The dispute between Hayek and Keynes was over what we call today “macroeconomics.” At the time, this would have been considered monetary or trade cycle theory. Hayek was opposed to the macro-aggregation of Keynes’s approach to questions of employment, interest rates and cycles. He believed that the aggregates chosen by Keynes obscured the fundamental changes that constitute macroeconomic phenomena. As the economist Roger Garrison points out, for Hayek there were indeed macroeconomic phenomena but only microeconomic explanations.Macroeconomics is where we look at the economy is the aggregate. Issues like inflation, unemployment, government spending, government debt etc. Microeconomcis is where we look at the disaggregated economy, things like firms, consumers and individual markets. The view that Keynes told of the economy was
Keynes focused on the labor market, insufficient aggregate demand and the associated idea of less-than-full-employment income. In effect, Keynes thought of aggregate output as if it were just one undifferentiated thing and investment as a volatile form of spending that brought this output into existence.Hayek took a very different view,
Hayek focused on structure of capital. By this he meant the array of complementary (and substitutable) capital goods at different distances from consumable output. These capital goods work with labor and other factors to produce what Keynes would call “aggregate output.” Thus for Hayek “investment” wasn’t a homogeneous aggregate but represented specific changes to a structure of interrelated capital goods. When the central bank lowered interest rates excessively (below the rate that would equate planned savings with planned investment), the structure of production would be distorted. It is not just that “output” increased but its composition was altered.Rizzo continues,
This typically meant a number of unsustainable changes. Low interest rates discourage savings and yet at the same time encourage certain types of investment. Housing, commodities, and other sectors with long time-horizons would expand. But at the same time consumers would try to consume more. So the Keynesian is misled to think that, “See, consumption and investment are not alternatives. We can have more of both. In fact, consumption stimulates investment!”Is this what we have just seen? Looks a lot like it.
What really occurs in the boom, however, is too much consumption and too much investment in sectors far from consumption. Overconsumption and malinvestment. Isn’t this what we have just seen?