Monday, August 2, 2010

Another Sign the Recessionary Restructuring Is Not Complete

One of the great achievements of Austrian economists Ludwig von Mises and his student F. A. Hayek, was the development of what became known as Austrian business cycle theory. It shows that boom/bust business cycles are not inherent, necessary features of capitalism, but are instead the necessary consequences of monetary inflation via artificial credit expansion.

Such inflation makes interest rates artificially low and enticing, leading entrepreneurs to malinvest capital in production projects that appear profitable, but in fact are not. Such projects, because they are unprofitable, cannot continue indefinitely and eventually must be liquidated. The economy dips into recession. Some of the capital sunk in these unprofitable projects will be non-convertible to other uses, so it is consumed in unwise investment. As painful as it sounds, the only way for the economy to get back on track, so to speak, is to allow for unsound investments to be liquidated and a restructuring of the available capital stock, so that factors of production will be directed into the hands of those entrepreneurs who will use them productively in sound investments. As long as there is still capital frozen in unprofitable ventures, recessions are prolonged and prosperity is forestalled.

Over the weekend, we received news that indicates the necessary liquidation process is still continuing. The Associated Press reports that bank regulators closed five more banks, bringing the total for the year so far up to 108 compared to only 69 bank failures this time last year. Clearly any recovery is definitely not in full swing.

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