The Austrians, the Keynesians, and Ayn Rand

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By Vinay Kolhatkar

August 26, 2018



Dr. Richard M. Ebeling is the BB&T Distinguished Professor of Ethics and Free Enterprise Leadership at The Citadel. He conducts courses such as “Leadership, Entrepreneurship, and Capitalist Ethics” as well as “The Morality and Economics of Capitalist Society.”

Dr. Ebeling is recognized as one of the leading members of the Austrian School of Economics and is the author of Austrian Economics and Public Policy: Restoring Freedom and Prosperity (Future of Freedom Foundation, 2016), Monetary Central Planning and the State (Future of Freedom Foundation, 2015) Political Economy, Public Policy, and Monetary Economics: Ludwig von Mises and the Austrian Tradition (Routledge, 2010), Austrian Economics and the Political Economy of Freedom (Edward Elgar, 2003), and editor of the three-volume, Selected Writings of Ludwig von Mises (Liberty Fund, 2000, 2002, 2012).

Prior to his appointment at The Citadel, Dr. Ebeling was professor of Economics at Northwood University in Midland, Michigan (2009-2014). He served as president of the Foundation for Economic Education (2003-2008), was the Ludwig von Mises Professor of Economics at Hillside College in Hillsdale, Michigan (1988-2003), and Assistant Professor of Economics at the University of Dallas in Texas (1984-1988).

Professor Ebeling (RE) kindly engaged in a wide-ranging Q&A with Vinay Kolhatkar (VK) of The Savvy Street. Here is the transcript.


VK:     Is there an easy way to define the study, or can we call it the science, of economics?

RE:      I would suggest that economics is the study of human action and choice, which includes an appreciation and analysis of the market and social interactions of multitudes of people that often contain numerous unintended consequences. Human action and choice focuses on the fundamental logic of individual decision-making under conditions of scarcity, which results in the need for ranking alternatives in order of importance to the individual, the weighing of (marginal) costs and benefits, and the necessity to accept the reality of trade-offs that will have to be made.

The market is the arena of life in which individuals discover potential gains from trade between them, the benefits from specialization and division of labor, and the possibility for complex social order of multitudes of people separated by time and space for cooperative competition and coordination through a price system.

The market is the arena of life in which individuals discover potential gains from trade between them, the benefits from specialization and division of labor, and the possibility for complex social order of multitudes of people separated by time and space for cooperative competition and coordination through a price system.

Unintended consequences highlight that human knowledge is too limited to successfully know or anticipate all that our human actions may bring about, especially in the arena of social interaction. This brings out the fact that much that we call the “institutions” of society are the “results of human action, but not of human design.” And that attempts to impose economy-wide planning on society has essential limits and impossibilities that lead to the conclusion that it is best to confine government to narrow functions meant to secure and protect individuals in their lives, liberty and honestly acquired property.


VK:     Is it possible for economics to be detached from an ethical foundation?

RE:      Yes and no. How is that for a definitive answer? Yes, economics is or can be a “value-free” science or discipline of study, in the sense that it is the understanding of the general logic of how individuals choose and act, given their ends and their choices of means, and what the consequences or outcomes may be when their actions and interactions occur in different institutional arrangements (e.g., with or without clearly defined property rights; with or without freedom of voluntary contract, with or without a functioning price system, etc.). The social and economic analyst may or may not agree with the ends and means the individual chooses or may or may not consider the institutional arrangements the “best”” or “worst” ones. He can “objectively” simply analyze the intended and unintended consequences that may emerge.

Invariably, even the “objective” and dispassionate analyst approaches his subject-matter with some valuational presuppositions.

But, invariably, even the “objective” and dispassionate analyst approaches his subject-matter with some valuational presuppositions. Is it better or worse for individual human beings to be free and responsible people? Is it desirable that individuals should be at liberty to enter into free and voluntary associations and relationships with others? Is it “right” that individuals be allowed to keep the peaceful and voluntarily obtained fruits of their own labor?

