Keynesian vs. Austrian economics made simple – Good analogy?

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  • Fri, Jul 08, 2011 - 07:02am

    #21
    Matt_Prather

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    wonderful analogy

I don’t get much into the finer details of “Austrian school” stuff.

This is because I think humans are all a pack of tribal, religious, ignorant creatures and as soon as they say “This school of thought is so much more truer than all the others” is as soon as they go astray.

That being said…

Your analogy IS PERFECT.

It’s perfect for our monetary system — our banking system. Not necessarily our schools of economic thought.

We used to have bank panics and bank collapses all the time.

Bank collapses are the forest fires.

The Panic of 1907 (http://en.wikipedia.org/wiki/Panic_of_1907) was the largest panic ever (to that date), and it took the biggest thin-air money creditor of the day (J.P. Morgan) to bail out the banks with thin-air money and restore confidence in the illusion of the money system .

But when the lender of last resort has already bailed out everything to the last degree sensible, then we inevitably get bank panics and collapses anew — and this time on a much bigger scale. A forest fire to end all forest fires.

After the Panic of 1907, we got the Federal Reserve System. This lender of last resort has been extraordinarily conservative and cautious and judicious over its time — yet, yes — of course! — over the last century, the Fed has fed its “cronies” and its “masters” all the wonderful, documentable benefits that we rail against today — yes of course it has given insiders unfair advantages — but it has also given the masses a banking and monetary system that is unprecedentedly stable in the bigger picture of banking through history — we still use the same Federal Reserve Note currency as instituted in 1913 and we use it world wide — and this is truly unprecedented in history.

Whether the Fed is a key player in a great conspiracy or not (an issue I have not really brought up and will not go into now), we must admit that it is our forest fire preventer. Tens of thousands of banks have collapsed since the inception of the Fed, yes — but we have not had a systemic banking collapse since the day it was created — as the whole banking system was facing systemic collapse in 1907.

Yes, the Fed can choose which banks die, and which banks get hosed-down with a spigot of thin-air money (http://i.imgur.com/vjM4o.jpg) — but, at the end of the day, we have seen our economy and our military grow to epic proportions without very many monetary stumbling blocks along the way, and this has been of tremendous benefit to us.

The Great Depression was very hard for the common man in America, but after the European powers knocked themselves out of dominance in World War II, it was smooth sailing for the Western-most baby nation to become THE super-power of the globe. Some people will think I have glossed over the period of 1913-1945 entirely too quickly here — they are 100% correct — but do you really want me to pontificate over the entirety of our monetary history and substantiate myself in full? Of course not.

We never did solve the implicit and fundamental problem of fiat credit money (U.S. dollars are Federal Reserve Notes are credit money — http://en.wikipedia.org/wiki/Credit_money). (The fundamental problem is the “P < P+I problem” — “principal loaned is less than owed principal plus interest” — that money comes from debt and there is never enough money around to pay down the debt, and we must constantly issue new debt if we wish to pay down old debt.)

We kicked that can down the road, ad finitum (ad finitum). When Nixon was President, a conscious commitment to go “full-credit” was made — and during the Reagan years, we started going certifiably exponential on the national debt — with the complicity of the Federal Reserve. I do not think that Nixon or Reagan had any say in these matters.

And we have really run this route to the end of the road by now, haven’t we? By now, we are invading more and more fruitless countries, at more and more expensive costs, in order to keep our system going for a little bit more and more longer, aren’t we?

And now we come back to the analogy. The inescapable fire. The big one. This monetary system has kept all the forest fires under its control that it could — but now it can’t control any more. Like J. P. Morgan in  1907 — the last man behind the last curtain — exposed and naked, we cannot much longer continue to declare thin-air money into existence and expect it to douse the fires.

So your analogy is wonderful. And it need not necessarily be applied to the church of Austrian economics.

It’s just an analogy the money system. It’s a lot harder to deny the fundamentals of our money system than it is to deny the fundamentals of our economic system.

  • Wed, Aug 03, 2011 - 08:00pm

    #22
    Jeffy

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    Good thread

Hey, Matt Prather:

Your argument is compelling.  Can you forsee how this all ends?

