Tuesday, 5 June 2012

Austrian capital theory

For those with an interest in all things Austrian, in terms of economics, The Freeman has an article on Austrian Capital Theory: Why It Matters by Peter Lewin.
Keynes talked about the “capital stock” of the economy. He argued that by stimulating spending on outputs (consumption goods and services), one can increase productive investment to meet that spending, thus adding to the capital stock and increasing employment.

Hayek accused Keynes of insufficient attention to the nature of capital in production. (By “capital” I mean the physical production structure of the economy, including machinery, buildings, raw materials, and human capital—skills). Hayek pointed out that capital investment does not simply add to production in a general way but rather is embodied in concrete capital items. That is, the productive capital of the economy is not simply an amorphous “stock” of generalized production power; it is an intricate structure of specific interrelated complementary components. Stimulating spending and investment, then, amounts to stimulating specific sections and components of this intricate structure.

The “shape” of production is changed by stimulatory activist spending. And given that in a world of scarcity productive resources are not free, this change comes at the expense of productive effort elsewhere. The pattern of production thus gets out of sync with the pattern of consumption, and eventually this must lead to a collapse. Productive sectors, like dot-com startups or residential housing, become “overbought” (while other sectors develop less), and eventually a “correction” must occur. Add this distortion to the fact that the original stimulus must somehow eventually be paid for, and we have a predictable bust.

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