From a policy perspective, the economist may make “value” statements from two orientations: First, do the means chosen by the people being analyzed actually succeed in bringing about the ends for which they have been applied? And, second, the analyst may make a value judgment about what he considers to be desirable outcomes given the ends and means he considers “good,” “right,” and “desirable” as he sees a “good society.”

For instance, I am a classical liberal who has been greatly influenced by the “natural rights” tradition (John Locke, Benjamin Constant, Frederic Bastiat, Ayn Rand), so I approach the issue of judging free and unfree societies differently than how a collectivist (of any stripe) would do so.


VK:     Is mainstream economics wholly an implicit advocate of a statist ideology? In that, is a premise that “markets don’t work” written into its very foundations as an axiom?

RE:      This is a tricky question to answer. Many economists will often make policy statements that prescribe various forms of government intervention, regulation, and redistribution. But, I think that in many cases this becomes the “logical” conclusion to their analysis due to the economic “models” they use in their theories. Thus, for instance, in “microeconomics” the mainstream textbooks present theories of “perfect competition” and “monopoly” that due to the assumptions in these theories and the conclusions derived from them, the “real world” seems to fall short of defined “optimality” or “efficiency.” Hence, given the definitions of efficient or optimal market outcomes in these models, it seems to follow that various forms of government intervention and regulation are needed to make the real world fit the conclusions of the models.

A different theoretical conception of competition such as that found in, say, Friedrich A. Hayek’s analysis of the inescapable imperfect and divided knowledge in society and the idea of competition as a “discovery procedure,” leads to a significantly different notion of how markets work and how the outcomes of competitive markets should be judged.

In other words, the analytical or theoretical pair of glasses that the economist uses to look at and understand the social and economic world greatly influences how he evaluates for policy purposes the outcomes observed and the processes by which these outcomes emerge.

The problem with modern “macroeconomics” (which had its origin in the writings of John Maynard Keynes in the 1930s) is that the starting presumptions of many of the models is that there are inherent aspects to market economies that generate “failure,” that is, less than “full employment,” less than “potential” Gross Domestic Product, etc.

The problem with modern “macroeconomics” (which had its origin in the writings of John Maynard Keynes in the 1930s) is that the starting presumptions of many of the models is that there are inherent aspects to market economies that generate “failure,” that is, less than “full employment,” less than “potential” Gross Domestic Product, etc. If you start with these assumptions and have built into the macro models presuppositions that imply that there are “rigidities” that prevent a continuous or a speedy return to full employment and potential GDP, it logically follows that you need government “activist” monetary and fiscal policy to correct those economy-wide failures of the market.

Finally, I think that many interested students come to economics with a sense that there are social injustices and “market failures,” and they hope that economics will show how “wise” policies can make the world a better place. The economic models in the textbooks and the biases of many in the economics profession play to the idea that government action can solve these injustices and failures.

But it need not. A professor has his students as a “captive audience” for an entire semester. If the professor, instead, explains the nature of the social and economic world in the context of the type of ideas found in Adam Smith and Frederic Bastiat, or Henry Hazlitt in “Economics in One Lesson,” and an understanding of markets and the market process as explained in the writings of, say, Ludwig von Mises and F.A Hayek, those students can appreciate that many of the very “social ends” they desire are either unattainable, or can only be achieved through free, competitive markets; or if pursued by various government policies, they will either make things worse by their own standards, or involve the loss of other values or good things they often also say are desirable.


VK:     If I say “All rational economics is the recognition of the principle that voluntary-exchange markets always work to the benefit of all participants and one proceeds from there,” would you agree? Could that (as against the study of individual action) be the defining principle of the Austrian School? Could that be the defining element that eliminates Milton Friedman and the Chicago School from a free-market label (since they buy into fiat money?)

RE:      I think it is a bit much to say that Milton Friedman and the “Chicago School” are “eliminated” because they “buy into fiat money.” If you read Ludwig von Mises carefully, he argued that there might be instances (in some narrow circumstances) under which government intervention could reduce some “negative” effects from monopoly. He also argued that there were circumstances in which government deficit spending might be more efficient and “just” than funding a war through taxation. Does that “eliminate” Mises and the “Austrian School” from the realm of “rational economics”?

