execution of its excessive projects, utterly disagreeing 400 00:39:34.940 --> 00:39:42.260 with the Real State of the Supply of Factors of Production and the Valuations of the Consumers. 401 00:39:42.260 --> 00:39:48.740 These illusory plans, suggested by the falsification of business calculation as brought about by 402 00:39:48.740 --> 00:39:55.420 the cheap money policy, can be pushed forward only if new credits can be obtained at gross 403 00:39:55.420 --> 00:40:01.340 market rates which are artificially lowered below the height they would reach at an unhampered 404 00:40:01.340 --> 00:40:08.980 Loan Market. It is this margin that gives them the deceptive appearance of profitability. 405 00:40:08.980 --> 00:40:14.820 The change in the bank's conduct does not create the crisis. It merely makes visible 406 00:40:14.820 --> 00:40:21.460 the havoc spread by the faults which business has committed in the boom period. 407 00:40:21.460 --> 00:40:27.100 Neither could the boom last endlessly if the banks were to cling stubbornly to their expansionist 408 00:40:27.100 --> 00:40:28.900 policies. 409 00:40:28.900 --> 00:40:35.860 Any attempt to substitute additional fiduciary media for non-existing capital goods, namely 410 00:40:35.860 --> 00:40:41.780 the quantities P3 and P4, is doomed to failure. 411 00:40:41.780 --> 00:40:47.920 If the credit expansion is not stopped in time, the boom turns into the crack-up boom, 412 00:40:47.920 --> 00:40:53.500 the flight into real values begins, and the whole monetary system founders. 413 00:40:53.500 --> 00:40:59.500 However, as a rule, the banks in the past have not pushed things to extremes. 414 00:40:59.500 --> 00:41:05.500 They have become alarmed at a date when the final catastrophe was still far away. 415 00:41:05.500 --> 00:41:11.500 One should not fall prey to the illusion that these changes in the credit policies of the banks 416 00:41:11.500 --> 00:41:20.500 were caused by the bankers and the monetary authorities' insight into the unavoidable consequences of a continued credit expansion. 417 00:41:20.500 --> 00:41:28.500 What induced the turn in the bank's conduct was certain institutional conditions to be dealt with further below. 418 00:41:28.500 --> 00:41:33.500 Among the champions of economics, some private bankers were prominent. 419 00:41:33.500 --> 00:41:39.500 In particular, the elaboration of the early form of the theory of business fluctuations, 420 00:41:39.500 --> 00:41:44.500 the currency theory, was for the most part an achievement of British bankers. 421 00:41:44.500 --> 00:42:02.500 But the management of central banks and the conduct of the various government's monetary policies was, as a rule, entrusted to men who did not find any fault with boundless credit expansion and took offense at every criticism of their expansionist ventures. 422 00:42:02.500 --> 00:42:11.500 As soon as the afflux of additional fiduciary media comes to an end, the airy castle of the boom collapses. 423 00:42:11.500 --> 00:42:18.660 The entrepreneurs must restrict their activities because they lack the funds for their continuation 424 00:42:18.660 --> 00:42:21.420 on the exaggerated scale. 425 00:42:21.420 --> 00:42:28.100 Prices drop suddenly because these distressed firms try to obtain cash by throwing inventories 426 00:42:28.100 --> 00:42:31.180 on the market dirt cheap. 427 00:42:31.180 --> 00:42:32.460 Factories are closed. 428 00:42:32.460 --> 00:42:37.500 The continuation of construction projects in progress is halted. 429 00:42:37.500 --> 00:42:39.740 Workers are discharged. 430 00:42:39.740 --> 00:42:45.500 Because on the one hand, many firms badly need money in order to avoid bankruptcy, and 431 00:42:45.500 --> 00:42:51.620 on the other hand, no firm any longer enjoys confidence, the entrepreneurial component 432 00:42:51.620 --> 00:42:57.740 in the gross market rate of interest jumps to an excessive height. 433 00:42:57.740 --> 00:43:02.820 Accidental institutional and psychological circumstances generally turn the outbreak 434 00:43:02.820 --> 00:43:05.760 of the crisis into a panic. 435 00:43:05.760 --> 00:43:11.360 The description of these awful events can be left to the historians. It is not the task 436 00:43:11.360 --> 00:43:17.880 of catalactic theory to depict in detail the calamities of panicky days and weeks and to 437 00:43:17.880 --> 00:43:25.120 dwell upon their sometimes grotesque aspects. Economics is not interested in what is accidental 438 00:43:25.120 --> 00:43:31.800 and conditioned by the individual historical circumstances of each instance. Its aim is, 439 00:43:31.800 --> 00:43:38.400 from the contrary to distinguish what is essential and apodictically necessary from what is merely 440 00:43:38.400 --> 00:43:40.120 adventitious. 