Handbook on Contemporary Austrian Economics

Money is non-neutral 121
the causal claims of the Austrian theory from an Austrian perspective.
Friedman and Schwartz (1963) and Romer and Romer (2004) have documented
the causal impact of the money supply on output by examining the
historical record. Finally, on the third point, Austrians have responded to
the rational expectations hypothesis. In an early contribution, Haberler
(1980, p. 836) argued that rational expectations contained a basic truth
that "agents in the market must not be assumed simply to extrapolate
mechanically the current rate of inflation ... but to make use of all the
information available, including the probable consequences of government
policies." He continued by noting that "but to say that systematic
policies are ineffective even in the short-run seems to me unacceptable."
Ironically, the New Classical approach began from Austrian foundations.
The early New Classical models, such as the Lucas island model, built
explicitly on Hayek's ideas in the 1930s. They accepted the non-neutrality
of money. Later, they rejected the non-neutrality of money and offered
other explanations for the role of changes in the money supply on output.
Information regarding the behavior of the monetary authority can be collected
relatively cheaply. Similarly, real business cycle models began with
Eugen von Bohm-Bawerk's notion of capital as a time-consuming process.
Real business cycles initially emphasized the time to build aspects of the
capital structure to produce new goods and the amount of time needed
to reallocate capital to random shocks. They later moved away from the
Austrian notion of the time structure of capital. The Austrian response
to these developments has been largely focused on the early models and
relatively little has focused on the real business cycle models. 4
8.6 Conclusions
The non-neutrality of money forms the basis of Austrian claims regarding
the role of money in a dynamic economy. As Hayek noted, money
serves as a loose joint in the economic system. Money permeates all formal
markets, and some informal markets as well. When the money market is
out of equilibrium, it affects all markets as people adjust their cash balances
to the changing structure of prices. The adjustment process reflects
the non-neutral effects of money. Whether for traditional reasons related
to sticky prices or non-indexed long-term contracts or less conventional
reasons based on money illusion, increases in the money supply affect real
behavior and variables. It is not simply a veil that exerts an impact on the
real economy in the short run.
Although Austrian macro~conomics began in the 1930s with monetary
non-neutrality as a cornerstone of its approach, subsequent decades have
yielded relatively little research into the sources of non-neutrality (the New
Keynesians did much of the legwork). Furthermore, incorporating the