Empirical Evidence on the Austrian Business Cycle Theory

The Austrian business cycle theory suggests that a monetary shock disturbs relative prices, such as the term structure of interest rates, systematically altering profit rates across economic sectors. Resource use responds to those changes, generating a cyclical pattern of real income. The divergence of the interest rate structure, from the previous and unchanged time preferences, means that the expansion is unsustainable and must end in recession. Quarterly data for eight U.S. business cycles, 1950:1 through 1991:1 are standardized by time period and used to explore business cycle facts and relations between money, interest rates, capacity utilization and income. Results are consistent with the hypotheses of the Austrian theory of a business cycle caused by a monetary shock and propagated by relative price changes. JEL classification: E3. The Austrian theory of the business cycle, as originally presented by Mises (1966, 1971) and Hayek (1967), implies several distinctive hypotheses about patterns of relative prices, the response of the income level and its composition, and the role of resource constraints. Business cycle theories demonstrate their power of explanation by hypothesis testing or by simulation in comparison to actual cycles. Since Burns and Mitchell (1946), “stylized facts” of cycles have become the behavior that needs to be explained. Austrian theory offers distinctive stylized facts about the cyclical behavior of real interest rates, changes in composition of capital structure, the relation of short-term to long-term interest rates, and the endogenous nature of expansion and contraction phases. Garrison (1986:449–450), Tullock (1988:74–76), and others have considered the empirical question of the explanatory power of the Austrian theory and whether the mechanism of price induced changes in the composition of the capital stock is sufficient in magnitude to account for the macroeconomic phenomenon of a business cycle. There is a clear need to consider how well the Austrian theory can explain observed cyclical behavior. There have been few empirical analyses of the Austrian theory, due to limited ability to express Austrian concepts in operational terms and to methodological opposition to empirical testing of hypotheses. Mises (1966:56) claimed that “the impracticality of measurement is not due to the lack of technical methods for the establishment of measure. It is due to the absence of constant relations.... Statistical figures referring to economic events are historical data. They tell us what happened in a non-repeatable historical case.” Within this methodology, empirical behavior could confirm or illustrate theory or characterize historical episodes, but would not be considered evidence in the evaluation of theory. The concepts of subjective economic behavior present widely recognized problems for measurement and