441 00:43:40.120 --> 00:43:45.320 It is not interested in the psychological aspects of the panic, but only in the fact 442 00:43:45.320 --> 00:43:52.720 that a credit expansion boom must unavoidably lead to a process which everyday speech calls 443 00:43:52.720 --> 00:43:54.660 the depression. 444 00:43:54.660 --> 00:44:00.680 It must realize that the depression is in fact the process of readjustment, of putting 445 00:44:00.680 --> 00:44:06.680 Making production activities anew in agreement with the given state of the market data, the 446 00:44:06.680 --> 00:44:13.320 available supply of factors of production, the valuations of the consumers, and particularly 447 00:44:13.320 --> 00:44:20.480 also the state of originary interest as manifested in the public's valuations. 448 00:44:20.480 --> 00:44:25.600 These data, however, are no longer identical with those that prevailed on the eve of the 449 00:44:25.600 --> 00:44:27.840 expansionist process. 450 00:44:27.840 --> 00:44:35.400 A good many things have changed. Forced saving and, to an even greater extent, regular voluntary 451 00:44:35.400 --> 00:44:41.080 saving may have provided new capital goods which were not totally squandered through 452 00:44:41.080 --> 00:44:48.000 malinvestment and overconsumption as induced by the boom. Changes in the wealth and income 453 00:44:48.000 --> 00:44:53.440 of various individuals and groups of individuals have been brought about by the unevenness 454 00:44:53.440 --> 00:44:57.440 is inherent in every inflationary movement. 455 00:44:57.440 --> 00:45:02.880 Apart from any causal relation to the credit expansion, population may have changed with 456 00:45:02.880 --> 00:45:09.320 regard to figures and the characteristics of the individuals comprising them. 457 00:45:09.320 --> 00:45:14.920 Technological knowledge may have advanced, demand for certain goods may have been altered. 458 00:45:14.920 --> 00:45:20.680 The final state to the establishment of which the market tends is no longer the same toward 459 00:45:20.680 --> 00:45:26.720 which it tended before the disturbances created by the credit expansion. 460 00:45:26.720 --> 00:45:32.080 Some of the investments made in the boom period appear, when appraised with the sober judgment 461 00:45:32.080 --> 00:45:38.420 of the readjustment period, no longer dimmed by the illusions of the upswing as absolutely 462 00:45:38.420 --> 00:45:40.560 hopeless failures. 463 00:45:40.560 --> 00:45:46.880 They must simply be abandoned, because the current means required for their further exploitation 464 00:45:46.880 --> 00:45:50.660 cannot be recovered in selling their products. 465 00:45:50.660 --> 00:45:57.060 This circulating capital is more urgently needed in other branches of want satisfaction. 466 00:45:57.060 --> 00:46:03.220 The proof is that it can be employed in a more profitable way in other fields. 467 00:46:03.220 --> 00:46:07.700 Other malinvestments offer somewhat more favorable chances. 468 00:46:07.700 --> 00:46:12.940 It is, of course, true that one would not have embarked upon putting capital goods into 469 00:46:12.940 --> 00:46:16.400 them if one had correctly calculated. 470 00:46:16.400 --> 00:46:21.960 The inconvertible investments made on their behalf are certainly wasted. 471 00:46:21.960 --> 00:46:29.680 But as they are inconvertible, a fait accompli, they present further action with a new problem. 472 00:46:29.680 --> 00:46:35.480 If the proceeds which the sale of their products promises are expected to exceed the costs 473 00:46:35.480 --> 00:46:40.480 of current operation, it is profitable to carry on. 474 00:46:40.480 --> 00:46:45.320 Although the prices which the buying public is prepared to allow for their products are 475 00:46:45.320 --> 00:46:50.560 are not high enough to make the whole of the inconvertible investment profitable, they 476 00:46:50.560 --> 00:46:56.840 are sufficient to make a fraction, however small, of the investment profitable. 477 00:46:56.840 --> 00:47:02.960 The rest of the investment must be considered as expenditure without any offset, as capital 478 00:47:02.960 --> 00:47:06.020 squandered and lost. 479 00:47:06.020 --> 00:47:10.740 If one looks at this outcome from the point of view of the consumers, the result is, of 480 00:47:10.740 --> 00:47:13.000 course, the same. 481 00:47:13.000 --> 00:47:20.520 The consumers would be better off if the illusions created by the easy money policy had not enticed 482 00:47:20.520 --> 00:47:27.320 the entrepreneurs to waste scarce capital goods by investing them for the satisfaction 483 00:47:27.320 --> 00:47:33.320 of less urgent needs and withholding them from lines of production in which they would 484 00:47:33.320 --> 00:47:37.520 have satisfied more urgent needs. 