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

A Critique of Monetarist and Keynesian Theories 511contribution to economics was his theory of economic goodsof different order (consumer goods, or “first-order” economicgoods, and “higher-order” economic goods). According to thistheory, higher-order economic goods are embodied in a numberof successive stages, each of which is further from finalconsumption than the last, ending in the initial stage in whichthe actor plans his whole action process. The entire theory ofcapital and cycles we have presented here rests on this conceptof Menger’s. It is a basic idea which is easy to understand,given that all people, simply by virtue of being human,recognize this concept of human action as the one they putinto practice daily in all contexts in which they act. In shortAustrian School theorists have developed the whole theory ofcapital, money and cycles which is implicit in the subjectivismthat revolutionized economics in 1871.Nevertheless in economics antiquated patterns of thinkinghave been at the root of a very powerful backlash against subjectivism,and this reaction is still noticeable today. Thus it isnot surprising that Frank H. Knight, one of the most importantauthors of one of the two “objectivist” schools we willcritically examine in this chapter, has stated:Perhaps the most serious defect in Menger’s economic system. . . is his view of production as a process of convertinggoods of higher order to goods of lower order. 2We will now consider the ways in which the ideas of theClassical School have continued to predominate in the Monetaristand Keynesian Schools, the developers of which havethus far disregarded the subjectivist revolution started in 1871.Our analysis will begin with an explanation of the errors inthe concept of capital proposed by J.B. Clark and F.H. Knight.Then we will critically examine the mechanistic version of thequantity theory of money supported by monetarists. Followinga brief digression into the school of rational expectations,we will study the ways in which Keynesian economics, today2 Frank H. Knight, in his introduction to the first English edition of CarlMenger’s book, Principles of Economics, p. 25.