  • Wed, Aug 31, 2011 - 05:11pm

    #23
    Discretionary1

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    Yellowstone Park fire

You claim –  36% of the park burned and much of this area is still black 20 years later.- You will hoce ave to show me this area – al the areas I have seen are thriving – If you are seeing black – it is more than lilely a more recent fire (Lodgepole pine loves fires)

 

Nice try though

  • Thu, Dec 29, 2011 - 04:17pm

    #24
    Peak Prosperity Admin

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    these four diagrams sum up

these four diagrams sum up the differences between marx, keynes, mises, and george well…

http://www.henrygeorge.org/isms.htm

the only flaw to the diagram is that it doesn’t make the distinction that the "interest" on debt-based and commodity-based legal tender is not the same as interest on capital. speculation on commodities and hard currency is considered economic rent. interest-bearing and commodity-based legal tender is fraud.

  • Wed, Jan 25, 2012 - 04:08pm

    #25

    Charles3000

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    EconomicSystems

 Every person famillar with control systems knows that a system will be unstable when it has positive feedback and can be stablized only with negative feedback of the proper amount and at the proper time. This is an obvious fact in economic systems too and will at some point in time be “discovered”. Economic growth is enhanced by positive feedback and it also causes the eventual downturn. It is a simple technical fact well proven and analyzed for many years in the physical world and it obviously is true for economic systems too. The real challenge in economics is to institute proper and morally acceptable negative feedback.  The Keynesian notion of government spending to fix an economic downturn is an example of a negative feedback to stablize the system. When money flow in the market slows down government induced money flow starts in the opposite direction and brings about stablization as negative feedback.  The beauity of understanding how a system is stablized is that it works both ways. You then understand how to make it grow too. The truly hard part is timing (bandwidth in the physical world) and the moral part. For example paying laid off workers more than they earned when working would be a beautiful negative feedback and would also obviously tend to stablize a falling consumer driven economy but it would be morally unacceptable. The Keynesian approach should be acceptable to anyone who understands what money is as opposed to just understanding what you can do with it. Another negative feedback effectively used in the USA for a long period of stability after WWII is a very high marginal tax rate. It should also be morally acceptable as well.  For those who understand the physical model of a feedback system the “market” the economists talk about is the feed forward element. The government must supply many of the feedback mechnisms such as taxes, money creation, unemployment benifits, etc.  If this way of thinking about the economic system were applied we could have some real progress and start talking about reality rather than the ideaological notions of Keynesian, Austrian or Marxian views.

  • Wed, Jan 25, 2012 - 06:01pm

    #26

    Travlin

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    Good thoughts

Charles

Welcome to the forums.  You presented a lot of good thoughts.  I hope you will post regularly.  I can see a case for government stimulas during downturns.  The big problem is the overwhelming temptation to continue it to “manage” economic growth and the prospects for re-election.  I think your control engineering perspective would greatly improve economics as a discipline.

Travlin 

  • Wed, Jan 25, 2012 - 06:50pm

    #27
    tictac1

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    Hmmm

The “georgian” model is still solidly left, because it gives all true ownership of land to the state.  This would be a totally unacceptable solution to Judeo-Christian and Muslim societies, for reasons which are unimportant for this discussion.

  • Wed, Jan 25, 2012 - 07:04pm

    #28

    rhare

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    Hi Charles, welcome to

Hi Charles, welcome to CM.com.

Charles3000 wrote:

The real challenge in economics is to institute proper and morally acceptable negative feedback.  

There is already a feed-back loop – make stupid decisions, go broke.   No need for government to intervene at all.

Charles3000 wrote:

The Keynesian notion of government spending to fix an economic downturn is an example of a negative feedback to stablize the system.

This assumes that the Keynesian policies weren’t responsible for the downturn in the first place.  We can see many of the Keynesian influences in blowing up bubbles and the downturn is the correction from previous poor decisions.   Anytime you have government forcing changes in the market that it would not normally take on it’s own, it’s unsustainable.  Eventually when the interferrence is removed the system will revert back to natural choices by consumers.  The interferrence in the market to produce a desirable result is a temporary illusion.

  • Wed, Jan 25, 2012 - 09:12pm

    #29

    darbikrash

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    rhare wrote:There is

rhare wrote:

There is already a feed-back loop – make stupid decisions, go broke.   No need for government to intervene at all.

This is not a feedback loop, it is a cause and effect solution on an individual transaction scale.

