WEBVTT

NOTE The Austrian Solution

1
00:00:00.000 --> 00:00:08.400
The title of my article is The Austrian Solution, and of course that solution is related to

2
00:00:08.400 --> 00:00:15.240
the economic crisis that we find ourselves in here in the United States and around the

3
00:00:15.240 --> 00:00:20.880
world, so it's really the perfect topic to come to a finale here.

4
00:00:20.880 --> 00:00:29.120
We've looked at Ludwig von Mises, his contributions to the origin of money and various other things,

5
00:00:29.120 --> 00:00:38.200
and then the nature of money and then ultimately what that leads into is discussions of the

6
00:00:38.200 --> 00:00:43.360
business cycle, boom and bust, and economic crisis.

7
00:00:43.360 --> 00:00:48.600
On the one hand, we should consider the question of who cares what the Austrian solution is.

8
00:00:48.600 --> 00:00:55.880
We're big here in Auburn, but not so much in the economic profession.

9
00:00:55.880 --> 00:01:03.000
We are a very significant minority within the economics profession.

10
00:01:03.000 --> 00:01:09.800
There are anywhere from 100 to 1,000 mainstream economists for every one Austrian economist.

11
00:01:09.800 --> 00:01:14.000
So we're a very small minority.

12
00:01:14.000 --> 00:01:22.320
However, we are the oldest ongoing school of economics and we're also the fastest growing

13
00:01:22.320 --> 00:01:23.320
school of economics.

14
00:01:23.320 --> 00:01:29.640
So while we're small and can be disregarded by a lot of people, we're also a very energetic,

15
00:01:29.640 --> 00:01:37.680
very growth-oriented and very young average school of economics.

16
00:01:37.680 --> 00:01:41.360
And the reason we should pay attention and that you should pay attention to what the

17
00:01:41.360 --> 00:01:47.560
Austrian solution is, is because we were the only school who saw this crisis coming.

18
00:01:47.560 --> 00:01:53.160
You can go back on our webpage and look this up, but Austrian economists were writing about

19
00:01:53.160 --> 00:01:58.840
about the housing bubble in the United States and around the world in 2003.

20
00:01:58.840 --> 00:02:07.760
I myself mentioned it in early 2004, and I wrote an article about it extensively later

21
00:02:07.760 --> 00:02:10.120
in 2004.

22
00:02:10.120 --> 00:02:15.520
I was having this discussion with my brother on the phone, and he was in the mortgage lending

23
00:02:15.520 --> 00:02:21.880
business, online mortgage lending business, and he said, brother, I can give these people

24
00:02:21.880 --> 00:02:29.880
and Police Loans, they can put $50,000 in their pocket, reduce their interest rate, reduce their payment.

25
00:02:29.880 --> 00:02:32.880
He said, it's almost too good to be true.

26
00:02:32.880 --> 00:02:37.880
I thought, oh dear, it is almost too good to be true.

27
00:02:37.880 --> 00:02:41.880
So Austrians were writing about this very early on.

28
00:02:41.880 --> 00:02:48.880
Whereas if you were watching the news or the newspaper, you'd be seeing Dr. Ben Bernanke,

29
00:02:48.880 --> 00:02:53.820
and Vice Chairman of the Fed, and who is now Chairman of the Federal Reserve, he was telling

30
00:02:53.820 --> 00:03:00.740
us that he was investigating the mortgage lending business, that he had a whole team of people

31
00:03:00.740 --> 00:03:09.320
looking into this, and he found not only were things okay, but they were better than ever.

32
00:03:09.320 --> 00:03:15.800
That the requirements for reporting, the safety requirements in the mortgage lending business

33
00:03:15.800 --> 00:03:17.560
were better than ever.

34
00:03:17.560 --> 00:03:24.600
Okay, so that's just a little groundwork here for the Austrian approach to things.

35
00:03:24.600 --> 00:03:30.840
We have a distinctive theory of the business cycle, the Austrian business cycle theory,

36
00:03:30.840 --> 00:03:33.200
or ABC theory.

