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Fundamentalism in Market Economy: The Austrian School and the Problem of Suffering

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This is the next part in a series on the Austrian school of economics. The previous part is here.

Thus, when critics direct their efforts against the Austrian School they frequently do so within their own analytical framework, which is completely inadequate to accurately interpret the Austrian contributions to the science. They attack part of the theory without realizing that the various parts that make up the Austrian understanding of the market process are all interconnected within the “whole.”

There is a tendency toward the uniformity of profit and prices, both geographically and intertemporally. This tendency is interrupted by the dynamic nature of the market, due both to changing preferences and to technological progress, as well as any permanent cost inequalities, such as differences in the cost of transportation over varying distances. (Catalan, The Foremost Austrian Contribution to Economic Science, 2011)

 

The consequences of government spending can only be properly assessed within the framework of market coordination. If socialized investment is truly warranted, then the results of the investment must be better than the result that would have occurred had those same resources been economized by individuals on the market.

In other words, the government’s method of deciding on investments would either have to enjoy the same characteristics as the market’s, and the government a better entrepreneur, or the government’s method would itself have to be in some way superior. We can rule out the latter option on the grounds that we know that the only method of economic calculation is by individuals through the pricing process. Therefore, government investment is inherently inferior to free-market investment.

Individuals economize resources based on their own preferences and their own ends and based on the expected preferences of others, which are partly reflected through the price mechanism and oftentimes predicted through other means of information as well. Even producers of capital goods removed from the final consumer by one or more phases derive their profits from consumer satisfaction, since the demand for their products is decided by the entrepreneurs who are directly supplying the consumer. (Catalan, 2011)

 

It seems that in the Austrian School, there appears to be a kind of social myopia that refuses to acknowledge that the free market in its purest, non-government interventionist form could be the source of human suffering. They exhibit a kind of myopic belief that the unfettered market will best solve deficiencies which result in human suffering. The myopia comes in when the temporal aspect of the market is considered. Even if the market is the most efficient means for solving deficiencies in real need such as shelter, clothing, health care, etc. what is meant and governed by ‘efficiency’ needs to be made explicit. From my reading, the Austrian School’s notion of efficiency is thought and governed by the lowest possible market pricing. This is very reminiscent of Adam Smith:

“The price of monopoly is upon every occasion the highest that can be got. The natural price, or the price of free competition, on the contrary, is the lowest which can be taken, not upon every occasion indeed, but for any considerable time together. The one is…the highest which can be squeezed out of the buyers…The other is the lowest which the sellers can commonly afford to take…. The monopoly price is most often sustained by “the exclusive privileges of corporations (65)” (Smith, 1776)

The Austrian School believes that the government acts as a monopoly. I have yet to find writings about how that market itself can generate monopolies without government involvement as Adam Smith believed. It would be interesting to find their position on market monopolies that do not involve the government and central banking. In any case, the myopia seems to stem from their fascination with free market pricing as the lowest possible and thus, the most efficient. What is lacking when market pricing governs that equation is the temporal aspect of the pricing mechanism.

Human need is certainly addressed by pricing and availability but it is also essentially related to a critical temporal window wherein pricing and availability themselves become relevant. If pricing and availability are thought in a-temporal terms then, human need gets addressed in whatever time frame the market dictates. This time frame has no direct obligation to interim suffering and death. Of course, the point could be made that given enough suffering and death while waiting for pricing and availability to meet demand, the market would eventually answer the call. However, the gap in time to meet the need and ongoing suffering appears to have no place in market fundamentalism.

