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

A Critique of Monetarist and Keynesian Theories 529in Laidler’s argument was clearly exposed by Hayek alreadyin 1941, when he explained that the only possible way for productionprocesses financed by credit expansion to be maintainedwithout a recession would be for economic agents tovoluntarily save all new monetary income created by banksand used to finance such processes. The Austrian theory of thecycle suggests that cycles occur when any portion of the newmonetary income (which banks create in the form of loans andwhich reaches the productive structure) is spent on consumergoods and services by the owners of capital goods and theoriginal means of production. Thus the spending of a share onconsumption, which is surely always the case, is sufficient totrigger the familiar microeconomic processes which irrevocablylead to a crisis and recession. In the words of Hayek himself:All that is required to make our analysis applicable is that,when incomes are increased by investment, the share of theadditional income spent on consumers’ goods during anyperiod of time should be larger than the proportion bywhich the new investment adds to the output of consumers’goods during the same period of time. And there is of courseno reason to expect that more than a fraction of the newincome, and certainly not as much as has been newlyinvested, will be saved, because this would mean thatpractically all the income earned from the new investmentwould have to be saved. 29(See David Laidler, “Hayek on Neutral Money and theCycle,” printed in Money and Business Cycles: The Economics ofF.A. Hayek, M. Colonna and H. Hagemann, eds., vol. 1, p. 19.)29 In other words, it would be necessary for economic agents to save allmonetary income corresponding to the shaded area in Chart V-6, whichreflects the portion of the productive structure lengthened and widenedas a result of credit expansion. Understandably it is nearly impossiblefor such an event to occur in real life. The above excerpt appears on p.394 of The Pure Theory of Capital. In short, credit expansion provokes amaladjustment in the behavior of the different productive agents, and theonly remedy is an increase in voluntary saving and a decrease in artificially-lengthenedinvestments, until the two can again become coordinated.As Lachmann eloquently puts it: