Critique of Austrian Economics: A Critique [Part 8]

This is part 8 of my critique of the Critique of Austrian Economics by AustrianCritique.

Gold Standard

AC: "...virtually all economists agree... If there is too much money, then inflation rises. If there is too little money, then unemployment rises. Under the current system, the government fights inflation by contracting the money supply, and fights unemployment by expanding it. This achieves the optimum level of money, and minimizes our economic problems."

Really: Then virtually all economists are wrong. The Philips Curve has been empirically refuted so many times that it's unbelievable anyone would bring it up. It's nonsense pure and simple. In practice the current system is perpetual inflation, so even if this theory was sound on paper(which it isn't), it wouldn't work.

AC: "Austrians call for a 100-percent gold standard (that is, without even fractional reserve banking)..."

Really: Yes and no. Austrians usually want market money(historically it's been gold, but it doesn't have to be) and some Austrians belong to the free-banking school, so they wouldn't oppose fractional reserve banking. But most Austrians oppose fractional reserves and want to return to a gold standard at least initially.

AC: "Under a gold standard, the total amount or value of money would be fixed, determined only by the size of the nation's gold reserves. Sure, unemployment and inflation may rise, but eventually prices will readjust themselves through natural inflation or deflation and solve the problem."

Really: The amount of gold and the amount of money would indeed correlate closely(after being industrially used, gold would probably no longer be regarded as money, so it wouldn't be a 1:1 correlation). However, to say that the value of money would be fixed is fallacious. The price of gold isn't fixed right now. If gold became money, it wouldn't be any more fixed than now. It would simply be money.

Unemployment and inflation may rise? Ok so you're telling me that when we get a relatively stable money supply, then inflation will rise? Utter nonsense obviously. Historically(e.g. the US in 1880s) and theoretically prices should steadily fall, as the growth in the supply of goods outstrips the growth in the money supply. Unemployment shouldn't rise either.

AC: "Austrians believe that this readjustment, painful or prolonged though it may be, is a self-cleansing exercise that rids the economy of malinvestment. That is, it eliminates weak firms that shouldn't have been created in the first place."

Really: AC is no longer talking about going back to a gold standard. Austrians believe that the phony boom brought about by credit expansion should be stopped and the malinvestments should be liquidated. This falls into "business cycle" category.

AC: "But although money inflates easily, it suffers from "price stickiness" when trying to deflate. Often, deflation barely occurs, and the result is high unemployment, recession or even depression instead. In other words, money doesn't adjust itself to the level of economic activity; the level of economic activity adjusts itself to the money. History bears this out: the U.S. suffered eight depressions while on commodity money; in the 60s years since, it has suffered none."

Really: There isn't a single proposition in here that is factually correct. And I don't know if this is ignorance or dishonesty, but normal recessions were called depressions back in the 19th century and early 20th. Not only that, but the "theory" behind this "history" is just as absurd.

AC: "Second, gold standards based on a fractional reserve allow the phenomenon of bank panics or bank runs, which leave depositors holding worthless money. This only exacerbates recessions and depressions."

Really: Historically bank panics have resulted in very small losses on the part of depositors. Besides, they're a good thing. They put limits on credit expansion, the source of the business cycle. Removing bank runs from the picture was one of the greatest policy mistakes of the 20th century.

AC: "The solution to this would be to adopt a pure gold standard. But there is not enough gold in the world to cover the phenomenal amount of economic activity currently in it, without an equally phenomenal revaluation of gold. Furthermore, industry is making increasing demands on gold; a change in dentistry or electronics could deflate an entire economy."

Really: Any amount of money will suffice. The amount of money is irrelevant. I do agree that going back to the gold standard would be difficult, but that's hardly the question here. Gold's industrial uses are such a tiny part of the global supply of gold that I doubt anyone would notice even a major change in technology(not to mention the supply of gold could change to meet this new demand). AC is simply making stuff up here.

Business Cycle

AC: "The theory that the Fed's monetary expansion and easing of credit restrictions results in "malinvestment" is an unsupported claim. It is backed up only by the Austrian's faith and deductive "logic" that such malinvestment occurs."

Really: There are so many ways to answer this, I don't know where to start. Just go read my blog post about the business cycle.

AC: "Austrians often repeat that since the Federal Reserve System was created in 1913, our currency has devalued 98 percent, due to the printing of money. But this is a meaningless statistic. Suppose you need $2,000 a month to buy the necessities of life, but you earn $2,000 a month as well. You're making ends meet. Now suppose that your bills climb to $10,000 a month -- but so does your income. Has anything real changed? Of course not."

Really: The Fed's mandate is to keep the dollar stable, so from that perspective it's a meaningful statistic. Also what about the inflation tax? Every time the money supply grows, those who get the new money first benefit. They get to go into the market and spend that money before prices have risen. Those who get the new money last will have to pay higher prices for a long time before their income rises. And it isn't the poor or the middle class who gets the new money first, I can tell you that.

AC: "At low levels, inflation under fiat money is relatively harmless. However, the deflation caused by the gold standard is truly destructive. If dollars have inflated to 2 percent of their original value, and the price of gold has risen 20 times, then maintaining the gold standard would have deflated the dollar to 2.5 times its original value. That's a lot of unemployment."

Really: 19th century and the classical gold standard. Full employment pretty much. Not to mention AC still has no theory behind his claims.

AC: "No, the real question is not how much money has inflated, but whether or not your absolute standard of living has risen. And in this regard, the current system of fiat money has been a clear success. Between the end of World War II and the early 70s, the U.S. standard of living (adjusted for inflation) doubled -- the fastest rate of prolonged growth in U.S. history."

Really: Bretton-Woods is the same as "the current system of fiat money..." Except that it isn't. Bretton-Woods was bad, but pure fiat money is worse. Oh yeah, correlation is not causation.

AC: "And, of course, there has not been a single depression since World War II, not in this or any other country following Keynesian monetary policies."

Really: Keynesian monetary policy is to always push the rate of interest lower by printing money, so I guess hyperinflation would count as a Keynesian depression?