Money, Bank Credit, and Economic Cycles - The Ludwig von Mises ...

Additional Considerations on the Theory of the Business Cycle 407loans in favor of the stages furthest from consumption, thusinstigating the typical processes of expansion and recession weare familiar with; or the loans exert their impact on currentconsumption while no additional capacity is freed for grantingloans to industries from the stages furthest from consumption.Only in this second case, insignificant in practice, is therea direct effect on the monetary demand for consumer goodsand services. Indeed the new money immediately pushes upthe prices of consumer goods and diminishes, in relativeterms, the prices of the factors of production. The “RicardoEffect” is set in motion, and entrepreneurs begin to hire moreworkers, in relative terms, and substitute them for machinery.Thus a trend toward the flattening of the productive structure isestablished without a prior expansionary boom in the stages furthestfrom consumption. Therefore the only modification to be madeto our analysis is the following: if consumption is directlyencouraged through credit expansion, the existing productivestructure furthest from consumption clearly ceases to be profitablein relative terms, creating a trend toward the liquidationof these stages and the general flattening of the productivestructure. This constitutes an economic process of impoverishmentwhich initially manifests itself in a bubble, not onlydue to the increased consumer demand, but also becausemany entrepreneurs try to complete the investment projectsthey have already committed to. This process is just the oppositeof the one we examined at the beginning of chapter 5,where we studied the beneficial effects an increase in voluntarysaving (or a decrease in the immediate consumption ofgoods and services) exerts on economic development. 88 Perhaps Fritz Machlup has most clearly and concisely explained thisphenomenon. He states:The view that the expansion of credit for financing the productionof consumers’ goods will not lead to disproportionalitiesof the kind associated with inflation can be disproved bythe following argument. Either the consumers’ goods industrieswould have borrowed on the money market, or the capitalmarket, in the absence of any expansion of bank credit, inwhich case the satisfaction of their demand for funds by