If the government is analyzed from the perspective of pure investment only, the Austrians make the point:

Overall, we can safely conclude that government spending causes more harm than good; it redistributes the means of production toward the attainment of ends considered inferior by the individuals who make up the society that government is allegedly acting to improve. (Catalan, 2011)

However, the ‘overall’ pronouncement blindly assumes that government spending is only about investment. This assumption completely leaves aside the possibility that government spending may also occur in order to address needs that the market has not yet found a pricing solution for but must be addressed immediately to stop human suffering which cannot wait. While any government spending could be analyzed as an ‘investment’ and its effects on the economy, there are clearly times when that analysis must be put aside for more immediate concerns. War is one case in which market pricing is irrelevant to action. If a war is considered just, it implies that the justification for war is to stop human suffering that cannot wait for the market to decide. It may be the suffering of non-citizens or the defense of the country which implies the suffering of citizens. In any case, war is a situation where government spending gets a reprieve from a strict market analysis. Likewise, other immediate needs that trump market analysis have traditionally been issues surrounding food, shelter and health care. In 1986 Ronald Reagan, certainly a free market Republican of sorts, enacted the Emergency Medical Treatment & Labor Act which required hospitals “to ensure public access to emergency services regardless of ability to pay”. There is no discussion here of emergency rooms waiting for the market to decide. These examples circumscribe bounds of government spending that cannot simply be constrained to a market investment analysis.

In light of pressing human needs that cannot wait for the appropriate market response, it would be really interesting to hear from the Austrians on what their solution would be. Would Austrians push their market analysis to the point that would prohibit ANY government intervention in these kinds of ‘extraneous’ issues and instead, advocate waiting for market solutions? Would their analysis allow government intervention in case of war but none other? It seems to me that the silence has always been deafening with fundamentalist free market advocates. It is like pulling teeth to get them to concede any of these exceptions. They seem to approach it like a slippery slope argument where one concession means the whole abnegation of free market capitalism. This kind of silent treatment gives the impression of unreasonableness. It looks as if they would protect market dynamics over pressing human needs. It is understandable how this myopia can be taken as a protection mechanism for those that do not have immediate needs at the cost of those that do have immediate needs. This is a very ugly portrayal that gets its life from the silence of fundamentalists, free market advocates. It seems to me that there are two possible reasons for their deafening silence. If they are pressed into silence because their answer would not even be palatable to them, they demonstrate a self-defeating ideology that can only succeed under the cover of denial, secrecy and elitism. If they lack the courage to address the issues of immediate human need at the risk of their fundamentalist, market certainty, they appear to ignore human suffering in favor of unmediated fanaticism. It seems to me that this kind of market conservatism is a definite and discrete step away from the older conservatives that would not force their ideological purity this far.

As I mentioned in the note to the last part of this series, the system of Austrian economics seems to derive its essence from a continual and circular deferral. It functions as a whole or nothing at all. Any criticism must be deflected by deferring to the whole. Its telos, its completion is never piecemeal but integral to the entire system. As mentioned at the top, “various parts that make up the Austrian understanding of the market process are all interconnected within the “whole.”” This reminds me of Hegel’s Logic where Hegel states:

Each of the parts of philosophy is a philosophical whole, a circle rounded and complete in itself. In each of these parts, however, the philosophical Idea is found in a particular specificality or medium. The single circle, because it is a real totality, bursts through the limits imposed by its special medium, and gives rise to a wider circle. The whole of philosophy in this way resembles a circle of circles. The Idea appears in each single circle, but, at the same time, the whole Idea is constituted by the system of these peculiar phases, and each is a necessary member of the organisation. (Hegel, 2010), Part 1, Section 15

Philosophy misses an advantage enjoyed by the other sciences. It cannot like them rest the existence of its objects on the natural admissions of consciousness, nor can it assume that its method of cognition, either for starting or for continuing, is one already accepted. The objects of philosophy, it is true, are upon the whole the same as those of religion. In both the object is Truth, in that supreme sense in which God and God only is the Truth. (Hegel, 2010), Part 1, Section 1

Further, the refutation must not come from outside, that is, it must not proceed from assumptions lying outside the system in question and inconsistent with it. The system need only refuse to recognise those assumptions; the defect is a defect only for him who starts from the requirements and demands based on those assumptions. (Hegel, 2010), Part 5, Section 1288

Likewise, the circular and self-correcting fundamentalist, mechanism of the Austrian, free market seems to depend on the whole that cannot be criticized individually and only on its own terms. There isn’t much daylight between this and what is commonly called ‘dogma’.

