December 2008

01 December 2008
Dude, where’s my misallocation?

I like the Austrian School of Economics. Its theories are simple, logical and almost completely avoid recourse to numbers.  And it also has the best explanation I have come across for the current Depression.

That explanation, incidentally, goes something like this: because interest rates were too low, the money supply increased, bubble activities were encouraged and resources were misallocated. The Depression is the process in which resources are re-allocated but this time to the correct activities.

This is fine as far as it goes.  It certainly goes a long way to explaining what happened in the US where they built too many houses.

But what about the UK?  Here building has pretty much been outlawed.  Sure, there’s been a bit of in-filling going on but was it really enough to cause the downturn?  So, where in the UK is the misallocation?  What activities have been going on in the UK that shouldn’t have been?  I am sure it has something to do with the housing bubble but although prices went up it is difficult to see how activity was altered from what it otherwise might have been.

Since writing those lines it occurs to me that the lack of infrastructure activities: new roads, better railways, power stations etc could be part of it.  They might not be bubble activities but they could well be the other side of the coin: things that should have been done but weren’t.  Also, the huge amount of activity directed by government especially into things like recycling and CO2 reduction.  That looks like a classic bubble activity.