The concern is not that individual businesses should make a poor decision and go bankrupt- of course they should be accountable. The issue is when an entire economy is subjected to control fraud in which the cumulative effect is to place non participants- people who are not involved in profit taking-  at risk of losing private property and individual rights- so that others may take a profit.

rhare wrote:

This assumes that the Keynesian policies weren’t responsible for the downturn in the first place.  We can see many of the Keynesian influences in blowing up bubbles and the downturn is the correction from previous poor decisions.   Anytime you have government forcing changes in the market that it would not normally take on it’s own, it’s unsustainable.  Eventually when the interferrence is removed the system will revert back to natural choices by consumers.  The interferrence in the market to produce a desirable result is a temporary illusion.

Kensysian policies have their place in modern political economy. It is a series of conceptual approaches that has (and has demonstrated) that they can and often are effective at rectifying certain conditions. But not all. In the same vein, Austrian principles have made meaningful contributions to the understanding of instabilities inherent to capitalism, and some proponents (such as Schumpeter) have made contributions towards understanding these business cycles, as well as the principle of creative destruction.

However, these (Austrian) ideas are severely limited, and are unsuitable for large scale control fraud, that occurs- organically- in any late stage capitalist economy.

The take away is that capitalism is intrinsically unstable. It operates in boom or bust cycles, and as the magnitude of these cycles increases, the repercussions change – becoming much more severe, and the most effective type of corrective action changes as well. When these cycles get too large, as they are now, they cannot be left to the theories of “creative destruction” as means of self correction.

Suggesting that problems of this scale are caused solely by government intervention shows a lack of understanding for the intrinsic (and entirely factual) instabilities of capitalism, and the effects these instabilities have on the non participant- who, last time I checked, had rights too.

As has been the case for nearly 300 years, capitalism needs, and will always need, corrective feedback loops initiated from someone other than the profit seekers.

 

  • Fri, Sep 28, 2012 - 04:39pm

    #30
    rex jones

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    I think this is a great

I think this is a great analogy for pushing the idea of Austrian economics. Put simply when we run into a economic ressession, when the forest starts on fire, they believe in letting a couple bad companies that started the fire burn down all the rest of the companies with the idea that over time they will grow back stronger becasue the strongest survived. But do you really think that a 50 year old that is 10 years from retirement would be ok with the idea of getting fired, seeing his 401k drop to nothing all under the idea that in 10 years the economy will be stronger? Or an 70 year old living off his 401k seeing it drop to nothing thus dropping his to poverty standards. No I think this is a crazy idea. We are not an economy for the best and strongest, we are an economy for everyone. People need to make a living to survive, to be able to live comfortably and pay for nessecities today.

The analogy is great for pushing austrian economics, but the reality is not true. This is the problem with analogies, they can be used to correlate ideas even if they the correlation does not exsist. Economics is complicated. Using Keynes for one case may not work just as using austrian for another my not work. It is completely dependednt on the current economic situation we are in. It’s about two things Supply and Demand. Austrian stands for Supply- the investors that supply goods and services, and Keynes for Demand- the consumers. Our government can implement policies to feed either one more when needed. If we have a problem with run away inflation, high interest rates thus making it harder for buiness to supply you can simply lower their taxes thus they will have more money to supply goods and services. When interst rates are low and buiness’ are sitting on $4T in cash, having doubled in profits 2 times over the last 12-15 years while the average person’s income and 401k is flat over that same time period you need to feed demand: i.e. government spends money, invest in eduation, infrastruture, lowers their taxes and increase taxes on wealthy and buiness to offset this inequality. Unfortunatly in Washington we have Keynes and Austrian’s, Democrates and Republicans. Historically the largest economic growth has came under Keynes/Democrate. 1980 is the only case we can come up with where Austrian economics was needed. Unfortuantley we held on to that idea for 30+ years and are in the mess we are in today b/c of it.

Let me explain it this way. I played football in the NFL, and us players knew that the fans where the only reason we were paid the way we were paid. The fans had demand for our product, they bought our jersey’s, paid to come to our games, and gave us the highest rating in T.V. Without their income and demand for our product we did not have a product or incomes ourselves. Their income became my income. This is how the economy works, if they don’t spend on my product I don’t have a job, same for anyone reading this. So, we have to have people spending money on things in order for a transfer of money to take place and create others incomes. So, if we are in an economic recession where people are making less money or being layed off whats the answer? Generally, unless we have runaway infaltion, we need people to spend money. And if the government spends money is their money not as good as anyone esles? Does it not stimulate the same as if I were to spend money. Especially if no one else is spending. Then yes this is a great tool that has worked for over 80 years. The great economy/American we have is b/c of this. To argue for letting recessions deepen is crazy. It’s what Herbert Hover did and look at how that worked out for him.

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