The Austrian School of Economics
Jonathan M. Finegold Catalan, (no pun intended)
Austrians distinguish between a rise in the supply of loanable funds as a result of an increase in savings and the rise resulting from an increase in the supply of money. The latter is what leads to the business cycle. Providing a complete understanding of the Austrian business-cycle theory would require a deeper foray into Austrian capital theory, which unfortunately is something outside the scope of the present essay. Regardless, using what has been established thus far, the business-cycle theory can be explained as one that predicts dis-coordination in the market resulting from an artificial decrease in the cost to borrow money. This decrease in the rate of interest is artificial in the sense that it came as a result, not of an increase in loanable funds through an increase in savings, but an increase in loanable funds through an increase in the supply of money.
Given that a decrease in the market rate of interest will lead to an increase in the quantity demanded of loanable funds, this leads to an increase in investment. Investment leads to the lengthening of the structure of production in the hope of producing future goods.
Dis-coordination is caused by the fact that, given that the supply of money was increased artificially, consumers have not generally sacrificed present consumption for future consumption. Thus, existing capital is divided between continued production of consumer goods, for present consumption, and capital goods, which will be used to finance projects dedicated towards satisfying future consumption. This dis-coordination leads to widespread malinvestment (sic), and when this dis-coordination is revealed it leads to an inevitable bust.
Thus, Austrians hold that business cycles are caused by inter-temporal dis-coordination, caused by artificial increases in the supply of loanable funds without an equal fall in present consumption. . .
Apart from the school's valuable insight in academics, how is the Austrian School relevant to current events? What makes Austrian theory important to the common man?
The answer to these questions can be deduced praxeologically, beginning with the axiom of human action.
If we accept society as merely a web of purposeful interactions between individuals, then we begin to realize the potential distortions caused by exogenous factors — namely government through regulation. As a value-free science, praxeology cannot tell you whether or not government intervention is good or bad but it can tell you the consequences of exogenous distortion of human action.
"Austrian" ethics, on the other hand, do serve the purpose of deciding between "good" and "bad," but in the purest sense the Austrian School can at least enlighten the layman by suggesting what effects certain economic policies will have.This idea that government distorts, for better or for worse, is important. In a world where government is an irrefutable reality.