Prosperity and Depression.pdf

Recent Developments in Trade Cycle TheoryPart IIIeven throughout the whole cycle). Professor HAYEK does not say thatin fact the rate of interest does not change. But he believes that it ismore stable (sticky) than it is assumed in pure theory; and he tries toshow that even if it remained perfectly stable throughout the upswing(i.e., if the supply of loanable funds were perfectly elastic at a constantrate of interest), the breakdown of the boom would come just the same.The function, which in his- earlier writings was attributed to changes inthe rate of interest, is now performed by changes in the rate of profit.Expansion is now brought to an end and depression started by a. dropin the inducement to invest. The fall in investment demand is not dueto a rise of interest rates or to a rise in factor prices or to the fact thatscarce factors are drawn away from investment industries (earlierstages of production) into consumption industries (later stages of production);1 nor is it due to an absolute decrease in consumption expenditureor to a decrease in its rate of growth. ,The real reason, accordingto Professor HAYEK'S new version is, paradoxically, a rise in consumers'goods prices brought about by an increase in expenditure on consumptionand the approach of full employment of factors of productionattached to the consumption goods industries. In other words, the fallin the inducement to invest is explained by a rise (beyond a certainlimit) in the rate of profits in consumer goods industries. 2 Thisrather perplexing conclusion, which is about the opposite ofthe accelerationprinciple, is based on the so-called Ricardo effect. "Its substanceis contained in the familiar Ricardian proposition that a rise in [real]wages will encourage capitalists to substitute machinery for labor andvice versa." 3 Assume that, with constant money wages and unchangedinterest rate, product prices rise. This, it is asserted, will entail a shiftin the relative profitability of more and less tCcapitalistic" ("capital intensive,"«round-about") methods of production in favour of the latter.Hence methods of production will tend to become less capitalistic; that1 At one point, however, a rise in certain raw material prices is mentionedas a factor which adversely affects investment (loc. cit., pages 30-3I). This isreminiscent of the old version of Hayek's theory, but seems to be unnecessary for(although not incompatible with) his new version.2 Rate of profit must be interpreted as the expected rate. The point of ProfessorHayek's theory is not, as it might be thought, that a high actual rate maycreate doubt with respect to the stability of the situation.3 Loc. cit., page 8 et seq. The passage in Ricardo referred to is in P-rinciples,Chapter I, Section V, Works, ed. McCulloch, page 26 f.