Academic journal article American Economist

A Roundabout Approach to Macroeconomics: Some Autobiographical Reflections

Academic journal article American Economist

A Roundabout Approach to Macroeconomics: Some Autobiographical Reflections

Article excerpt

I. Introduction: Setting the Stage

"Roundaboutness" is a concept featured in Austrian capital theory. Homely stories about the barehanded catching of fish are a prelude to a discussion of the economy's capital structure. The outputs of some stages of production become inputs to others. Production takes time. The capital structure, broadly conceived, has a temporal profile--one that can be modified in response to changes in intertemporal consumption preferences and resource constraints. This was the central message of Eugen von Bohm-Bawerk (1959).

Alfred Marshall, who theorized in terms of the short period and the long period, taught us that most problems in economics stem from the ever-critical time element. I think Marshall was right on time. But I also believe that a healthy understanding of some of those problems--particularly the ones in macroeconomics--is not best facilitated by his simple short-period/long-period distinction.

Adopting Marshallian methods, John Maynard Keynes dealt with the polar extremes in the quality of expectations, casting serious doubt about the viability of a market system. In the short run, the time element itself is no problem: Short-run expectations faithfully reflect reality. If the level of spending changes, the multiplier process plays itself out in a clockwork sequence of spending and earning, eventually achieving a new circular-flow equilibrium. Long-run expectations, however, are another matter. Here, the time element is a debilitating problem: These expectations, if you can call them that, are baseless. The future is shrouded in an impenetrable fog of uncertainty, leaving the current level of investment spending to be determined by unruly psychological factors--Keynes's infamous "animal spirits." The resultant circular flow will gush and ebb and even on average may not entail enough flow to fully employ the labor force.

The circular-flow framework, exercised in both its short-run and long-run modes, seems to me to be exactly the wrong framework for understanding and dealing with the time element in macroeconomics. Identifying the polar cases of "no problem" and "debilitating problem" doesn't get us any closer to a solution to all those intermediate cases lying between the poles. The tell-tale feature that inevitably characterizes this framework has been recognized in recent years by Robert Solow (1997)--namely the lack of any "real coupling" (Solow's term) between the short run and the long run. In Solow's reckoning, the two runs simply divide our discipline's subject matter into (1) the problem of maintaining full employment of existing resources and (2) the determinants of economic growth.

A viable alternative to the Keynesian circular-flow framework is the Austrian means-ends framework. People employ means (investment) to achieve ends (consumption). In a capital-using economy, there is a significant time dimension separating means and ends. We realize that some production processes take more time than others. And, thinking in macroeconomic terms, we recognize that production time can increase or decrease for the economy as a whole as market conditions warrant. In the "medium run" (a term from Solow, 2000), the problem is one of adjusting production decisions to (intertemporal) consumption preferences--a problem that Axel Leijonhufvud (1998) urges us to put back on our macroeconomic agenda. The only solution available in a decentralized economy is one involving entrepreneurial responses to changing market signals and especially to changes in the rate of interest. The time element here (Bohm-Bawerk's "roundaboutness" of production activities) is a key variable in the system. Like other endogenous variables, it is subject to marginal adjustments in response to parametric changes. Of course, there is uncertainty. And the fog is more of a problem the farther into the future the entrepreneurs are trying to see. But still, what seems to be called for is an application of marginalism and not a contrasting of the polar cases. …

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