37
00:03:33.200 --> 00:03:39.920
In large part that's due to the fact of Ludwig von Mises, his early work that Danny was referring

38
00:03:39.920 --> 00:03:44.720
to, the theory of money and credit, where he first broached this idea of a theory of

39
00:03:44.720 --> 00:03:48.560
of the Business Cycle, Why it Occurs, How it Occurs.

40
00:03:48.560 --> 00:03:49.720
So what are the ABCs?

41
00:03:49.720 --> 00:03:54.720
Well, the first A is that central banks have a tendency

42
00:03:56.400 --> 00:03:59.560
to loosen credit within the economy.

43
00:03:59.560 --> 00:04:02.480
That they have the ability in their control

44
00:04:02.480 --> 00:04:06.200
over the money supply and the interest rate

45
00:04:06.200 --> 00:04:10.080
to make lending conditions looser or easier.

46
00:04:10.080 --> 00:04:12.600
So you get easy credit in the economy.

47
00:04:12.600 --> 00:04:21.600
They get lower interest rates in the economy. They give money to banks, so banks can give money to the rest of us.

48
00:04:21.600 --> 00:04:28.600
Okay, and that's a bureaucracy. The Federal Reserve is a government bureaucracy, so you guys know what that is.

49
00:04:28.600 --> 00:04:34.600
They're not perfect. They can't be perfect. They're always hit and miss, too much or too little.

50
00:04:34.600 --> 00:04:41.600
I know you're all very familiar with that problem. It's always never quite right.

51
00:04:41.600 --> 00:04:48.600
No matter how hard they try, no matter how smart they are, there's too many shoes and not enough socks.

52
00:04:48.600 --> 00:04:51.600
Too many cannons, not enough bullets.

53
00:04:51.600 --> 00:05:01.600
So we start out with that premise that central banks can't hit the correct market target of what's necessary, what's rational.

54
00:05:01.600 --> 00:05:06.600
And that for political purposes, they very often will loosen credit.

55
00:05:06.600 --> 00:05:09.600
That means that banks have more credit available.

56
00:05:09.600 --> 00:05:18.080
So, the B part of the ABC theory is banks. Banks have more money available to lend. They

57
00:05:18.080 --> 00:05:26.360
lower the interest rate. That means they have to find customers for those loans who have

58
00:05:26.360 --> 00:05:34.200
poor credit worthiness of necessity. You can't just snap your finger and say, oh, there's

59
00:05:34.200 --> 00:05:37.640
a bunch of really credit-worthy borrowers.

60
00:05:37.640 --> 00:05:41.040
So the Fed increases credit,

61
00:05:41.040 --> 00:05:47.200
banks increase loans, and the third part is entrepreneurs

62
00:05:47.200 --> 00:05:51.320
go out and invest more money in the economy.

63
00:05:51.320 --> 00:05:55.000
So there's more investment as a result. The Fed,

64
00:05:55.000 --> 00:05:59.360
the banks, the entrepreneurs. Not only do investors

65
00:05:59.360 --> 00:06:04.720
invest more, but consumers actually consume more.

66
00:06:04.720 --> 00:06:11.720
Interest rates are lower, so there's less incentive to save, more incentive to spend.

67
00:06:11.720 --> 00:06:14.300
So this sets the stage.

68
00:06:14.300 --> 00:06:19.920
Entrepreneurs are investing more, they're buying more capital, they're hiring more labor,

69
00:06:19.920 --> 00:06:24.840
and consumers are saving less and spending more.

70
00:06:24.840 --> 00:06:30.600
The upshot of that is, or the result of all that is, that there's a boom in the economy.

71
00:06:30.600 --> 00:06:34.360
So that's an explanation of why you get the first phase of the business cycle, which is

72
00:06:34.360 --> 00:06:36.160
the boom.

73
00:06:36.160 --> 00:06:40.800
In Austrians, Austrian economists see that as a problem.

74
00:06:40.800 --> 00:06:43.000
That's a mistake.

75
00:06:43.000 --> 00:06:44.600
Everybody else loves it.

76
00:06:44.600 --> 00:06:49.960
It's good times for everybody, but in our view, it's a mistake.

77
00:06:49.960 --> 00:06:53.600
Because ultimately you're going to get some secondary results.

78
00:06:53.600 --> 00:06:59.400
You can't invest more and save more, excuse me, you can't invest more and save less.

79
00:06:59.400 --> 00:07:02.480
You can't invest more and consume more.

80
00:07:02.480 --> 00:07:05.640
There's something not right about that.

81
00:07:05.640 --> 00:07:07.680
What are the secondary results?

82
00:07:07.680 --> 00:07:13.320
Well, ultimately entrepreneurs find that there's not, there's just not enough resources in

83
00:07:13.320 --> 00:07:17.880
the economy to complete all their projects.

84
00:07:17.880 --> 00:07:23.080
If entrepreneurs are investing more and there's more entrepreneurs on stage investing in

85
00:07:23.080 --> 00:07:28.620
and other projects, then ultimately there's not going to be enough resources available

86
00:07:28.620 --> 00:07:29.960
to complete all those projects.

87
00:07:29.960 --> 00:07:34.760
So entrepreneurs are going to have to bid up the prices of resources.

88
00:07:34.760 --> 00:07:36.960
They're going to have to bid up wage rates.

89
00:07:36.960 --> 00:07:39.720
They're going to have to bid up the price of raw materials.

90
00:07:39.720 --> 00:07:44.360
They're going to have to bid up the price of capital equipment in the economy.

91
00:07:44.360 --> 00:07:50.800
Therefore, the cost of production are going to be higher than expected.

92
00:07:50.800 --> 00:07:57.480
This is why we see, for example, oil prices rising steeply in certain phases leading up

93
00:07:57.480 --> 00:08:00.520
to the boom in the economy.

94
00:08:00.520 --> 00:08:07.520
A secondary result is that when all these projects are completed, the supply of their

95
00:08:07.520 --> 00:08:12.840
output is going to be greater than the expected demand.

96
00:08:12.840 --> 00:08:17.680
There's going to be overcapacity in various parts of the economy.

97
00:08:17.680 --> 00:08:24.280
And as a result of that, the expected prices, excuse me, the prices are going to be lower

98
00:08:24.280 --> 00:08:32.360
than expected. Revenues are going to be lower than expected. So for example, we often see

99
00:08:32.360 --> 00:08:37.200
this in the price of computer chips, where there'll be phases where all the computer

100
00:08:37.200 --> 00:08:44.300
chip companies are building new facilities, new machines, and they all come online at

101
00:08:44.300 --> 00:08:49.100
a certain point in time in the business cycle, and the price of those computer chips falls

102
00:08:49.100 --> 00:08:52.500
below what the expected price was.

103
00:08:52.500 --> 00:08:58.820
So the secondary results, that as we go through this boom in the economy, and then we get

104
00:08:58.820 --> 00:09:05.960
these secondary results, there's higher cost of production, more than entrepreneurs expected,

105
00:09:05.960 --> 00:09:12.520
and there's lower revenues from the sale of their production than they expected.

106
00:09:12.520 --> 00:09:19.720
The result, of course, is that companies sustain losses.

107
00:09:19.720 --> 00:09:24.840
And as a result, what we find is that there's a cluster of entrepreneurial errors in the

108
00:09:24.840 --> 00:09:26.040
economies.

109
00:09:26.040 --> 00:09:30.040
So in the recent business cycle that we went through, that we're going through in the United

110
00:09:30.040 --> 00:09:36.240
States, home construction companies, their input suppliers, banks, mortgage companies

111
00:09:36.240 --> 00:09:42.480
and so forth, all of a sudden, they went from a phase where they were all doing quite well

112
00:09:42.480 --> 00:09:47.080
to a phase where they were all going out of business, they all made errors in a systematic

113
00:09:47.080 --> 00:09:48.080
fashion.

114
00:09:48.080 --> 00:09:54.080
And in Austrian economics, we expect entrepreneurs to go bankrupt.

115
00:09:54.080 --> 00:09:58.880
In every industry, pretty much all the time, there's going to be new companies coming

116
00:09:58.880 --> 00:10:05.080
in and trying out their approach, and there's going to be companies that are failing.

117
00:10:05.080 --> 00:10:07.860
We see this in restaurants all the time.

118
00:10:07.860 --> 00:10:14.320
New people coming in and old people, you know, no longer making it in terms of profits.