 

 

Catalan, J. M. (2011, March 31). Government Spending Is Bad Economics. Mises Daily .

Catalan, J. M. (2011, January 06). The Foremost Austrian Contribution to Economic Science. Mises Daily .

Hegel, G. (2010). Science of Logic. Cambridge, UK: Cambridge University Press.

Smith, A. (1776). An Inquiry into the Nature and Causes of the Wealth of Nations. London: Methuen and Co., Ltd.

 

Theoria and Austrian Economics [from what I can see]

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First, I want to state that I think vehement argument is somewhat akin to what, I have surmised, the Austrian School could have some commonality. An artifice of insular, academic jargon could be thought as a kind of intellectual credit bubble. It provides certain sheltered, intellectual framework where truths can be maintained or dismissed, careers can be made, artificial ‘bubbles’ of certainty can be maintained that would not be possible without the academic organizational structure. Interdisciplinary argument is a bit like heterogeneity of intellectuality in the ‘free market’ of ideas. When argument is stripped of rigid boundary conditions that defines various traditional paradigms (i.e., Austrian, Keynes, Freidman, Frieburg, etc.), the raw force of the argument is brought to the fore. The tendency for the argument to rely on justifications within its tradition is deemphasized as it must rely more on its own logic and empirical backing. To the degree that an academic discipline sets up its own internal language, unfalsifiable assumptions, barriers to entry and relevancy is to the same degree that it becomes a dogma and not a science (I use dogma and science here more are pure ideals or poles and not any implied designation or a particular discipline). To the degree that academic rigor becomes mesmerized with itself and encrusted in its professional (and economic) certitude is the same degree that it fails to respond to intellectual ‘market’ risk and uncertainties with agility and relevance. On a personal note, I love the free, no holds barred, market of ideas and never mean anything personal or hold personal feelings about the enterprise. I am a bit of an iconoclast and do not recognize artifice or title; only a good, backed up argument. In my opinion there are no ‘educators’ except in sophistry (i.e., paid academicians), -only better students. I am a student most of all and value learning above all no matter if I prevail or fail in the argument. I have learned most when I failed. I make no pretense to knowledge of Austrian economics. I only point out, in a rather nag fly ‘internet’ manner, the problematic issues I perceive.

It seems to me that Austrian economics is too focused on pure capital and not the underlying value dynamic (or better, referent in linguistic philosophy) of capital. To illustrate this, let’s look at this case. There is a tendency for monopolistic endeavor to initially reduce the cost of goods from consolidation, economies of scale, domination of suppliers and systemic abolition of competition through lower pricing and de facto regulation. Once a monopoly has effectively eliminated competitors, created a bubble, there is nothing to stop it from using its position to maximize profits by increasing pricing for some time, effectively regulating the market either with public or private market regulation. Private market regulation would mean prohibiting market entry by, for example, the monopolist requiring ‘compatibility certification’ (by you guessed it) or imputing any kind of standard on the market that requires monopolistic approval. This effectively sets up barriers to market entry and competition and ‘regulates’ the market by its own internally generated rules. A monopoly can effectively produce a lower expectation of cost in the market. This can artificially effect the perception of entrepreneurial investment and perceived cost of entry for production requiring consumption of monopolistically produced goods or services. Furthermore, if market entry is determined and controlled by monopolistic concerns, bubbles can result that the Austrians appear to reserve for central banking. Empirically, these kinds of monopolistic bubbles has occurred the U.S. with railroads and energy to name a few. Monopolistic entities will push risk down to their suppliers, consumers and end producers. As monopolies succeed, this will effectively shift the damage of the inevitable bust to suppliers and consumers. Monopolies effectively become economic ‘governments’. While they may dominate the market, produce the conditions for bubbles and busts, they will eventually become bloated, diluted and dispersed from sheer size. Of course, this assumes that they do not literally become the government as in a monopolistic ‘planned’ economy. It seems that making an essential distinction between private business and public ‘government’ may have some ideological underpinnings and historical, economic artifice. However, the critical dynamics that produce bubble and burst in an economy may be more effectively diagnosed from an analog continuum of small to large organizational dynamics resulting from within the organization, its environment and its market footprint. This would seem to take account of market heterogeneity better than starting with the a priori notion of ‘kind’ (as in public versus private). Certainly there are legitimate differences between public and private that should be part of an economic analysis but when unsustainable assumptions become the ‘economy’ of an intellectual enterprise, inefficient analysis becomes authorized and perhaps, other, more efficient models are dismissed. Why is it that “boom and bust” seems to be only reserved for government intervention (i.e., central banks) and dismissed entirely from the possibility of anything that could happen strictly in the private market?

