Only the Austrians Understand Interest Rates

Presented by Robert P. Murphy at "Austrian Economics and the Financial Markets," the Mises Circle in Manhattan on 22 May 2010 in New York, New York. Includes an introduction by Mises Institute president Douglas E. French.

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[Goodatconnect4]

Having thought about it some more, the use of the term "artificial demand" does seem to focus on the symptoms rather than the initial cause of the illness: artificially reduced costs. It does seem odd to me now to say artificial demand. My thanks for you being so persistent and patient!

[Goodatconnect4]

Makes sense to me!

[gergenheimer]

@Goodatconnect4 Rather than saying "artificially-boosted demand" I would perhaps restate it to say "artificially-lowered costs". The reason I would rephrase it that way is that that by nature, demand is infinite - it is only the scarcity of time and resources that force us to prioritize. So, when we speak of artificially-boosting demand, what we are really talking about is lowering nominal costs to the consumer, but without the increase in supply that would normally signal that price drop.

[Goodatconnect4]

Right. The reason why entrepreneurs can't tell the difference between low interest rates by saving from that of inflation of the money supply. So you'd call it artificially-boosted demand then?

[gergenheimer]

@Goodatconnect4 You've got it. So, in some cases government policies and programs create things where there was little or no organic demand at all (i.e. Alaska's "bridge to nowhere"), but more often, they cause a distortion in the level of demand by altering the structure of prices, disguising the risk factors, imposing mandates etc. The housing bubble is an excellent example of this phenomenon. The excess of homes we built are the legacy of artificially-boosted demand, due to govt. policies.

[Goodatconnect4]

So you wouldn't call it demand at all then? The spending shifts the market settings (demand, supply, etc.) in certain sectors and it is then impossible to tell what demand is "natural" and what demand is "artificial"? I think I get it now. So you're saying by the fact that it is the government doing the spending, it can't be called demand (because by definition it is not).

[gergenheimer]

@Goodatconnect4 No, as an Austrian, I don't recognize it as demand (by definition) BECAUSE it didn't come from consumer preferences. To be sure, the spending causes things to happen - and this is what leads Keynesians to say "See - we told you we could create demand through government spending!" - but because the "artificial demand" spending is driven by guesswork or worse, political favoritism, it leads to jobs being supported and goods being produced that may not have been requested by anyone.

[Goodatconnect4]

Yeah, true. So you'd recognize it as demand, just that it is not demand from the consumers?

[gergenheimer]

@Goodatconnect4 not exactly - Keynesians don't typically have a problem with the idea of "artificial demand" - in theory, they acknowledge that demand originates in consumer preferences, but in practice, they treat demand as if the only component that matters is the mechanical process of spending. Austrians, in contrast, believe that if you spend on arbitrary projects for the sake of spending, you cause distortions in the price system and structure of production. That is, demand can't be faked.

[Goodatconnect4]

I think I'm starting to get it. So you're saying that in Keynesianism, there's no such thing as artificial demand since all spending is evidence of demand? And that, therefore, to put artificial in front of demand is nonsensical?