119
00:10:14.320 --> 00:10:17.580
The unique thing about the business cycle is that all of a sudden you get this cluster

120
00:10:17.580 --> 00:10:25.240
of errors where most of the companies in particular industries go out of business.

121
00:10:25.240 --> 00:10:32.100
So that's the Austrian theory, which explains why we knew that this boom-bust cycle was

122
00:10:32.100 --> 00:10:40.620
was going on back in 2002, 2003, 2004 when everybody else was saying, everything's just fine.

123
00:10:40.620 --> 00:10:48.180
You can't lose money in real estate. Housing prices never go down. And Ben Bernanke saying

124
00:10:48.180 --> 00:10:52.540
that things in the mortgage lending business are better than ever.

125
00:10:52.540 --> 00:11:00.740
Now the solution, what's the solution? Well, let's take a look at what the other economists,

126
00:11:00.740 --> 00:11:04.240
The mainstream economists think the solution is to our problem.

127
00:11:04.240 --> 00:11:06.300
And it's a big problem.

128
00:11:06.300 --> 00:11:08.460
Europe's in trouble.

129
00:11:08.460 --> 00:11:10.700
India, the economy's shrinking.

130
00:11:10.700 --> 00:11:13.140
China, the economy's shrinking.

131
00:11:13.140 --> 00:11:17.300
Japan has been knocked off because

132
00:11:17.300 --> 00:11:20.780
of various problems, the earthquake and so forth.

133
00:11:20.780 --> 00:11:24.040
A lot of countries, there's a lot of political unrest.

134
00:11:24.040 --> 00:11:26.700
So it's a big, big problem.

135
00:11:26.700 --> 00:11:28.700
But as far as the mainstream economists go,

136
00:11:28.700 --> 00:11:36.820
So their biggest fear is deflation, that prices are falling everywhere in the economy, and

137
00:11:36.820 --> 00:11:41.100
they basically have a fear of this deflation, that the economy would somehow get into a

138
00:11:41.100 --> 00:11:48.020
black hole and be crushed by the gravity of the black hole and that we would sink and

139
00:11:48.020 --> 00:11:51.460
never be able to come out of that black hole.

140
00:11:51.460 --> 00:11:57.280
So therefore they say, stimulate the economy, pass a stimulus package, borrow money and

141
00:11:57.280 --> 00:12:02.960
and have the government spend it, keep interest rates down, increase the money supply and

142
00:12:02.960 --> 00:12:07.760
of course in the United States interest rates are already ridiculously low.

143
00:12:07.760 --> 00:12:15.640
The Fed is lending money to banks at 0.25%, a quarter of 1%.

144
00:12:15.640 --> 00:12:26.560
I got a mortgage, a 30-year mortgage for 3.25%, obviously they didn't check my credit rate,

145
00:12:26.560 --> 00:12:56.560
That's the mainstream, keep interest rates low, keep the money supply increasing, provide unemployment, insurance for everybody for however long period of time, bail out industries, bail out firms, bail out the banks, bail out construction, have public works projects to keep those guys going, deficit spending, it doesn't matter, they're talking about it today, cut taxes, increase spending, borrow the money, have the government borrow the money, galore. That's not the Austrian approach at all. In fact, it's quite

146
00:12:56.560 --> 00:13:03.520
opposite of that. For Austrians, deflation is not a black hole. We are not

147
00:13:03.520 --> 00:13:08.040
afraid of it. Deflation is actually not a black hole, it's a shock absorber for the

148
00:13:08.040 --> 00:13:13.480
economy. And so our solution has a lot to do with letting deflation do its work,

149
00:13:13.480 --> 00:13:20.200
letting the price system do its work, allow markets the freedom without any

150
00:13:20.200 --> 00:13:25.320
intervention to adjust their prices so resources can be reallocated to the way

151
00:13:25.320 --> 00:13:35.320
So let's take a look. I mean, the mainstream economists look at the price level. They look at CPI, they look at aggregate statistics. Austrians don't.

152
00:13:35.320 --> 00:13:49.320
We think that relative prices are much more important than the price level. So if we break down prices from an aggregate of the whole economy into capital goods, into labor, into consumption goods,

153
00:13:49.320 --> 00:13:56.320
What do we find happening during an economic crisis? What do we find happening during a downturn in the economy?

