A New Version of my Paper (with Paul Zimmerman) on the Hayek-Sraffa Debate Is Available on SSRN

One of the good things about having a blog (which I launched July 5, 2011) is that I get comments about what I am writing about from a lot of people that I don’t know. One of my most popular posts – it’s about the sixteenth most visited — was one I wrote, just a couple of months after starting the blog, about the Hayek-Sraffa debate on the natural rate of interest. Unlike many popular posts, to which visitors are initially drawn from very popular blogs that linked to those posts, but don’t continue to drawing a lot of visitors, this post initially had only modest popularity, but still keeps on drawing visitors.

That post also led to a collaboration between me and my FTC colleague Paul Zimmerman on a paper “The Sraffa-Hayek Debate on the Natural Rate of Interest” which I presented two years ago at the History of Economics Society conference. We have now finished our revisions of the version we wrote for the conference, and I have just posted the new version on SSRN and will be submitting it for publication later this week.

Here’s the abstract posted on the SSRN site:

Hayek’s Prices and Production, based on his hugely successful lectures at LSE in 1931, was the first English presentation of Austrian business-cycle theory, and established Hayek as a leading business-cycle theorist. Sraffa’s 1932 review of Prices and Production seems to have been instrumental in turning opinion against Hayek and the Austrian theory. A key element of Sraffa’s attack was that Hayek’s idea of a natural rate of interest, reflecting underlying real relationships, undisturbed by monetary factors, was, even from Hayek’s own perspective, incoherent, because, without money, there is a multiplicity of own rates, none of which can be uniquely identified as the natural rate of interest. Although Hayek’s response failed to counter Sraffa’s argument, Ludwig Lachmann later observed that Keynes’s treatment of own rates in Chapter 17 of the General Theory (itself a generalization of Fisher’s (1896) distinction between the real and nominal rates of interest) undercut Sraffa’s criticism. Own rates, Keynes showed, cannot deviate from each other by more than expected price appreciation plus the cost of storage and the commodity service flow, so that anticipated asset yields are equalized in intertemporal equilibrium. Thus, on Keynes’s analysis in the General Theory, the natural rate of interest is indeed well-defined. However, Keynes’s revision of Sraffa’s own-rate analysis provides only a partial rehabilitation of Hayek’s natural rate. There being no unique price level or rate of inflation in a barter system, no unique money natural rate of interest can be specified. Hayek implicitly was reasoning in terms of a constant nominal value of GDP, but barter relationships cannot identify any path for nominal GDP, let alone a constant one, as uniquely compatible with intertemporal equilibrium.

Aside from clarifying the conceptual basis of the natural-rate analysis and its relationship to Sraffa’s own-rate analysis, the paper also highlights the connection (usually overlooked but mentioned by Harald Hagemann in his 2008 article on the own rate of interest for the International Encyclopedia of the Social Sciences) between the own-rate analysis, in either its Sraffian or Keynesian versions, and Fisher’s early distinction between the real and nominal rates of interest. The conceptual identity between Fisher’s real and nominal distinction and Keynes’s own-rate analysis in the General Theory only magnifies the mystery associated with Keynes’s attack in chapter 13 of the General Theory on Fisher’s distinction between the real and the nominal rates of interest.

I also feel that the following discussion of Hayek’s role in developing the concept of intertemporal equilibrium, though tangential to the main topic of the paper, makes an important point about how to think about intertemporal equilibrium.

Perhaps the key analytical concept developed by Hayek in his early work on monetary theory and business cycles was the idea of an intertemporal equilibrium. Before Hayek, the idea of equilibrium had been reserved for a static, unchanging, state in which economic agents continue doing what they have been doing. Equilibrium is the end state in which all adjustments to a set of initial conditions have been fully worked out. Hayek attempted to generalize this narrow equilibrium concept to make it applicable to the study of economic fluctuations – business cycles – in which he was engaged. Hayek chose to formulate a generalized equilibrium concept. He did not do so, as many have done, by simply adding a steady-state rate of growth to factor supplies and technology. Nor did Hayek define equilibrium in terms of any objective or measurable magnitudes. Rather, Hayek defined equilibrium as the mutual consistency of the independent plans of individual economic agents.

