Wednesday, April 14, 2010

What is ABCT in a Nutshell?

This question was posted in a reading discussion board. "What it the Austrian Business Cycle Theory in a Nutshell?"


My reply: 



In a nutshell Austrian Business Cycle Theory (ABCT) is an explanation of the causes of market boom and bust cycles whose ultimate cause by interventions from the monetary authority. Tinkered interest rates are set below their market value, thus causing the money supply to increase and credit to expand beyond where they are perceived by market actors. This distortion in turn sends false price signals to market actors who participate in the subsequent artificial boom. Prices begin to rise in the capital and stock markets, and various markets react accordingly. An example might be the labor markets expanding because more employees are thought to be needed. Eventually the credit expansion slows or stops and market participants realize that they have received bad signals and information. Realizing that they have acted on false information, their investments are actually malinvestments which need to be cleared from the market place. This process can be severe but short, assuming there are no further interventions from the monetary or fiscal authorities. Further intervention can prevent the malinvestments from clearing, thus extending the life of the bust beyond what it could have been with no interventions. The bust can result in recession, panic, credit crunch, and depression. 

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