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

Additional Considerations on the Theory of the Business Cycle 423they are aware of the theory concerning it. Logically no onecan predict precisely when and where the crisis will erupt,and a large number of entrepreneurs will undoubtedly be“surprised” by the event and will encounter serious difficulties.Nonetheless, in advance, from a theoretical standpoint,we can never describe as “irrational” those entrepreneurswho, though familiar with the theory of the cycle, get carriedaway by the new money they receive, funds which the bankingsystem has created from nothing, and which from the startprovide the entrepreneurs with a great additional ability topay and the chance to make handsome profits. 23Another connection links the theory of entrepreneurshipto the theory of the business cycle, and it involves the stage ofrecession and readjustment in which the grave errors committedin earlier phases of the cycle are exposed. Indeed economicrecessions are the periods in which historically theseeds of the greatest entrepreneurial fortunes have beensown. This phenomenon is due to the fact that the deepeststages of the recession are accompanied by an abundance ofcapital goods produced in error, goods with a market pricereduced to a fraction of its original amount. Therefore theopportunity to make a large entrepreneurial profit presents23 However Mises makes the following astute observation:it may be that businessmen will in the future react to creditexpansion in a manner other than they have in the past. Itmay be that they will avoid using for an expansion of theiroperations the easy money available because they will keep inmind the inevitable end of the boom. Some signs forebode sucha change. But it is too early to make a definite statement. (Mises,Human Action, p. 797)Nevertheless, for reasons supplied in the main text, this augural presentationMises made in 1949 of the hypothesis of rational expectations is notentirely justified, considering that even when entrepreneurs have a perfectunderstanding of the theory of the cycle and wish to avoid being trappedby it, they will always continue to be tempted to participate in it by theexcellent profits they can bring in if they are perceptive enough to withdrawin time from the corresponding investment projects. On this topic,see also the section entitled, “A Brief Note on the Theory of RationalExpectations” from chapter 7 in this volume, pp. 535–42.