Additionally, if the ‘government’ or even the central bank system is assumed to be homogenous as opposed to the heterogeny of the ‘free market’, a certain kind of over-simplification seems to prevail. The U.S. government is comprised of states each with constitutionally protected and at times, somewhat ambivalent powers from the Federal Government. The electorate also introduces much uncertainly and heterogeny into the ‘government’. The central bank is not so central. In the U.S., it is comprised of Board of Governors, the Federal Open Market Committee, twelve regional Federal Reserve Banks, and privately owned U.S. member banks with various advisory councils. However, relatively speaking, the U.S. central bank is probably more homogenous than the U.S. Government. The same could also be said of large corporations with board members, executives, management and employees. When the U.S. Government is thought as a monolith, a certain kind of “internet” thinking is imputed on its heterogeneity. These issues need to be thought in terms of the dynamics of relative size, organizational diffusion and market impact not in terms of ‘nouns’ that carry pre-understood connotations.

In contemporary philosophical terms, if the referent of capital (or value) is thought to END in adjectives like ‘free’, ‘unhindered’, ‘just’ [proper function of the] market as opposed to the ‘distorted’, ‘boom and bust’, ‘unjust’ [improper interference] market of government intervention, the referent points to nouns (‘ends’ as determinates) and not verbs. The value of capital is sustained and maintained vis-à-vis an ideal of real and artifice, free and not-free, natural market dynamic as opposed to forced and destructive market regulation, private versus public and authentic versus illegitimate. This is what contemporary philosophy refers to as a meta-language; a language that contains its own terms for what constitutes relevance and minimizes externality. To the degree that externality, the dynamic that faces us, is filtered as already understood theoria is to the same degree that market activity is NOT largely a product of emergent order. I would also add that this will always be a matter of degrees. Theoria is not optional; it is ‘seeing’. However, when it tends towards static, encrusted academic ‘job security’ it shuts down the process of emergence and replays the error of ordination. As Thomas Kuhn would suggest the received beliefs become the normal science that often suppress “fundamental novelties because they are necessarily subversive of its basic commitments”. Thus scientific revolutions are required as “tradition-shattering complements to the tradition-bound activity of normal science”. In Austrian economics I would think this could be coined as ‘boom and bust’.

Fundamentalism in Market Economy: The Austrian School and Regulation

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This is the next part in a series on the Austrian school of economics. The previous parts were here and here.

On regulation Jonathan Catalan states:

In the United States, for example, anti-branching laws and growing restrictions on note-issuing, such as taxes on certain banks’ notes, made it increasingly difficult to respond to information runs caused by inflationary episodes also stimulated by government intervention: namely, the circulation of greenbacks between 1862–71, issued to pay for the American Civil War and the resulting debt, and later fiduciary over-issue encouraged by allowing national banks to issue notes backed by government bonds and the manipulation of the exchange value of gold and silver. Eventually, runs and consequent panics, especially that of 1907, led to the formation of the Federal Reserve System. This did little to constrain banks and actually intensified fiduciary over-expansion, ultimately leading to the Great Depression and the creation of deposit insurance.

So restrictions on note-issuing “made it increasingly difficult to respond to information runs caused by inflationary episodes also stimulated by government intervention”. It is hard to tell from this whether Catalan is in favor of local banks issuing notes but it does appear as if he is not in favor of restrictions on note-issuing. I would wonder, if he is in favor of unrestricted noted issuing by local banks, if he would also favor a reserve requirement on these notes. It would seem that anything less than a 100% reserve requirement would constitute a kind of money creation and thereby allow local banks to loan money they do not have.