What we can say is that individuals are confronted with scarcity (an insufficiency of useful means to be able to attain all the desired ends for which those means might be applied); individuals find it necessary, therefore, to decide which of those ends they value more and which they value less, since at the margin to gain more of one desired goal or end will require foregoing or giving up some other end (at the margin); if someone else has something you value more highly than some other thing you have, and if the other person values these two things in the opposite way, then each can be made better off from their own perspective if they trade way what they have for what the other person possesses.

And if you consider it “good” or “more preferred” that individuals make themselves better off than they are (as they, respectively, define “better off”), then voluntary exchange is “good” and is a “rational” method of bringing it about. And it would not be “good” if one of the transactors were forced to enter into the transaction because the fact that you have to force him to trade away what he possesses for something else demonstrates that he does not consider it a “gain” from his perspective. Hence, forced trades involve making one person better off at the expense of making someone else worse off (as that second person defines it).

While I may disagree with Milton Friedman on a number of specific policy views that he held (for instance, school vouchers, a negative income tax, a government managed fiat monetary system), and his view of the methodology of economics as a science, there were few people in the 20th century who were as clear, articulate, and persuasive in explaining the core principles of freedom and the free market.


VK:     What are the key differences between the New Austrian School that Professor Antal Fekete founded, and the Austrian School? Do you think the differences were significant enough to warrant opening a new school?

RE:      In general, as I understand it, Antal Fekete holds some views on monetary theory and policy that differ from Mises, Hayek, Rothbard and some others. I’m not sure that these differences make an entire “new” Austrian School. It is really just a renewed dispute between what were called the Currency School and the Banking School in 19th century Great Britain.


VK:     The term “fractional reserve banking (FRB)” causes a lot of confusion. Could I define FRB as “on-demand liabilities of banks not actually redeemable on demand”? Thus, as Murray Rothbard says in The Mystery of Banking, as long as banks are held to the same liquidity standard as any other corporation, we are fine, noting also that many time deposits are in fact payable on demand.

RE:      To fully answer this would require far more space than we have available. Let me say the following: I am not persuaded by Rothbard’s argument that fractional-reserve banking is fraud. Freedom of contract, it seems to me, means that if an individual wishes to deposit his money in a bank that publically announces that it operates on a fractional reserve basis, and says that under “normal” circumstances will pay depositors making withdrawals on demand, but may have to suspend such payment temporarily in a time of “abnormal” circumstances; and if that bank includes some abbreviated version of that statement on their bank notes and checks or on their online webpage; and if, therefore, all customers know and understand how the bank operates, and all potential recipients of these notes or checks in market transactions can freely choose to accept them or not at either face value or at a discounted value, I do not see how there is any fraud involved.

Nor do I think that under competitive, private free banking, the existence of banks operating under fractional reserve banking necessarily has to lead to the same “business cycle” problems as exist under government central banking. I devote some extended time to a discussion of this in the second half of my e-book Monetary Central Planning and the State (2015).

(By the way, I use Rothbard’s “Mystery of Banking” as one of the texts when I teach a money and banking course.)


VK:     Can I say “banking is just another form of financial intermediation, and thus banks, too, could function as managed ETFs (exchange-traded funds)”? My argument is that banks could issue, and then list, on an exchange, long-term certificates of deposit that investors could trade, thus enabling intermediation and investor liquidity without making the bank bankrupt and needing a government agency (central bank) liquidity support to survive?

RE:      If we were to operate in a Rothbardian world, for the sake of argument, there would be two types of bank deposits: Checking accounts that would serve as a warehousing function with 100 percent reserves, for which you might be charged a fee. Your money would always be there, 100 percent, like the items in a bank safety deposit box. And there would be various types of time deposits involving different time durations for which money was left on deposit and from which depositors could not make withdrawals without a penalty rate. The time deposits would represent “savings” set aside for a period of time with which the bank could extend loans for investment and other borrowing purposes. The tradability of claims to these time deposits would be a matter of market demand as a transaction across time.


VK:     In your view, can FRB, if not made illegal in its current form, survive the true free market?

