The March 2009 Mont Pelerin Society Focused on Whether the Great Recession Was Best Explained by the Austrian School

An important conference put on in March 2009 by the Mont Pelerin Society focused on whether the Great Recession was best explained by Austrian economic analysis or that of another school, Keynesian or otherwise. In a seminal paper, Axel Leijohnufvud (2009) examined whether the downturn was one best analyzed by an income-expenditure model, i.e., in terms of economic flows. He concluded that it was not. Instead, he declared it to be a classic balance-sheet recession, and one best analyzed by Austrian analysis.

All of the macroeconomic policies implemented in the Great Recession ignored its character as a balance-sheet recession. When households and businesses are trying to restore their balance sheets and rebuild savings, creating massive new federal debt is counterproductive. But creating future tax obligations for households and businesses is precisely what the stimulus did. There were also other, deleterious microeconomic effects that put more of the burden of adjustment on the private sector. Much of the federal spending went to prop up state government spending on public-sector workers. That forced the private sector to bear more of the adjustment costs.

Many chide Austrian economists for not having a positive policy to cushion against the effects of the Great Recession. They did have a policy. It was to facilitate and not to impede the adjustments in asset markets.

First, do no harm. The macroeconomic response was largely harmful. In the second half of 2008, the Federal Reserve responded appropriately to provide more liquidity. After that, its various QEs were misbegotten. The economy was not suffering from a lack of liquidity, but the aftermath of a severe collapse in the prices of many assets. Financial institutions and other firms were insolvent, not illiquid. Additionally, the Federal Reserve policy of very low interest rates (negative in real terms) distorts capital allocation and creates new malinvestments.

—Gerald P. O'Driscoll Jr. and Mario J. Rizzo, introduction 2014 to Austrian Economics Re-Examined: The Economics of Time and Ignorance, Routledge Foundations of the Market Economy 33 (London: Routledge, Taylor and Francis, 2015), 8.