However, it would seem that Catalan is not in favor of any reserve requirement regulations when he states:

Also popular are capital controls, which are intended to force banks to hold a certain volume of their own capital against their investments. This is what the three Basel frameworks are, in part, intended to do; in the United States, prior to the 2010 adoption of a framework based on Basel III, these efforts were mimicked by the recourse rule. Different assets were rated against their perceived market risks and then organized into buckets and tranches. Ideally, the riskier the asset the more capital banks have to hold against it. In the event of the liquidation of an investment the bank can partially patch the loss with the reserve.

These regulations have not passed the test.

In any case, the loaned money would not come from ‘savings’ but would constitute an “an artificial increase in loanable funds” by the local bank (see this). The artificial increase in loanable funds would have nothing to do with a central bank. The question that arises is why this artificial increase, originated from a local bank, would have different effect on the cost of capital goods for production and the decision process made be entrepreneurs than the artificial increase made by government owned central banks. Wouldn’t the entrepreneurs still be lulled into a false sense of security from the availability of loanable funds regardless of whether it came from local banks or central banks? It seems this specific dynamic would not be affected by the source of the funds. However, the argument could be made that the local banker would be more discretionary about lending if the banker’s created funds were not covered from a lower interest rate loan from the central bank system. The reasoning would be that if the local bankers risk rested solely on his lending decisions then he would be much less likely to make ill-informed loans.

It is interesting that in view of putting the sole risk for the investment decision on the local banker, Catalan would also appear to favor pulling restrictions on bank branching. When banks branch they are owned and operated from a central, corporate agency. They relinquish sole local control of banking decisions with more or less degrees to their corporate owners. The effect of this is to offset risk to the corporate owners, the central bank. At this point we are faced with the question of why the corporate owners of local banks would have a different effect on the dynamic of local bank investment decisions than a government controlled central bank. Perhaps the argument would be made that the government controlled central bank would exercise orders of magnitude more of the de-localized effect on investment banking than the corporate owned central bank. However, if there are no regulations on how large a corporate owned bank could be as the Austrians would certainly favor, the free market ‘faith’ in competition would be the only limiting factor on corporate owned, centralized banks. One problem with this ‘faith’ is the monopoly dynamics that I previously point out in this series. However, another problem rests on a mathematical assumption. If the government controlled central bank is assumed to be much larger than the corporate owned bank then, it is assumed, that the risk off-load by more centralizing is also linear correlated to the absolute size of the central bank. However, it may be that the relationship is not linear at all. It may be that there are discrete jumps in failed risk assessments on the part of bankers in a privately owned corporate bank that make absolute size differences in the government owned central bank and the corporate owned central bank inconsequential.

Another assumption is that the scope of the malinvestment decisions will have a random distribution pattern over the entire market so that bad individual decisions will have a minimum effect on the whole economy. I will reiterate the pointed I made here:

Additionally, institutional investors do not invest equally and randomly over the entire breadth of the market. Institutional investors invest more heavily in businesses and market segments with proven track records. This has a congealing effect on capital investments in less risky, more certain returns on investment. To the degree that this occurs larger businesses with larger capital resources become the instrument of new business start ups and venture capital gets diverted from unaffiliated [with larger corporations] start ups to market conglomeration dynamics. This natural pocketing of capital resists the notion that a randomized investment pattern offsets risks/loses in the market and therefore exercises the least possible negative effects on individual parts of the market making booms and busts not likely [or less likely] to occur. It is quite possible that because of market conglomeration and even more, market monopolizing, that apart from central banking concerns, booms and busts would still occur and their impact might not be mediated by the idealized, random effects of the pure free market, the fundamentalist’s dream.

These issues cannot just go away by Austrian economists wishing them away. The only way to really resolve them would be with empirical data.