485 00:47:37.520 --> 00:47:42.760 But as things are now, they cannot but put up with what is irrevocable. 486 00:47:42.760 --> 00:47:48.240 They must, for the time being, renounce certain amenities which they could have enjoyed if 487 00:47:48.240 --> 00:47:50.840 the boom had not engendered malinvestment. 488 00:47:50.840 --> 00:47:57.960 But, on the other hand, they can find partial compensation in the fact that some enjoyments 489 00:47:57.960 --> 00:48:03.120 are now available to them which would have been beyond their reach if the smooth course 490 00:48:03.120 --> 00:48:09.100 of economic activities had not been disturbed by the orgies of the boom. 491 00:48:09.100 --> 00:48:15.360 It is slight compensation only, as their demand for those other things which they do not get 492 00:48:15.360 --> 00:48:21.180 because of inappropriate employment of capital goods is more intense than their demand for 493 00:48:21.180 --> 00:48:24.340 these substitutes, as it were. 494 00:48:24.340 --> 00:48:30.460 But it is the only choice left to them as conditions and data are now. 495 00:48:30.460 --> 00:48:36.020 The final outcome of the credit expansion is general impoverishment. 496 00:48:36.020 --> 00:48:38.800 Some people may have increased their wealth. 497 00:48:38.800 --> 00:48:44.220 They did not let their reasoning be obfuscated by the mass hysteria and took advantage in 498 00:48:44.220 --> 00:48:50.060 time of the opportunities offered by the mobility of the individual investor. 499 00:48:50.060 --> 00:48:55.200 Other individuals and groups of individuals may have been favored, without any initiative 500 00:48:55.200 --> 00:49:01.220 of their own, by the mere time lag between the rise in the prices of the goods they sell 501 00:49:01.220 --> 00:49:03.440 and those they buy. 502 00:49:03.440 --> 00:49:09.060 But the immense majority must foot the bill for the malinvestments and the overconsumption 503 00:49:09.060 --> 00:49:11.680 of the Boehm episode. 504 00:49:11.680 --> 00:49:17.800 One must guard oneself against a misinterpretation of this term, impoverishment. 505 00:49:17.800 --> 00:49:22.680 It does not mean impoverishment when compared with the conditions that prevailed on the 506 00:49:22.680 --> 00:49:25.440 eve of the credit expansion. 507 00:49:25.440 --> 00:49:30.900 Whether or not an impoverishment in this sense takes place depends on the particular data 508 00:49:30.900 --> 00:49:32.860 of each case. 509 00:49:32.860 --> 00:49:37.540 It cannot be predicated apodictically by catallactics. 510 00:49:37.540 --> 00:49:43.200 What catallactics has in mind when asserting that impoverishment is an unavoidable outgrowth 511 00:49:43.200 --> 00:49:49.440 of credit expansion is impoverishment as compared with the state of affairs which would have 512 00:49:49.440 --> 00:49:54.620 developed in the absence of credit expansion and the boom. 513 00:49:54.620 --> 00:50:01.560 The characteristic mark of economic history under capitalism is unceasing economic progress, 514 00:50:01.560 --> 00:50:07.700 A steady increase in the quantity of capital goods available and a continuous trend toward 515 00:50:07.700 --> 00:50:11.220 an improvement in the general standard of living. 516 00:50:11.220 --> 00:50:17.040 The pace of this progress is so rapid that in the course of a boom period it may well 517 00:50:17.040 --> 00:50:23.400 outstrip the synchronous losses caused by malinvestment and overconsumption. 518 00:50:23.400 --> 00:50:28.840 Then the economic system as a whole is more prosperous at the end of the boom than it 519 00:50:28.840 --> 00:50:31.320 was at its very beginning. 520 00:50:31.320 --> 00:50:37.080 It appears impoverished only when compared with the potentialities which existed for 521 00:50:37.080 --> 00:50:42.040 a still better state of satisfaction. 522 00:50:42.040 --> 00:50:48.240 The Alleged Absence of Depressions under Totalitarian Management 523 00:50:48.240 --> 00:50:53.260 Many socialist authors emphasize that the recurrence of economic crises and business 524 00:50:53.260 --> 00:50:58.820 depressions is a phenomenon inherent in the capitalist mode of production. 525 00:50:58.820 --> 00:51:04.080 On the other hand, a socialist system is safe against this evil. 526 00:51:04.080 --> 00:51:09.700 As has already become obvious and will be shown later again, the cyclical fluctuations 527 00:51:09.700 --> 00:51:15.500 of business are not an occurrence originating in the sphere of the unhampered market, but 528 00:51:15.500 --> 00:51:20.700 a product of government interference with business conditions designed to lower the 529 00:51:20.700 --> 00:51:26.300 rate of interest below the height at which the free market would have fixed it. 530 00:51:26.300 --> 00:51:33.700 At this point, we have only to deal with the alleged stability as secured by socialist planning. 