Making Sense of the Great Depression, the Great Recession and… Little Else.The Chicago School and The Austrians: a Tale of Love and Hate.

Explaining/Solving Contractions

Common Knowledge“Austrians prefer to have no central bank, while Friedman wanted a computer to run monetary policy”

“Chicago schools uses the scientific method while Austrians rely on Axioms and Philosophy”

Uncommon Knowledge

Monetarists are naïve and Austrians are skepticalChicago School believe in the real effectiveness of controlling the Monopoly of the MS.

Austrian School understand the potential danger of discretional MP.

Monetarists are post and Austrians are pre.Austrians blame the GD on unsustainable boom from printing too much money.

Chicago boys blame the length and magnitude of the GD on printing too little money.

The Chicago School

“A Monetary History of the United States, 1867–1960” – Friedman, M.; Schwartz, A. (1963)

”Inflation is always and everywhere a monetary phenomenon.”

Monetarism in a nutshell:

MS GDP in short run

MS P’s in the long run

*Thus, MP effective when targeting the GROWTH RATE of MS.

The Chicago School

Friedman's k-percent rule: The money supply should be calculated by known macroeconomic and financial factors, targeting a specific level or range of inflation.

The Chicago School

**Friedman opposed to the Cost-push mode of inflation.

If MS is constant, external shock (e.g. increase in oil price) will decrease the Money available for other goods and services The price of those goods will fall Offsetting the initial external shock.

1&2 Doherty, B. (1995, June 1). Best of Both Worlds. Retrieved September 8, 2011, from Reason MagazineWeb site: http://reason.com/archives/1995/06/01/best-of-both-worlds/4

The Chicago School

**Friedman opposed the existence of the Federal Reserve, but since it’s unavoidable, he sought ways to improve its functioning:

• "The difference between me and people like Murray Rothbard is that, though I want to know what my ideal is, I think I also have to be willing to discuss changes that are less than ideal so long as they point me in that direction”1

• “So while I'd like to abolish the Fed, I've written many pages on how the Fed, if it does exist, should be run”2

1&2 Doherty, B. (1995, June 1). Best of Both Worlds. Retrieved September 8, 2011, from Reason MagazineWeb site: http://reason.com/archives/1995/06/01/best-of-both-worlds/4

The Austrian School

Subjective Theory of Value

The Marginal Revolution

The Economic Calculation Problem

Austrian Business Cycle Theory (Capital-Based Macroeconomic Theory)

How Austrians Understand the Business Cycles?

Macroeconomic Propositions have Microeconomic Foundations

Austrian Business Cycle Theory (Capital-Based Macroeconomic Theory)

Böhm-Bawerk built upon the TIME PREFERENCE ideas of Carl Menger there is always a difference in value between present goods and future goods of equal quality, quantity, and form. Moreover, the value of future goods diminishes as the length of time necessary for their completion increases.

Austrian Economics understand that “K” is never homogeneous.

Inter-temporal consumption.

How Austrians Understand the Business Cycles?

*This is the key insight of the Austrians: you cannot pretend to massage Aggregates and expect a perfect “trickling down.” Instead, if you interfere, you will create market distortions.

What distortions? Mainly interfering with the market signals of the price system (Supply and Demand for Money).

Therefore, booms and bust cycles are NOT a normal feature of a market economy.

Money Market

The market process plays itself out differently depending upon whether the increased supply of loanable funds derives from increased saving by individuals or from increased credit creation by the central bank.

The Evidence

Chile and the Chicago School in the 1980’s

Volcker stood against Reagan.

Reaganomics and Thatcherism.

The Evidence

Chile and the Chicago School in the 1980’s

ConclusionsSimilarities

Both Schools opposed the existence of a Ctrl. Bank (¿?) Both concerned about Monetary Discipline. Both condemned irresponsible Monetary Expansion.

Differences

Chicago School also concerned about Monetary Contraction. How do we achieve Monetary Discipline (Monopoly vs. Competition)

Chicago opposed the Gold Standard. How do we fine tune in the economy. Pre and Post

Conclusions

Contributions of both schools need not be mutually exclusive.

Pre versus Post Dichotomy Pre and Post Harmony.Austrians avert unsustainable booms while Chicago school propose a recipe for the bust.

By offering both a Pre (unsustainable boom) and Post (bust recipe) analysis, both schools can compliment each other by completing the “Aggregate Recipe” for economic adjustment..

Conclusions

Austrians offer the only tested mechanism in history for “accurate” forecasting.

Chicago school offer a tested and powerful mechanism to avoid contractionary spirals.

Both schools offer a recipe for Monetary Discipline.

Doherty, B. (1995, June 1). Best of Both Worlds. Retrieved September 8, 2011, from Reason Magazine Web site: http://reason.com/archives/1995/06/01/best-of-both- worlds/4

Conclusions

Who is the academic winner? The Chicago School

Who is the policy winner? The Chicago School

Who is more influential? The Chicago School

Who will remain in the shadows? The Austrian School

Who wins in the battle-field? The Austrian School

Then, how come the Austrians cannot become influential? It does NOT give much room for political action and supremacy.