Handbook on Contemporary Austrian Economics

118 <strong>Handbook</strong> on contemporary Austrian economics
posting new prices are less than the cost. Although the empirical literature
has not found much support for menu cost models, more recent studies
that include the costs associated with deciding whether or not to change
prices indicate that menu costs can explain how money has a non-neutral
effect.
8.3.5 Mundell-Tobin effect
The Mundell-Tobin effect occurs when nominal interest rates increase
less than one-for-one with inflation due to the impact of changes in individual
behavior that arise from increased inflation. Increases in the money
supply cause the nominal interest rate to differ from the real interest rate.
The increase in inflation reduces the value of money. Consumers respond
by holding less money. They hold other assets instead and, as a result,
demand less money. Real interest rates fall in response. The change in the
rate of inflation has caused real changes in the economy.
8.3.6 Commodity money
When money has a commodity basis, it has non-neutral effects. When
Hayek first wrote, the remnants of the gold standard remained in use.
Implicitly, he accepted that some real resource would provide the value of
money. But since the breakdown of the Bretton Woods system under the
Nixon administration, fiat mo~ey has become the norm (for developed
nations at least). Under commodity money, an increase in the supply of
gold or silver would increase the price level and change the relative prices
between gold and silver and other goods and services would take place.
Real changes would take place in the economy. The introduction of fiat
money does not affect relative prices between the commodity basis of
money and other goods and services. The change from commodity money
to fiat money removed this as a source of non-neutral money.
8.4 Non-neutral money and economic fluctuations
The Austrian explanation for economic fluctuations stresses how monetary
factors cause real changes that increase and decrease GDP in the short
run. Money exerts a large effect on the aggregate economy and becomes
a source of the business cycle. The Austrian explanation for economic
fluctuations begins with understanding the role of interest in a monetary
economy. Interest rates reflect the subjective preferences of those who save
and those who want to borrow. Interest emerges from their interactions.
Assume that intertemporal preferences do not change. That is, the interest
rate does not change because people have altered their preferred trade-off
between present and future consumption. This is the natural rate of interest.
It is natural in the sense that it reflects the preferences and constraints