Austrian Economics and Forecasting

Robert Murphy wrote a blog post last week that I thought I would comment on.  He commented on Paul Krugman’s analysis on inflation and how Krugman hadn’t expected the current developments of an uptick in inflation.  The more interesting part comes after that when Murphy comments on his own analysis from the past.  Murphy had expected a much higher CPI at this point and was admitting that he was wrong, or at least that his timing was off.

Bob Murphy is really one of the best Austrian economists there is, if not the best.  He knows his stuff and he is also a good teacher.  If he cannot make accurate economic predictions based on Austrian economics, what hope does that leave for the rest of us?

His analysis does give us some benefits of seeing where he may have gone wrong.  Murphy says, “What I can say for now is that the specific mistake I made, was in thinking that other people would see the end-game as I perceived it.”  He says later in the post, “I thought other investors would start agreeing with my views by now, whereas I still think most of them are being incredibly optimistic.”

This provides us some great insight for followers of Austrian economics who also happen to be investors.  As I’ve said many times before, we have to remember the number one thing about Austrian economics and that is that humans act.  Because of human action, it is impossible to predict anything with certainty.  We could see all of the stars align for a particular investment, but if other people don’t see it that way, then it won’t pan out the way you think it should.

As investors and free market thinkers, we must remember that not everyone else thinks the same way that we do.  And even if more people did start following and understanding Austrian economics, there is also a perception of what other people think.

For example, if everyone turned into an Austrian follower overnight, yet nobody knew it, then things might not change right away.  I personally think government bonds are a ridiculous investment in a lot of ways, given the huge monetary inflation and the massive debt. Yet I own some funds that invest in government bonds only because I know that not everyone else sees the world the same way that I do.  If there is a stock market crash, investors will likely flock to government bonds.  As long as there are idiot investors, idiot mutual fund managers, and idiot foreign governments who are willing to continue buying bonds, then I will be an idiot myself and join them.  I just want to be the first idiot out the door when the selling actually begins.

Bob Murphy has admitted that he made a mistake in his timing because others did not see things the same way as him.  Learn from his mistake.  Don’t assume that things are obvious to others that are obvious to you.  Fundamentals matter in the long run, but we should not discount human action in the short run.  This is why I think everyone should take a somewhat conservative approach in investing and speculate with only a small portion of their portfolio.

2 thoughts on “Austrian Economics and Forecasting”

  1. Thanks for posting this. I am an Austrian and have been puzzled as to why we haven’t seen as much inflation as I thought we would by now. Human Action is a reasonable explanation. I also think it’s because we haven’t seen much velocity as banks are just sitting on the cash or the digits that will become cash as interest rates are too low. Interest rates are esenntially the “price” of money. Having The Fed keeping interest rates at essentially zero, is an indication of how worthless our money has become…thanks to the inflationary processes enacted by The Fed, of course.

  2. Thanks for your comment. I have written elsewhere on the 2 main reasons that we have not seen an explosion in price inflation. One reason is that most of the new money created by the Fed is being held as excess reserves by the banks. The other reason, which you pointed out, is velocity. Due to the economic fear, people are trying to pay down debt and save money. They are not spending as much.

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