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Hayek’s Top 10 Do’s and Don’ts in a Recession

Posted By David Azerrad On February 14, 2011 @ 2:00 pm In First Principles | Comments Disabled

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With the country in the midst of the worst recession since the Great Depression, it’s no surprise that the economy is on everyone’s mind. According to the latest Gallup poll [2], 7 in 10 Americans point to economic issues as the most important problems facing the country.

Such are the problems—now what do we do about them? Well, it depends on who you ask.

According to Paul Krugman of The New York Times, we need another $800 billion stimulus. The first one, you see, wasn’t big enough [3]. “The stimulus right now makes almost no difference,” Krugman recently said [4] at the World Knowledge Forum in Seoul. And for those who worry about the deficit, he had these soothing words: “What does a trillion dollars of borrowing do to the U.S. long-run fiscal position?”

For those of us who find little comfort in Krugman’s prescriptions, we turn to the ideas of Friedrich Hayek, the author of the classic Road to Serfdom and one of the most important economists of the 20th century. In a new essay [5], Bruce Caldwell, the editor of The Collected Works of F.A. Hayek (19 volumes), distills the key Hayekian insights on what to do—and not do—during a recession. The short of it: “We usually don’t have the necessary knowledge to intervene effectively in the economy, and the political process is such that, even if we did, we still likely would get bad policy, coupled with an ever-growing government sector.” With a little help from public choice theorists, here are the 10 Hayekian insights for trying economic times:

1. Recessions are bound to happen: Shifts between periods of economic growth and periods of stagnation or decline are a necessary and unavoidable part of a free-market monetary economy. Downturns are not aberrations but rather painful and necessary medicine for restoring equilibrium to the economy.

2. A stimulus will only stimulate the deficit: Past experience with trying to fine-tune the economy shows that counter-cyclical fiscal and monetary policy can sometimes make matters much worse (as in the 1970s). Wise politicians would therefore be advised not to meddle, however much their instincts tell them to show voters they’re doing something.

3. Pure laissez-faire doesn’t work either: Some regulation is necessary for individuals to carry out their plans and for the market to function. Hayek therefore endorsed “general rules, equally applicable to all people and intended to be permanent (even if subject to revision with the growth of knowledge), which provides an institutional framework within which the decisions as to what to do and how to earn a living are left up to the individuals.”

4. Central planning and excessive regulation sure as hell don’t work: The desire to plan and to subject the economy to the rule of experts endangers liberty. As Hayek succinctly noted: “the more the ‘state’ plans, the more difficult planning becomes for the individual.”

5. The economy is too complex for precise forecasting: As Yogi Berra could have said: “I hate making economic predictions. Especially about the future.” It’s not that we don’t know anything, but rather that what we do know reveals the limits of our knowledge, and consequently, of our ability to plan and forecast.

6. Remember the rule of unintended consequences: History shows that when trying to realize certain ends—particularly when their achievement involves interfering with the workings of the price mechanism—all sorts of pernicious effects will occur that were not part of the original plan.

7. You won’t believe how much you’ll learn in Econ 101: While Hayek repeatedly pointed to the limitations inherent in a discipline that deals with a complex system like the economy, the basic principles of economics—scarcity, supply and demand, division of labor, etc.—can explain a lot about the world and, more importantly, help rule out certain inappropriate policy responses (e.g. price ceilings).

8. Leave social justice out of it: Free markets necessarily lead to an unequal distribution of wealth and, just as inevitably, fuel calls for egalitarian social justice. Hayek viewed such cries as misguided—justice has nothing to do with an impersonal market process—and dangerous—redistributive schemes presume that we possess knowledge that we in fact can never possess (see #5).

9. Nothing beats the free market: Hayek admitted that if we had more knowledge we could do a lot more to improve the world through planning and regulation. But we don’t, and in the world of dispersed knowledge we live in, much of the knowledge we actually do possess is due to the workings of the market mechanism.

10. As a rule of thumb, government cures are not only worse than the disease, but lead to further disease: When you consider that bureaucrats have an incentive to maximize bureaucracy, that politicians who seek reelection—and which ones don’t?—have an incentive to increase spending and decrease taxes, and that corporations have an incentive to squeeze out the competition through government conferred advantages, you’ll conclude that the free market remains our best option (see #9).


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URL to article: http://blog.heritage.org/2011/02/14/hayek%e2%80%99s-top-10-do%e2%80%99s-and-don%e2%80%99ts-in-a-recession/

URLs in this post:

[1] Image: http://www.foundry.org/wp-content/uploads/hayek.jpg

[2] Gallup poll: http://www.gallup.com/poll/146081/Unemployment-Solidifies-Position-Important-Problem.aspx

[3] big enough: http://www.nytimes.com/2009/01/09/opinion/09krugman.html?_r=1

[4] recently said: http://www.bloomberg.com/news/2010-10-13/krugman-clashes-with-niall-ferguson-over-u-s-fiscal-stimulus-second-round.html

[5] essay: http://www.heritage.org/Research/Reports/2011/02/Ten-Mostly-Hayekian-Insights-for-Trying-Economic-Times

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