531 00:51:33.700 --> 00:51:39.620 It is essential to realize that what makes the economic crisis emerge is the democratic 532 00:51:39.620 --> 00:51:42.120 process of the market. 533 00:51:42.120 --> 00:51:47.460 The consumers disapprove of the employment of the factors of production as effected by 534 00:51:47.460 --> 00:51:49.540 the entrepreneurs. 535 00:51:49.540 --> 00:51:56.280 They manifest their disapprobation by their conduct in buying and abstention from buying. 536 00:51:56.280 --> 00:52:01.980 The entrepreneurs, misled by the illusions of the artificially lowered gross market rate 537 00:52:01.980 --> 00:52:07.520 of interest, have failed to invest in those lines in which the most urgent needs of the 538 00:52:07.520 --> 00:52:12.200 public would have been satisfied in the best possible way. 539 00:52:12.200 --> 00:52:18.040 As soon as the credit expansion comes to an end, these faults become manifest. 540 00:52:18.040 --> 00:52:24.480 The attitudes of the consumers force the businessmen to adjust their activities anew to the best 541 00:52:24.480 --> 00:52:31.240 possible want satisfaction. It is this process of liquidation of the faults committed in 542 00:52:31.240 --> 00:52:38.520 the boom and of readjustment to the wishes of the consumers, which is called the depression. 543 00:52:38.520 --> 00:52:44.000 But in a socialist economy it is only the government's value judgments that count, 544 00:52:44.000 --> 00:52:49.920 and the people are deprived of any means of making their own value judgments prevail. 545 00:52:49.920 --> 00:52:55.720 A dictator does not bother about whether or not the masses approve of his decision concerning 546 00:52:55.720 --> 00:53:01.580 how much to devote for current consumption and how much for additional investment. 547 00:53:01.580 --> 00:53:07.880 If the dictator invests more and thus curtails the means available for current consumption, 548 00:53:07.880 --> 00:53:11.480 the people must eat less and hold their tongues. 549 00:53:11.480 --> 00:53:18.240 No crisis emerges because the subjects have no opportunity to utter their dissatisfaction. 550 00:53:18.240 --> 00:53:23.660 Where there is no business at all, business can be neither good nor bad. 551 00:53:23.660 --> 00:53:29.080 There may be starvation and famine, but no depression in the sense in which this term 552 00:53:29.080 --> 00:53:33.520 is used in dealing with the problems of a market economy. 553 00:53:33.520 --> 00:53:39.200 Where the individuals are not free to choose, they cannot protest against the methods applied 554 00:53:39.200 --> 00:53:43.440 by those directing the course of production activities. 555 00:53:43.440 --> 00:53:49.140 It is no answer to this to object that public opinion in the capitalist countries favors 556 00:53:49.140 --> 00:53:51.720 the policy of cheap money. 557 00:53:51.720 --> 00:53:57.260 The masses are misled by the assertions of the pseudo-experts that cheap money can make 558 00:53:57.260 --> 00:54:00.500 them prosperous at no expense whatever. 559 00:54:00.500 --> 00:54:06.680 They do not realize that investment can be expanded only to the extent that more capital 560 00:54:06.680 --> 00:54:09.360 is accumulated by saving. 561 00:54:09.360 --> 00:54:13.920 They are deceived by the fairy tales of monetary cranks. 562 00:54:13.920 --> 00:54:19.360 Yet what counts in reality is not fairy tales, but people's conduct. 563 00:54:19.360 --> 00:54:25.280 If men are not prepared to save more by cutting down their current consumption, the means 564 00:54:25.280 --> 00:54:29.780 for a substantial expansion of investment are lacking. 565 00:54:29.780 --> 00:54:37.020 These means cannot be provided by printing banknotes and by credit on the bank books. 566 00:54:37.020 --> 00:54:43.140 It is a common phenomenon that the individual in his capacity as a voter virtually contradicts 567 00:54:43.140 --> 00:54:45.180 his conduct on the market. 568 00:54:45.180 --> 00:54:50.880 Thus, for instance, he may vote for measures which will raise the price of one commodity 569 00:54:50.880 --> 00:54:57.560 or of all commodities, while as a buyer he wants to see these prices low. 570 00:54:57.560 --> 00:55:01.620 Such conflicts arise out of ignorance and error. 571 00:55:01.620 --> 00:55:07.740 As human nature is, they can happen, but in a social organization in which the individual 572 00:55:07.740 --> 00:55:14.580 is neither a voter nor a buyer, or in which voting and buying are merely a sham, they 573 00:55:14.580 --> 00:55:15.540 are absent.