154
00:13:56.320 --> 00:14:05.320
So if we break that down into the three categories of types of goods, what we find is that capital goods in a crisis will fall dramatically.

155
00:14:05.320 --> 00:14:13.320
The price of land, the price of capital equipment, the price of stocks in the stock market, they'll all fall dramatically.

156
00:14:13.320 --> 00:14:18.320
During the Great Depression in the United States, stock prices fell by 95%.

157
00:14:18.320 --> 00:14:26.320
On the other hand, labor is less susceptible to dramatic falls in prices.

158
00:14:26.320 --> 00:14:33.320
So typically what we find in an economic crisis is that the price of labor will fall by 10% to 33%.

159
00:14:33.320 --> 00:14:39.320
It's not unemployment necessarily, it's the whole thing.

160
00:14:39.320 --> 00:14:44.320
Because there are plenty of people who are still employed in the United States who are earning a lot less money.

161
00:14:44.320 --> 00:14:51.920
In fact, a big chunk of the US workforce and the workforce around the world remains employed

162
00:14:51.920 --> 00:14:53.120
but earns less money.

163
00:14:53.120 --> 00:14:54.720
They have less patients.

164
00:14:54.720 --> 00:14:55.800
They have less clients.

165
00:14:55.800 --> 00:14:56.800
They have less sales.

166
00:14:56.800 --> 00:14:59.560
They have so on and so forth.

167
00:14:59.560 --> 00:15:08.280
So labor falls by less and consumption goods fall relatively little because consumers are

168
00:15:08.280 --> 00:15:15.780
are unlikely to adjust their patterns of buying for food, clothing and shelter very much.

169
00:15:15.780 --> 00:15:19.380
If you lose your job, you don't necessarily turn off your cable.

170
00:15:19.380 --> 00:15:20.880
You don't turn off your internet.

171
00:15:20.880 --> 00:15:22.300
You've got to find a job.

172
00:15:22.300 --> 00:15:24.680
You don't turn off your power.

173
00:15:24.680 --> 00:15:27.300
You don't stop eating.

174
00:15:27.300 --> 00:15:30.280
So consumption goods fall by the least amount.

175
00:15:30.280 --> 00:15:32.580
So what does that tell you?

176
00:15:32.580 --> 00:15:34.260
Anybody?

177
00:15:34.260 --> 00:15:36.260
Consumption is still high.

178
00:15:36.260 --> 00:15:41.200
Are there any entrepreneurs in the audience? Yes, that's exactly right. And the way you

179
00:15:41.200 --> 00:15:49.160
invest in consumption goods is you hire labor and capital to make those consumption goods.

180
00:15:49.160 --> 00:15:54.560
So as prices are falling, with capital and labor falling more than consumption goods,

181
00:15:54.560 --> 00:16:00.280
profit opportunities start to emerge. And so entrepreneurs get back into the business

182
00:16:00.280 --> 00:16:02.760
of Hiring Capital and Labor.

183
00:16:02.760 --> 00:16:08.360
So as we allow prices to fall, entrepreneurs come in and snatch up those resources to make

184
00:16:08.360 --> 00:16:11.560
profits by producing consumption goods.

185
00:16:11.560 --> 00:16:17.820
So the entrepreneurial reaction to deflation is to reallocate our resources to produce

186
00:16:17.820 --> 00:16:20.160
goods that consumers want.

187
00:16:20.160 --> 00:16:29.280
So Austrians don't want to keep prices high, we don't want bailouts, bankruptcy is fine,

188
00:16:29.280 --> 00:16:36.840
We want to balance the government budgets with wage cuts and budget cuts, we want to deregulate

189
00:16:36.840 --> 00:16:44.140
the economy as much as possible, we want freer trade, we particularly want to remove barriers

190
00:16:44.140 --> 00:16:45.140
in labor markets.

191
00:16:45.140 --> 00:16:55.880
So the Austrian solution is to allow the marketplace the room to allow prices to adjust, to reallocate

192
00:16:55.880 --> 00:17:03.520
resources away from what had been going on during the boom and reallocating back to where

193
00:17:03.520 --> 00:17:04.520
they should be.

194
00:17:04.520 --> 00:17:05.160
Thank you very much.