The Austrian school of economics is unique in the field largely due to its reliance on deductive reasoning over empiricism. This doesn’t mean that empirical evidence has no value, only that it is used to confirm rather than develop hypotheses. The use of deductive reasoning led the early leaders of the Austrian school to develop theories in marginal utility, time preference, and the business cycle.
The advantage to such an approach is consistent, logic based argumentation; it is difficult to counter a contention when it is built on soundly applied logic. With sound reasoning, policy decisions can be prescribed with confidence not in their predictive nature but in the certainty that they are pointed in the correct direction.
Since Ludwig von Mises, Austrian economic theory has been grounded in what he termed “praxeology,” the science of human action. With the individual as the starting point, the tendencies of individual action lead the Austrian economist to develop broader economic theory. The fact that an item possessed today is of greater value than the same item possessed tomorrow, for example, enabled Austrian economists to develop theories of interest as it relates to time. These theories could then further be extrapolated, logically, to show how interference with interest rates creates false signals regarding individual time preferences and ultimately leads to mistakes in investment. These mistakes cause the business cycle. The most complex theories put forth by economists of the Austrian school can all be traced back, logically, to the actions of individuals.
The Federal Reserve has a dual mandate: maintain acceptable levels of employment and regulate prices. While the former might appear valid, the latter betrays a lack of understanding regarding economics.
In the free market economy, the natural tendency of all products and services is to decline in price. This is due to both the Law of Demand and free competition. Demand tends to increase as the price of a product decreases. As demand increases, competition increases to supply that demand. Competition results in still lower prices as improvements in production and delivery further increase supply.
When a product is first developed, it’s cost of production is virtually infinite. This cost means that the price to be charged on the market is also virtually infinite. As a result, demand is nearly non-existent. For example, there was nearly no demand for the personal computer when it was first developed. As production of the product is improved, lower costs are realized by the producer and lower prices can be sought on the market. When the price of the personal computer dropped to a level within reach of many businesses, demand increased. As competition emerged, prices continued to fall further spurring demand. Today, the personal computer is ubiquitous.
This is not to say that prices perpetually fall, only that they naturally fall. When, for example, an oil well dries up, it potentially impacts the price of oil; curtailed supply tends to increase the price. In the case of the personal computer, the tendency for price to decline has slowed as competitive products like tablets and smart phones crowd out demand. These natural price fluctuations result from market demands and competition as well as cost of resources.
This brings us back to the Federal Reserve. The purpose of this particular institution was to lessen the impact of the business cycle; periodic drops in economic growth known as depressions were claimed to be inherent in free market capitalism. A central bank, it was argued, was necessary to intervene in markets as a means of avoiding depressions. This goal was to be achieved by fighting the natural tendency of prices to decline. Since the founding of the Federal Reserve, multiple global depressions have occurred, showing how fruitless and counterproductive it is to fight the natural tendency of prices to decline.
The monthly report on the economy released by the Bureau of Economic Analysis last week revealed a much weaker economy than one might expect after seven years of “recovery” from the most recent crisis. While there can certainly be ups and downs in the economy, this most recent skid offers little in the way of confidence for subsequent reports. As the Consumer Metrics Institute makes clear, “…consumer spending growth that remains can be accounted for entirely by increased healthcare costs.” In other words, if consumers had not been forced to pay for increased costs in healthcare resulting from Obamacare, there might not have been any increase in consumer spending at all.
Lackluster reports have been commonplace over the last decade. Having presided over the weakest economic recovery since The Great Depression, Mr. Obama left his successor with a mess. Mr. Trump, already calling for “infrastructure spending“, is no more likely to understand how to stimulate the economy than have his predecessors. Worse yet, his association with big business will undoubtedly saddle free market economics with the blame for the lack of growth. In the end, more bailouts will benefit more bankers and business leaders, the country will swing back toward the left’s failed policies, and the only thing that will grow is the money supply.