Catalan goes on to state:

Deposit insurance takes the place of market processes that accomplish much of the same thing, but by externalizing the burden of failure to the taxpayer. Deposit insurance, much like last resort lending without ex ante restrictions, causes problems of its own. It eliminates the need for market discipline, or constraints placed upon banks by its clients and investors, because these people are essentially insured against the loss of their deposits. Banks are given leeway to make what are perceived to be riskier investments, and regulators soon saw the need to step in to guard against excessive risk-taking by these regulated financial institutions.

This is an astonishing claim. What this claim fails to recognize is that the individual depositor has no role in that actual investment decision the bank makes. If the banker makes the wrong decision and the depositor losses all his deposit, the banker may learn a free market lesson but the banker has learned the lesson at the cost of the depositor not at the bankers own personal cost. Yes, you could say that the depositor has also learned a free market lesson, not to use that bank. However, the lesson the depositor has learned has come at the cost of his entire deposit so he could make a better decision next time if only he had any money to learn it with. The banker could lose his business if he makes many such bad decisions but he has made a good salary and bonuses in the meantime. The free market lesson the depositor has learned has come at a much higher real cost than the free market lesson the banker has learned. It is an equivocation to make all ‘lessons’ equal by virtue of the free market. The difference in these ‘lessons’ was recognized by the creators of the Federal Deposit Insurance Corporation. They also recognized that when masses of depositors called consumers ‘learn the lesson’ in this fashion the economy tanks.

Finally, Catalan states:

Financial entrepreneurs, however, enjoy a crucial advantage over regulators — they are constrained by the market process. The world is replete with people looking to make a profit, as such there is no shortage of potential bankers. Those who make bad decisions suffer losses and are forced off the market; profits, on the other hand, reward good results. The phenomenon of profit and loss is an essential market process that continuously redistributes capital to those who best use it. This is the “market discipline” that early interventions did so well to marginalize.

Here, the free market ‘faith’ of the fundamentalist is most apparent. This is why I started this series highlighting the guiding philosophy of the Austrian economist rather than merely dealing with specific problems. It is assumed here that the financial entrepreneurs learn their lessons and are forced out by “market discipline”. I wonder if Catalan would acknowledge the possibility that the financial entrepreneurs might learn another free market lesson. Perhaps they will learn that if at first they do not succeed in making a 10 million dollar bonus, only of a 5 million dollar bonus, try, try again. To hope that the bad financial entrepreneurs will get redistributed out of the market without any access to capital may happen at times but it may also be that other factors such as the good old boy network may exert a stronger influence on job security. Even if the bad financial entrepreneur is forced out, the sheer size of his bonuses and salaries relative to other free market laborers may not have the same equivalent affect as other laborers that lose all their depository funds with no other financial recourse. The bad financial entrepreneur has no need of insurance against loss because his loss is only a dip in net personal gain whereas the consumer that deposits all their savings in a depository account and had no role in the bad financial entrepreneur’s investment decisions has only his next paycheck (if there is one) to bank on. There is an inequity in loss here that is ignored and ‘believed’ away by the fundamentalist. When the depositors in the Great Depression lost their faith they did not continue to consume they quit consuming and the deflation that resulted took ten years to recover from. Do the Austrians really want us to try it again to see if it works this time? Not all of us have that much faith.

Note: There is a pattern of continual deferral in this fundamentalist thinking that validates the entire free market process by the ongoing deferral itself. The process itself is thought to be a randomized, distribution that is self-correcting. For example, the free market lesson learned by the manufacturing entrepreneur is passed on to the financial entrepreneur. The financial entrepreneur’s lesson is passed on to the bankers. The banker’s lesson is passed on to the depositor and consumer. The consumer’s lesson is passed on to the manufacturing entrepreneur in terms of consumption and thus, a repetitive singularity occurs that is ‘believed’ to be self-correcting. In other forms of science a singularity in calculations is bad science but I suppose in Austrian economics the singularity is deemed as the self-correcting success of the system. This process is purely abstract in that it thinks losses as lessons and self-correction. It fails to take into account or even allow failures in the system as legitimate, proper failures of the system itself and defers the failures to illegitimate, improper interventions in the system. Thus, it rightly achieves the title of ‘fundamentalism’.