Krugman insists that the Austrian theory of the business cycle is a pure misunderstanding of all the Keynesian and post-Keynesian economic “developments”. The misunderstanding, Krugman argues, is not based on a difference in perspectives or methods of prediction, but rather an intellectual short-coming that precludes economists like Hayek and his contemporary counterparts from doing the simple arithmetic! As Krugman would say, “Um, last time I checked, income = expenditures…” To make sure his readers understand just how much smarter he is than the Austrians, Krugman informs us that he regards the theory, “as worthy of serious study as the phlogiston theory of fire.” So how could so many serious academics still take thinkers like Hayek and Mises seriously? Krugman’s answer: To relieve themselves of conservative guilt, of course, associated with the desire to pay lower taxes.

“The hangover theory is perversely seductive–not because it offers an easy way out, but because it doesn’t. It turns the wiggles on our charts into a morality play, a tale of hubris and downfall. And it offers adherents the special pleasure of dispensing painful advice with a clear conscience, secure in the belief that they are not heartless but merely practicing tough love.”

That is a possible explanation for why a business tycoon might support a theory of less government regulation, but it is dubious with respect to serious academics like F.A. Hayek, who sacrificed his reputation and livelihood when he published The Road to Serfdom. I could easily choose not to argue Krugman on the content of his theories–after all, Keynesianism would be perversely seductive to a power hungry intellectual seeking to make a living peddling snake-oil to politicians looking for an easy cure to the problem of unemployment. In fact, economists like Krugman and Samuelson admit that they don’t care who is in power as long as they are allowed to write the state-run educational monopoly’s economics textbooks!

But let’s ask a seemingly silly question: Why should the ups and downs of investment demand lead to ups and downs in the economy as a whole? Don’t say that it’s obvious–although investment cycles clearly are associated with economywide recessions and recoveries in practice, a theory is supposed to explain observed correlations, not just assume them.

Krugman never mentions that Mises, Hayek, et al., offer a detailed explanation of the interplay between interest rates and the rest of the economy, and how that could lead to a recalculation that ripples through the entire economy. An interest rate set by the government will not accurately reflect individuals’ preferences to save and consume, which can result in malinvestment during the boom period. Steven Horwitz and Peter Boettke recently published an easy to understand explanation for the financial crisis and so-called “Great Recession.” The piece, titled The House that Uncle Sam Built, features a quote from Krugman in 2002, where he advocates the lowering of interest rates to replace the NASDAQ bubble with a housing bubble. The piece also rightfully heaps blame on President Bush for his support of an “ownership society” as well as Senator Chris Dodd and Rep. Barney Frank for their roles with Fannie and Freddie in distorting incentives for home-ownership. Extensive financial regulation passed before the financial crisis began is well-documented. The crash simply cannot be blamed on unfettered markets, because the market was heavily regulated all along.

Krugman writes with the confidence of an evolutionary biologist writing about the theory of evolution. Economists, however, have no such consensus when it comes to stimulus spending. Until they do, I would suggest that Krugman write in a more deferential tone, as Milton Friedman does when discussing highly politicized issues.

In addition to being catchy, the rap hits on the most important distinctions between the Keynesian and Austrian theories of the business cycle. I especially liked the references to the broken window fallacy, time preference as a determinant of interest rates, and malinvestment being inherent to “boom” periods. They pack a lot of economics into seven minutes. I will definitely try to find time to show this video in our Milton Friedman DeCal. Personally, I would love to dedicate close to an entire lecture on Hayek.

“In an attempt to respond to these concerns, the U.S. Congress passed the most important reform of corporate governance in many decades – The Sarbanes-Oxley Act of 2002. – Garrison, Noreen, Brewer

As with most government imposed regulation, Sarbanes-Oxley drives up costs without producing much benefit. There’s no reason to think that the government can set better standards than the internal controls of a firm. Good ideas are naturally implemented because they increase a firm’s value.

Nick Gillespie of the Reason foundation thinks Sarbanes-Oxley is one of the worst ideas of the decade:

“Larger firms lobbied for passage of the act, figuring they could absorb the costs that would hobble smaller competitors – which is just what happened. According to a 2008 Securities and Exchange Commission survey of officers at publicly traded firms, Sarbanes-Oxley cost the average company $2.3 million a year in direct compliance costs (staff time, documentation and external audits), compared with supporters’ estimates of $91,000 in annual costs.

The same survey found that only 20 percent of respondents believed the benefits outweigh the costs. That result echoes a 2008 report from the Association of Certified Fraud Examiners that found firms with the new controls “experienced greater fraudulent financial statement manipulations than organizations lacking these controls.”

I’ve said it before and I’ll say it again. The best friend to a large corporation is a large government. Big business thrives on its political influence. When government grants itself more and more power to interfere in free enterprise, undesirable outcomes follow. That’s why you should be very wary of any bureaucrat with the position of “pay-Czar.”

In a truly competitive market, if Joe Smith opens a bank, he can’t force anybody to hold Smith Notes or force any merchants to accept them at their stores. The only way for Joe Smith to convince the public to accept his bank notes is to pledge to redeem them for a specified amount (or other valued commodity). Assuming he can get his operation off the ground, what is to prevent Smith (and other private bankers) from printing up more notes than he can actually redeem?

One way is to trust government regulators to design an honest system and run it responsibly. Another, less naive, way is to let banks go out of business when they default on promises to their customers. Bankers are grown-ups; they can take it. If they know they’ll be held liable for their decisions, bankers will be more careful with their funds. A bank that is deemed “too big to fail”–meaning it will get billions in government bailouts if its investments turn sour–is a bank that takes too many risks.

Who can claim that nobody saw the crisis coming?

Curiously, the man debating Schiff in the video linked above is Art Laffer, the famous supply-sider and Reagan economic advisor. He actually has a blurb on the back of Murphy’s book! It goes to show that economic issues cannot be viewed through a simple left/right lens. Murphy’s message, like Hayek’s, is addressed to the socialists of all parties.