Daniel Kuehn on the Austrian Business Cycle Theory

Daniel KuehnontheAustrianBusinessCycleTheory

Daniel Kuehn has an important and very interesting paper here on the Austrian business cycle theory (ABCT):

Daniel Kuehn. 2013. “Hayek’s Business-Cycle Theory: Half Right,” CriticalReview 25.3–4: 497–529.

Three insightful critiques of the ABCT are these:

(1) the empirical evidence suggests that business people do not respond to interest rates in the way the ABCT predicts: interest rates do not much affect production decisions in already established firms (Kuehn 2013: 505, citing Tullock 1987 and Akerlof et al. 2000: 505), especially if they have excess capacity.

The finding of Davis, Haltiwanger, and Schuh (1996) “suggests that most job creation (and destruction) happens at large, mature establishments which are presumably primarily making capacity-utilization decisions rather than new capital-expenditure decisions” (Kuehn 2013: 506).

In fact, the overrated role of interest rates in determining investment has been known since the 1930s. Work by the Oxford Economists’ Research Group (OERG) (instituted at Oxford University in 1936) found that interest rates had considerably less influence on investment decisions than standard economic theory held, and that uncertainty was an overriding factor in the investment decision (Lee 1998: 88).

(2) Another finding that contradicts Hayek’s theory is that

“Cowen (1997) points out that over the course of the business cycle, investment and consumption move together, a phenomenon he refers to as ‘comovement.’ For at least two reasons, Hayek’s theory predicts that investment and consumption should move in opposite directions during the business cycle, with investment rising in the boom and declining in the bust.” (Kuehn 2013: 507).

As Kuehn points out, Austrian attempts to answer this still contradict Hayek’s theory and even suggest that no “rebalancing” or “bust” needs to happen in the economy at all (Kuehn 2013: 508).

(3) Kuehn also analyses some of the twenty empirical evaluations of Hayek’s ABCT listed here:


Kuehn concludes that, if lengthening of the capital structure has validity, the capital structure actually “lengthens and contracts as a consequence of the business cycle, rather than as its cause” (Kuehn 2013: 523).

Post Keynesians, I suspect, would press more strongly Sraffa’s critique of Hayek on the non-existence of the natural rate, the problems with loanable funds, the irrelevance of Hayekian versions of the theory that use a general equilibrium framework, and other problems listed here.

Nevertheless, this paper makes productive reading.

Akerlof, G., Dickens, W. and G. Perry. 2000. “Near-Rational Wage and Price Setting and the Long-Run Phillips Curve.” Brookings Papers on Economic Activity 1: 1–44.

Davis, S. J., Haltiwanger, J. C. and S. Schuh. 1996. Job Creation and Destruction. MIT Press, Cambridge, Mass.

Kuehn, Daniel. 2013. “Hayek’s Business-Cycle Theory: Half Right,” Critical Review 25.3–4: 497–529

Lee, Frederic S. 1998. Post Keynesian Price Theory. Cambridge University Press, Cambridge and New York.

Tullock, Gordon. 1987. “Why the Austrians Are Wrong about Depressions,” Review of Austrian Economics 2: 73–78.

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