New York manufacturing stumbles

In the Ricardo Effect, Hayek’s chief contribution to the Austrian business-cycle theory (ABCT), the turning point in the cycle from expansion to recession happens when the makers of consumer goods and services employee more workers and buy less equipment. Equipment makers face plummeting sales and rising costs for materials and labor, and therefore a profits squeeze. So they cut back on production.

Signs of that may have appeared in New York. The New York Federal Reserve released its August 2015 Empire State Manufacturing Survey reporting that the index fell to -14.9, its lowest level since 2009 in the depths of the latest recession. Naturally, economists had expected the number to be +3.86. A positive number suggests growth ahead and you can guess what negative numbers mean.

Ghost of Ricardo Haunts Europe and Japan

The ghost of David Ricardo must be sending chills up the spines of the economists of Europe and Japan. They may not understand what causes those chills because of the poverty of their education. The US may soon experience a similar visit. Here is how the Wall Street Journal put it in email newsletter:

Can the U.S. go it alone? All of a sudden, economic data from around the world is looking decidedly worrisome. China on Thursday showed stark, sudden slowdown in lending and home buying in July, while Europe’s second-quarter results confirmed everyone’s worst fears, with Germany registering a contraction for the quarter and the euro zone as a whole failing to grow. This comes after a very big slowdown in the same quarter for Japan, the world’s second-biggest economy.

Recession without rising rates?

Can a recession, and the simultaneous meltdown of the stock market, happen without the Fed raising rates? Hayek wrote Prices, Interest and Investment to show that it could and he used Ricardo Effect as the principle to demonstrate it. 

When I decided to teach an intro class in economics at a small private college, I worried about delivering mainstream economics when I had become convinced of the Austrian approach after earning an MA in managerial economics at the University of Oklahoma. But as I taught I realized that mainstream economics textbooks teach a lot of Austrian economics; mainstream economists just don’t know it.

Mainstream economics textbooks present economics as a series of unrelated topics. Even mainstream macro economists have recognized the animosity between micro and macro. I found that the Austrian aspects come out when I stitch together those disjointed topics. Here is an example of how I teach the Austrian business-cycle theory and Hayek’s Ricardo Effect using nothing but the tools presented in standard intro textbooks.

Resurrecting Hayek’s Ricardo Effect will disappoint a few Austrian followers who, having done a quick search of the internet on the topic, have decided that critics demolished Hayek’s theory decades ago. Hayek introduced the effect in his Prices, Interest and Investment and amplified it in The Pure Theory of Capital. The only contemporary author that I’m aware of who takes it seriously is Jesus Huerta de Soto in his book, Money, Bank Credit and Economic Cycles. I include it in my book, Financial Bull Riding.

Hayek didn’t respond to many of his critics so some assume that Hayek had given up on the Ricardo Effect, but he hadn’t. Hayek recognized that his critics didn’t understand the effect because they had a poor grasp of capital theory. In fact, anyone who has read the three descriptions of the effect mentioned above will immediately grasp that Hayek’s critics attacked straw men, but never Hayek’s Ricardo Effect. Hayek answered his critics with Pure Theory of Capital.