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Money Market Funds, Part I

 
Nobel Prize winning economist Paul Krugman, pictured here, whose writings for the mainstream press have made him easily the most visible Keynesian of our day, issued a challenge to Austrian economists recently.

For those of you who may be new to such discussions, I'll explain the jargon. The Austrian school is the tradition of Hayek and Von Mises, [and for the record, Hayek too received a Nobel Prize], a school built on a subjective understanding of economc value, that is, the view that something has value because one or more individuals want it -- regardless of, say, how much labor or how impressive a technology was necessary to create it. Also integral to the "Austrian" school are distinctive views about economic calculation, the demand for hard or honest money, the bases of interest rates, and certain meta-theoretical ideas as to how economics ought to be studied.

What especially sticks in Krugman's craw, though, is the Austrian view of the business cycle. Austrians view central banking and money creation as the cause of the disease it affects to cure. Policies designed by central planners/bankers to stimulate an economy inevitably lead to a boom-and-bust cycle. They ceate bubbles which must inevitably burst. People later remember the good times at the start of the cycle and the planners pat themselves on the back for those fond memories, justifying themselves in cranking up the machinery again.

But the wild party is the cause of the hangover. Here's an amusing discussion of the point, in the form of a musical debate between Keynes and Hayek.

But let's get back to Krugman. He said in his blog recently that it is a "peculiarity" of the Austrian school that it treats "fractional reserve banking" as "an artificial creation of government." He then said that this is wrong as a matter of history, but it is "deep enough in the past for that wrongness to get missed." That led him to money market funds, which have gotten their start only in quite recent times yet which have repeated the magic of fractional reserve banking, creating bank-like checks-written-on-it money seemingly out of thin air.

Do Austrians want to shut down MMFs, Krugman asks? If so, that doesn't sound very laissez-faire of them. If not, and if they think the MMF industry exists because it serves a market demand: how do they explain the magic of it? The central Austrian idea of honest money seems to melt into air. [Okay, I just appropriated that last expression from Marx. It must be public domain by now.]

I admire and approve of Mark Thornton's recent answer to Krugman, and I'll discuss it tomorrow.




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