Sunday, August 21, 2011

Did Murray Rothbard believe in aggregate demand? (Yes, he did)

I'm currently reading Rothbard's Mystery of Banking. In the first few chapters I found some things in Austrian thought I wasn't expecting.  It appears to me that the Austrian model has a basic framework that it is very much possible to increase output and decrease unemployment by increasing aggregate demand through monetary policy. While heavy on monetary policy, there's hardly any mention in this book of interest rates (which Scott Sumner would appreciate) and nothing about interest rates being artificially below some Wicksellian natural rate.   There are also the basic ideas of sticky prices and wages (but explained using only one hypothesis put forth by Von Mises) and an elucidation of the time-consistency problem (this book was written in 1983, same year as Barro and Gordon's paper and two years before Rogoff's time-consistency paper was published).  In the models developed in book, I don't see much difference between Sumnerian quasi-monetarist and Austrian thought, except for what Rothbard leaves out--namely the effects of an increase in the money supply on output and employment.

Page 60:
"The only way in which consumers, especially over a sustained period of time, can increase their demand for all products is if consumer incomes are increasing overall, that is, if consumers have more money in their pockets to spend on all products.  But this can only happen if the stock or supply of money available increases; only in that case....can most or all demand curves rise...and prices can rise overall."  
Is this not NGDP or aggregate demand?  Sure sounds like it, though Rothbard never calls it that. Rothbard focuses on the increase in price level as being immoral.  But what Rothbard leaves out is what happens to supply.  If demand shifts to the right, quantity supplied also increases (if more stuff is being bought, more stuff has to be produced and more resources utilized to produce it).  It appears that supply curves are perfectly inelastic in the Austrian short-run, but elastic:
"If...that increase (in demand) is perceived by the producers as lasting for a long period of time, future supply will increase" (Pg. 58). 
So, wouldn't an expected permanent increase in price level cause a permanent increase in quantity supplied (Pg. 59)? So, in that sense the Austrians could agree that FDR's devaluation of gold, a clear price-level target, could cause the increase in demand, output, and employment.  Am I wrong?  To the freshwater economists who contend there is no such thing as aggregate demand, or to those who believe that business cycle fluctuations can't be caused by aggregate demand, it would appear Rothbard disagrees:

"Despite the currently fashionable supply-side economists, inflation is a demand side (more specifically monetary or money supply) rather than a supply-side problem. Prices are continually being pulled up by increases in the quantity of money and hence the monetary demand for products."

This is important because it doesn't say "an increase in the money supply just causes prices to increase," Rothbard is saying prices rise because demand for products increases.  Rothbard's model would appear to have to accept that a central bank (or whoever is in charge of the money supply if centrally controlled) has the ability to determine the growth rate of NGDP over a long haul.

It seems pretty clear that if we're not experiencing a high rate of inflation right now then Rothbard would say it's because demand for money is high relative to the supply of money.  If people aren't spending it, and firms aren't producing, it's because they don't expect price levels to rise.

More interesting is the contention of sticky wages.  Why doesn't a 20% increase in M cause prices to rise by 20%?  A 20% increase in M would lead to an increase in aggregate demand and an increase in quantity supplied.  Von Mises apparently explained this in Post WWI Germany by saying the Germans simply expected prices to eventually fall again, therefore they held on to their money (demand for money increased, causing a deflationary offsetting of the increase in money supply, Pg. 119-120). **Update. Alex Tabarrok graciously pointed out that it appears Mises was making Krugman's argument on why Japan's monetary stimulus has been ineffective in increasing inflation-- the Japanese simply don't believe the central bank would allow inflation, and hence have expected lower or stagnant prices and kept up their money demand (and they've been correct at calling the central bank's bluff). **

(Rothbard's words):
"(Expectations are sluggish in revising themselves to adapt to new conditions. Expectations...tend to be conservative and dependent on the record of the recent past...Unfortunately, the relatively small price rise often acts as heady wine to government...They can increase the money supply...and prices will rise only by a little bit!"  
This is clearly an explanation of a non-vertical Phillips curve (without mentioning such a thing).  So long as expectations are anchored, an increase in the money supply can cause an increase in aggregate demand without a 1-for-1 increase in prices.  This works until "the public's deflationary expectations have been superceded by inflationary ones," and prices begin to rise faster than output increases (Pg. 122).

So, even Austrians agree that a central bank can fool people in the short-run and get growth at the expense of testing credibility.  We all agree that in the long run the effect will be higher inflation as expectations adjust (the long-run Phillips curve is vertical).

Do any Austrians disagree with these contentions?

1 comment:

Matt Tanous said...

"If demand shifts to the right, quantity supplied also increases (if more stuff is being bought, more stuff has to be produced and more resources utilized to produce it)."

Nonsense. The supply curve is not "what will be produced" but what already exists. In fact, production cannot rise based on an increase in demand - it requires savings.

So, yeah, you can argue that Rothbard believed in "aggregate demand" stimulus... if you ignore all of Austrian production theory, which Rothbard himself outlined in great detail in Man, Economy, and State.