The potential consistency of such plans may be conceived of even if economic magnitudes do not remain constant or grow at a constant rate. Even if the magnitudes fluctuate, equilibrium is conceivable if the fluctuations are correctly foreseen. Correct foresight is not the same as perfect foresight. Perfect foresight is necessarily correct; correct foresight is only contingently correct. All that is necessary for equilibrium is that fluctuations (as reflected in future prices) be foreseen. It is not even necessary, as Hayek (1937) pointed out, that future price changes be foreseen correctly, provided that individual agents agree in their anticipations of future prices. If all agents agree in their expectations of future prices, then the individual plans formulated on the basis of those anticipations are, at least momentarily, equilibrium plans, conditional on the realization of those expectations, because the realization of those expectations would allow the plans formulated on the basis of those expectations to be executed without need for revision. What is required for intertemporal equilibrium is therefore a contingently correct anticipation by future agents of future prices, a contingent anticipation not the result of perfect foresight, but of contingently, even fortuitously, correct foresight. The seminal statement of this concept was given by Hayek in his classic 1937 paper, and the idea was restated by J. R. Hicks (1939), with no mention of Hayek, two years later in Value and Capital.

I made the following comment in a footnote to the penultimate sentence of the quotation:

By defining correct foresight as a contingent outcome rather than as an essential property of economic agents, Hayek elegantly avoided the problems that confounded Oskar Morgenstern ([1935] 1976) in his discussion of the meaning of equilibrium.

I look forward to reading your comments.

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12 Responses to “A New Version of my Paper (with Paul Zimmerman) on the Hayek-Sraffa Debate Is Available on SSRN”


  1. 1 Tom Brown July 8, 2014 at 7:45 am

    David, I went back and read your previous post on this debate, and followed your thread with Bob Murphy there… I was waiting for the exciting conclusion (when one of you realized you were wrong), and it never came… however, you did get the last word in. Can I assume you “won?” (Bob was happy to take one for the team, since if he was wrong then another Austrian would be right… at least that’s what he wrote).

    Also, on O/T on Sraffa I found recently: a criticism of his (flat) supply curve statements, looking at it in what I’m guessing is a completely new way.

  2. 2 andrew lainton July 8, 2014 at 10:59 am

    I dont think Hayek really resolved Mortenstern’s paradox that prophetic expectations was incompatible with equilibrium. Hayeks effectively said its ok i everyone is equally wrong, but what if they are equally wrong about asset prices? Then it breaks the condition that general equilibrium be pereto optimal and welfare maximising. Hayeks intertemporal notion is wider than Parentian equilibrium, more akin to dynamic disequilibrium, where prices converge towards one position and values converge to another, the further they are apart the greater the intertemporal loss of welfare.

  3. 3 JMRJ July 8, 2014 at 1:50 pm

    I really like the discussions over here but feel more than a little out of my depth on this one. I may be able to offer something after a good deal of study on this subject, but not now.

    In the meantime is it impertinent to interject that there’s one economist named Michael Hudson who seems to object to charging of interest in the first place, and ask how considering that might advance or retard this discussion, as the case may be?

  4. 4 David Glasner July 8, 2014 at 6:57 pm

    Tom, As often happens in blog discussions, Murphy and I just disengaged. Whether one of us won or lost or it was no decision is entirely up to the reader to decide, if he cares, for himself. It doesn’t help of course that the point in dispute was itself pretty subtle.

    Your interest in the rising supply curve shows you to be a true scholar. Joan Robinson has a famous paper in which she showed that the rising supply curve in a two-good two-factor model is an implication of different factor proportions for the two goods. I didn’t read through the post that you linked to, but my quick perusal suggested to me that he was making a different argument which is that as you produce more of good A, you produce less of good B which means that measured in terms of good B, the value of foregone B rises as you produce more A, foregone B representing the cost of producing A.

