Austrian Economics Study Guide

Quiz

Instructions: Answer each question in 2-3 sentences.

* What two major changes in economics pushed Austrian ideas aside until the 1970s?

* According to the Austrian school, what is the source of a good's value?

* Explain Menger's concept of "spontaneous order"

* Explain the "diamond-water paradox" and how it is resolved using marginal utility.

* What is the difference between economic and non-economic goods, according to the text?

* How does the Austrian school understand the relationship between inputs and outputs in production?

* How does entrepreneurial action help correct price discrepancies in a market?

* Briefly describe the process by which money emerges from a barter economy.

* Explain the Austrian theory of the business cycle.

* How does the Austrian view of the interest rate differ from Keynesian thought?

Quiz Answer Key

* The Keynesian revolution in macroeconomics and the increasing formalization of microeconomics using mathematical terms pushed Austrian ideas aside. These changes were at odds with the Austrian approach, leading to its near disappearance.

* According to the Austrian School, a good's value is derived from the subjective perceptions of its usefulness to the consumer. It's not based on intrinsic qualities, labor, or production costs.

* Spontaneous order is the idea that many social phenomena are the unintended consequences of human actions and choices through various social institutions. These institutions serve the common good without a conscious intent to do so.

* The diamond-water paradox is why diamonds are more valuable than water, even though water is essential for survival. This is resolved through marginal utility: The value is based on the specific amount available and the need for one more unit.

* Economic goods are those for which wants exceed the available quantity, whereas non-economic goods are abundant enough to satisfy all possible wants. Air is an example of a non-economic good, whereas goods that satisfy needs often become economic.

* Austrians believe that value flows from outputs to inputs, rather than from inputs to outputs. Therefore, a good's value derives from consumer demand rather than the labor or resources put into its production.

* Entrepreneurs identify and exploit price discrepancies, buying low in one market and selling high in another. This action corrects the discrepancy and benefits all parties involved.

* Money evolves from barter when certain goods become more readily accepted in exchange because traders want to acquire those goods not for consumption, but to facilitate future exchanges. This leads to indirect exchange.

* The Austrian theory of the business cycle posits that a boom occurs due to artificial inflation which causes interest rates to lower unnaturally. Eventually this mismatch is unsustainable which leads to the "bust" or recession.

* Austrians see the interest rate as coordinating time preferences of lenders and borrowers. Keynesians, in contrast, do not see a necessary connection between investment and savings, and thus, the role of interest rates.

Essay Questions

Instructions: Respond to the following questions using your knowledge of Austrian Economics.

* Compare and contrast the Austrian and Keynesian approaches to macroeconomics, focusing on their different explanations of business cycles and economic fluctuations.

* Discuss the concept of "subjective value" in Austrian economics and its implications for understanding markets and prices. Consider both the strengths and limitations of this perspective.

* Explain the Austrian critique of socialist economic planning and why they believe markets are better at allocating resources. Focus on the concept of knowledge in your argument.

* Evaluate the Austrian theory of the business cycle, considering its key assumptions, mechanisms, and empirical evidence. Are there aspects of this theory that are not fully supported by the information in the provided text?

* Discuss the concept of monetary equilibrium in relation to free banking and inflation. To what extent does this monetary view impact other aspects of Austrian thought?

Glossary of Key Terms

Austrian School: A school of economic thought emphasizing methodological individualism, subjective value, and the importance of free markets and spontaneous order.

Business Cycle: The periodic fluctuation of economic activity, including periods of booms and recessions.

Entrepreneur: An individual who identifies and exploits market opportunities, acting as an agent of change in the economy.

Free Banking: A system in which banks are allowed to issue their own currency, with minimal government intervention.

Indirect Exchange: The use of a medium of exchange (i.e., money) rather than direct barter to facilitate transactions.

Inflation: An increase in the money supply that is not matched by an increase in the demand to hold money, often leading to rising prices.

Labour Theory of Value: The economic theory that states that the value of a good is determined by the amount of labour put into producing it.

Marginal Utility: The additional satisfaction or usefulness obtained from consuming one more unit of a good or service.

Monetary Equilibrium: The state where the quantity of money available in an economy is equal to the demand to hold money, which Austrians believe is a necessary condition for a stable economy.

Natural Rate of Interest: The rate that reflects the actual time preferences of market actors, according to Austrian thought.

Opportunity Cost: The value of the next best alternative that must be forgone when a decision is made.

Spontaneous Order: The idea that social order and institutions can arise as the unintended result of individual actions.

Subjective Theory of Value: The idea that value is determined by individual preferences and is not intrinsic to a good itself.

Time Preference: The degree to which people prefer to consume goods or services in the present rather than in the future.

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