RE:      Yes, I do think that fractional reserve banking might very well survive in a free market. It is a matter of consumer choice. I could easily see that there would be a spectrum of such accounts from 100 percent reserves to a much lower fractional reserve. These would reflect consumer (depositor) risk-taking in terms of the rate of interest a private competitive bank might offer for such differing fractional accounts.

Ludwig von Mises, long ago, explained how such a fractional reserve competitive private banking system would operate. It is detailed in his Monetary Stabilization and Cyclical Policy (1928) and in Human Action (1949). The logic of his argument with many detailed refinements has been developed by Lawrence H. White, George Selgin, and Kevin Dowd, just to mention three of the leading “free banking” economists.


VK:     Is the view that FRB creates “money out of thin air” a premise which Austrian Business Cycle Theory (ABCT) irrevocably needs to make its case? If no, how so?

Central banks make money out of thin air, no doubt.

RE:      Central banks make money out of thin air, no doubt because it has little or nothing to do with the income-earner’s consumption-savings choice based on time preference. Savings means a decision to forgo immediate consumption out of income earned. The individual has three choices for use of his earned income: consumption, investment, cash balance holding.

Suppose I’ve earned $1,000. Suppose I spend $500 on immediate consumption (I pay my mortgage, I shop for food, I put gas in my car, etc.). I invest $300 in a business; I forgo the immediate consumption benefits of that $300 by investing in a business the future profits from which (I hope!) will be forthcoming after the period of production (say a year) when I have a finished product to sell on the market. And I choose to hold $200 as a cash balance against future transactions I might find attractive or I know I’ll want to undertake.

For the period of time that I hold that $200 as a cash balance, I am foregoing immediate consumption. In terms of goods I could purchase in the here and now, but that I am not, I am “saving.” For the period of time those cash balances are not being used to demand producible consumer goods, the resources that could and would have gone into their manufacture, are “freed” up for other, more potentially time-consuming purposes.

If instead of holding that cash balance as actual “cash” in my pocket, I leave it unspent as a balance in my demand deposit or checking account, it is available for that bank to lend (along with other similar depositors’ cash balances) to interested borrowers wishing to undertake investment projects, no different than if I used it for an investment project myself. That is why investing through savings at a financial institution is called “indirect investment.” My money saving (and the real resources that money savings represents in the market) is used for investment by another just as much as if I had used my savings directly to invest myself.

Now in the “real world” what I am really holding is an “average” cash balance over the income period. That is, I draw down that cash balance as a certain rate over, say, the two or four weeks to cover my consumption and related expenditures before I receive my next paycheck. A private, competitive bank would work out what the average cash balance holdings of its depositors “normally” were, reflected in the rate of new deposits being made into checking accounts and the rate of withdrawals by depositors over a period of time, say, a month.

This would determine the average cash reserve the bank needs to hold to meet depositor withdrawals relative to new, regular inflows into depositor accounts. Thus, the bank would estimate the average amount of ‘savings” on deposit over that period of time in the form of demand deposits (or checking accounts) unspent, and on the basis of which it could lend to interested, credit-worthy borrowers for various investment purposes.

This would be determined, also, by the demands of other banks through the “clearing house” mechanism for payment in actual cash money for checks and other claims presented to the individual bank in question, which is just another way of the bank knowing the rate at which their depositors are spending money out of their account and for which other banks are demanding cash withdrawals from it on behalf of their clients.

Properly synchronized, private competitive banks would coordinate this type of “savings” with investments for periods of time, just as it would do with, say, a two-year time deposit with which the bank could make a two-year loan to a borrower.

Might a bank or several banks make errors? Of course. But the market would discipline banks to make these decisions as judiciously as possible and there would be market incentives for capital reserves to meet unexpected shortfalls, and insurance policies to cover such “embarrassments,” as well as short-term borrowing from other banks not it this position.


VK:     Of the schools or proponents that do not buy into the harm of FRB as it currently stands, does anyone have a theory of the business cycle that isn’t based on the business cycle being an intrinsic feature of Capitalism to be corrected by government agencies?

