Broadly speaking, the answers to the rational expectations challenge to the ABCT can be divided into two groups: (1) A friendly approach to the rational expectations critique that acknowledges a need for revision but concludes that the theory still holds and (2) a less friendly approach that maintains that the problem does not lie with the theory but with the initial rational expectations assumption.
The first group can be represented by Carilli and Dempster (2001) and Evans and Baxendale (2008), who treat the rational expectation critique as a “valid challenge and accept the fundamental claim that in its present form the Austrian theory requires revision.”
Carilli and Dempster’s (2001) argument is that the expansive monetary policy of the monetary authority places the entrepreneurs and banks in a prisoner’s dilemma. In short, seizing capital gains during a boom by investing in long-term and capital intensive projects and selling them to other investors before the boom ends is rational behavior. Because this exposition falls within the framework of the prisoner’s dilemma, the rational behavior is implicitly embedded in the exposition.
Evans and Baxendale (2008) accept the rational expectations challenge but argue that because entrepreneurs are heterogeneous, the cluster of errors is driven not by a representative entrepreneur but by entrepreneurs on the margin. For Evans and Baxendale (2008), the critic still must offer a convincing explanation why entrepreneurs can be assumed to be homogeneous. Even if the entrepreneurial heterogeneity argument may put Evans and Baxendale (2008) between the two groups, they still offer a friendly reception to the rational expectations challenge.
—Nicolas Cachanosky, “Expectation in Austrian Business Cycle Theory: Market Share Matters,” Review of Austrian Economics 28, no. 2 (June 2015): 153.
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