    Andrew, Hayek’s point is that expectations being uniformly wrong at time 0, may be consistent with equilibrium if expectations were potentially valid, say because everyone expected a warm winter that turned out to be cold. If the winter had turned out as expected, price expectations would have been realized. It’s not clear to me that such an intertemporal equilibrium should be characterized as inefficient unless one has some way of assessing the quality of expectations. The mere fact that expectations are not realized doesn’t establish that the expectations were somehow inefficient. Often we just take expectations as given without assessing the process whereby they are arrived at. But certainly if people expected the winter to be warmer than the summer, those expectations, being incapable of realization, would be “irrational.”

    JMRJ, Sorry, but I haven’t heard of Michael Hudson. Sounds pretty far out of the mainstream.

  5. 5 Tom Brown July 9, 2014 at 1:50 am

    David, you write:

    “Your interest in the rising supply curve shows you to be a true scholar.”

    I certainly wish that were true, and I wish I could help you with your attempt to restate what that link I gave you is getting at. The author of that post is Jason Smith… I’ve been following his blog because his approach is very unique (it caught my attention), and I’ve been impressed with how his low-parameter-count models compare with the empirical data across multiple countries and decades, and with the Fed’s own models (P* for example), and how mainstream concepts can be explained in his alternative theoretical framework. I just spent the last hour and a half reading some of his references, but I’m not there yet.

  6. 6 Tom Brown July 9, 2014 at 12:43 pm

    David, I’ve got one in moderation. Also, O/T, but I thought of you when I saw this:

    http://noahpinionblog.blogspot.com/2014/07/grading-wsjs-ideas.html

  7. 7 elwailly July 11, 2014 at 1:13 pm

    I’ve been reading some of the recent blog posts (Krugman) on why the super wealthy may want the Fed to prematurely raise interest rates. I’m interested in understanding how this relates to the natural rate.

    In a normal economy the real rate would be near the natural rate and the nominal rate would sit above them by the amount of inflation. Say 2% for real and natural and 4% for nominal with 2% inflation.

    At the zero lower bound in a depressed economy the real rate is “too high” even when the nominal rate is zero. Say nominal at 0%, real rate at -1% with 1% inflation and the natural rate at -2%. Real rate is 1% higher than the natural rate.

    So why is living at the lower bound unacceptable to the super wealthy? It’s probably very acceptable, since they are earning HIGHER than the natural rate (which in some sense is the expected rate of real return from real investment in the economy at the moment). They can be said to be holding their own or better as a share of economic activity even as currency deflates.

    Well, I think the answer is they recognize a free lunch when they see one. If they can get the Fed to raise nominal rates they will temporarily get a higher nominal return, but more importantly when the inevitable economic downturn follows, and we’re back at the zero bound for nominal rates, they will have driven the natural rate even lower relative to the real rate as long as they can keep the Fed from raising inflation.
    Rinse and repeat.

  8. 8 Blue Aurora July 14, 2014 at 11:09 pm

    David Glasner: Although I did (or at least, I think I did) read the previous version of your Sraffa/Hayek paper with Paul Zimmerman…I can’t tell the differences between this version and the last one. What are they, sir?

  9. 9 pilkingtonphil July 21, 2014 at 4:06 am

    I might write a response to this. In the meantime, this should be of some interest:

    http://www.postkeynesian.net/downloads/Grieve/RG250214.pdf

    [audio src="http://www.postkeynesian.net/downloads/Grieve/RG250214.mp3" /]


  1. 1 Glasner and Zimmerman on the Sraffa-Hayek Dust Up and the Natural Rate of Interest | Fixing the Economists Trackback on July 21, 2014 at 5:24 am

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About Me

David Glasner
Washington, DC

I am an economist at the Federal Trade Commission. Nothing that you read on this blog necessarily reflects the views of the FTC or the individual commissioners. Although I work at the FTC as an antitrust economist, most of my research and writing has been on monetary economics and policy and the history of monetary theory. In my book Free Banking and Monetary Reform, I argued for a non-Monetarist non-Keynesian approach to monetary policy, based on a theory of a competitive supply of money. Over the years, I have become increasingly impressed by the similarities between my approach and that of R. G. Hawtrey and hope to bring Hawtrey's unduly neglected contributions to the attention of a wider audience.

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