RE:      In my opinion, only government central banking contains within it the potential of creating systemic, economy-wide imbalances and distortions normally identified with the “business cycle.” This is done through money and credit creation and interest rate manipulations that throw into imbalance savings and investment in the economy.


VK:     Why is the current nominal interest-rate cycle taking so long to revert?

RE:      Again, in my opinion, it is due to Federal Reserve interest rate and monetary policy. The Federal Reserve created over $4 trillion dollars of new money in the banking system over the last ten years. Interest rates have been intentionally kept low through Fed policy; indeed, for most of the last decade key nominal interest rates have been kept near zero, and when inflation-adjusted (using the CPI as an indicator) they have been in the negative range. Now they are nudging up the very market price (interest rates) they have artificially kept below what any market-based structure of interest rates would have and should have been.

Why has there not been more price inflation? Because while creating this additional $4 trillion dollars “out of thin air,” they have played an interesting trick of paying banks a rate of interest just above the market rate charged to you and me, NOT to lend all the “excess reserves” available for lending purposes.


VK:     Have GDP and CPI lost their value as measures (regardless of policy implications)? In particular, paying some workers $400 to dig a hole and $500 to fill it up again adds $900 to GDP. Building “bridges to nowhere” can add many millions. Even common sense tells us that this is absurd.

RE:      Gross Domestic Product has many of the inconsistencies and contradictions to which you are referring. The Consumer Price Index is equally a poor indicator of price inflation. The Austrians have long emphasized the limits and problems with all such measurements.


VK:     Is the Austrian School linked to anarchism as a political philosophy because of Murray Rothbard and Walter Block or is there anything intrinsic to the Austrian corpus of economics that requires the link be made?

I do not know of one notable “Austrian” before Murray Rothbard who advocated anarchism.

RE:      First, most Austrians going back to Carl Menger and Eugen von Böhm-Bawerk in the 19th and early 20th centuries to Ludwig von Mises and Friedrich A. Hayek have been limited government market advocates: classical liberals, in other words. Indeed, I do not know of one notable “Austrian” before Murray Rothbard who advocated anarchism. This is not to say that that makes him wrong or right. It is just that the Austrian School traditionally has not been identified with anarchism.

In fact, Mises was vehement in his opposition to anarchism in his writings beginning in the 1920s. If anything, many more Austrian economists were proponents of greater degrees of government intervention than Mises in the 1920s, 1930s, and 1940s. There was even a prominent Austrian School member in Vienna who was a Nazi collaborator after Hitler’s annexation of Austria in 1938.

From an economic point-of-view, the entire issue is a “technical” one. That is, can a social system, including police, courts, and defense, operate on the basis of private provision of these services, or does it require, because of their unique properties, a monopoly agency to supply  what is usually called “government”?

From an ethical perspective, the issue has concerned whether or not a compulsory “taking” to fund even the most minimum “defensive” government functions is morally justifiable. There have been limited government advocates who have tried to show how that problem might be circumvented through user fees or lotteries.

I will merely say: some of my best friends have been limited government advocates and some of my best friends have been anarchists. In this I am an “equal opportunity” friend of those who believe in liberty.


VK:     Do you, or the Austrian School of Economics qua economists, have a position on Intellectual Property law?

RE:      This, too, is an issue about which there is no uniformity of views among the Austrians. Mises, for instance, took a pragmatic view concerning the value of such intellectual properties to create innovating incentives. Fritz Machlup, another well-known Austrian who was a student of Mises’s in Vienna in the 1920s, wrote about the patent problem in the 1950s. But others, more recently, have taken different views.


VK:     Where do you think the world economy is headed by, say 2030? Is a technical U.S. bankruptcy on the cards?

RE:      One of the most difficult things to predict is the unpredictable. Feel free to quote me on that!

After the fact, everything seems “obvious” and “inevitable.” Reading the works of writers in earlier times in terms of their analysis and anticipations of what was to happen in the periods just following their own makes it very clear that in many if not most instances of supposedly “inescapable” trends ended up being different than what was thought. If not in the general directions that in fact were followed, then certainly in most of the details from what was expected.

