Similar Theories
The Austrian theory is considered one of the precursors to the modern credit cycle theory, which is emphasized by Post-Keynesian economists, economists at the Bank for International Settlements, and by a few mainstream academics such as Hyman Minsky and Charles P. Kindleberger. These two emphasize asymmetric information and agency problems. Henry George, another precursor, emphasized the negative impact of speculative increases in the value of land, which places a heavy burden of mortgage payments on consumers and companies.
A different theory of credit cycles is the debt-deflation theory of Irving Fisher, which is today placed in the Post-Keynesian tradition. The difference between these may be stated as debt-deflation being a demand-side theory, which emphasizes the period after the peak – the end of a credit bubble and contraction of debt causing a fall in aggregate demand – while the Austrian theory is a supply-side theory, which emphasizes the period before the peak – the growth of debt during the growth phase causing malinvestment. The theories may thus be seen as complementary, addressing different aspects of the issue, and are so-considered by some economists.
In 2003 Barry Eichengreen laid out modern credit boom theory as a cycle in which loans increase as the economy expands, particularly where regulation is weak, and through these loans money supply increases. Inflation remains low, however, because of either a pegged exchange rate or a supply shock, and thus the central bank does not tighten credit and money. Increasingly speculative loans are made as diminishing returns lead to reduced yields. Eventually inflation begins or the economy slows, and when asset prices decline, a bubble is pricked which encourages a macroeconomic bust.
In 2006 William White argued that "financial liberalization has increased the likelihood of boom-bust cycles of the Austrian sort". While White conceded that the status quo policy had been successful in reducing the impacts of busts, he commented that the view on inflation should perhaps be longer term and that the excesses of the time seemed dangerous. In addition, White believes that the Austrian explanation of the business cycle might be relevant once again in an environment of excessively low interest rates. According to the theory, a sustained period of low interest rates and excessive credit creation results in a volatile and unstable imbalance between saving and investment.
Read more about this topic: Austrian Business Cycle Theory
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