If we dislike the ways things seem to be going, it is our duty and obligation to do all in our intellectual power to try to change those trends.

If current fiscal and other government trends continue the way they have been, and nothing else emerges to interfere with where things seem to be going, the United States will face in the not too distant future serious financial and economic crises. But we can only wait and see. And if we dislike the ways things seem to be going, it is our duty and obligation to do all in our intellectual power to try to change those trends.


VK:     Is it possible to summarize the damage done by mainstream economics generally? Do they at least buy into marginal utility determining prices (perhaps without acknowledging Austrian Böhm-Bawerk as its originator and its effective rebuttal of Marxian theory of value)?

RE:      First, I do not know any economist, except some rare Marxists, who do not understand and explain price formation other than through the logic of marginal decision-making by buyers and sellers. The damage done by mainstream economics has arisen, as I explained earlier, from the peculiar theoretical models with which they analyze markets and deduce policy conclusions. And, of course, too many economists, like too many others in society, have a collectivist mindset concerning man, society, and the role of government.

The thinking of many economists, in this sense, is merely a product of “the spirit of the times.” That is, “Well, everyone knows that capitalism failed and caused the Great Depression.” “Everyone knows that greedy businessmen are destroying the planet.” “Everyone knows that it’s only fair for everyone to earn at least a minimum wage of $15 per hour.”

That’s the mindset that has to be changed. But that requires a rediscovery of a philosophy of individualism, and an ethical appreciation of voluntarism instead of compulsion in human affairs. This type of foundational change does not happen naturally over time. And it usually only happens when some crisis or catastrophe has required, indeed psychologically forced, people to rethink almost everything they have been taking for granted.

But as Ludwig von Mises once said, trends can change. They have changed before and they can change again. It just requires people with the moral courage to try.


VK:     Do we need a new theory of economic growth, a growth that’s tied to innovation, and the conceptual faculty of humans, and the increases in capital which arise as a consequence?

RE:      I really don’t think a “new” theory is needed. Economists since the time of Adam Smith have understood the human and institution circumstances most needed to cultivate the desire and the incentive and the opportunity for innovation, creativity, and industry. And it has certainly been emphasized by a number of insightful thinkers closer to our own time. Joseph Schumpeter was one such thinker. Even if one does not fully agree with the analytical framework he devised, he strongly emphasized the characteristics of the innovative entrepreneur and the role of market institutions to cultivate and foster it. And the same can be said about Ludwig von Mises in his own way, and his student Israel Kirzner.


VK:     Do you have a view on the works of Ayn Rand that you wish to express? Is the Austrian School, in your opinion, compatible with her philosophy?

As it used to be said, “It Usually Begins with Ayn Rand,” and in my case it did.

RE:      As it used to be said, “It Usually Begins with Ayn Rand,” and in my case it did. I came across her writings when I was about 16 years old back in the mid-1960s. I even had the opportunity to meet and talk with her briefly at the old Nathaniel Brandon Institute in New York City. She was as impressive in person as were her ideas on the pages of her books. I doubt that I would hold the views and values that I do, if I had not been introduced to her philosophy and political analysis.

This, too, would obviously require a different context with a lot of space, but much in Austrian Economics is compatible with her outlook. Recall that while Rand did not agree with Ludwig von Mises’s utilitarian philosophy or what she interpreted as Mises’s meaning of subjectivism, he was the contemporary economist she most highly regarded and most frequently referenced for others to read.


VK:     Which works in philosophy or economics do you most admire?

RE:      The list in economics would be just too long. Let it be sufficient for me to repeat, the leading members of the Austrian School, and among other modern economists, I have learned a great deal from Thomas Sowell, Peter Bauer, Leland Yeager, and James Buchanan, for instance. If I kept naming, the names would likely be those that few others have heard about. I’m a big fan of obscure, dead, but often profoundly interesting and insightful economists that everyone else seems to have forgotten. I’m just that kind of guy.


VK:     Thank you for giving us your valuable time, Professor Ebeling, and for your continuing spirited defense of free markets. We wish you enduring success in your endeavors.

RE:      Thank you.



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