Another ABCT debate

For those who want to investigate ABCT in detail, there is plenty of material to ponder in the recent debates on Coordination Problem. Of course, this is no substitute for a detailed study of the literature, but, however, without knowledge of this literature most of the debate is fairly incomprehensible.

Many aggregate-demand analysts tend to think that a recession can be made less severe, or altogether avoided, by increasing the money supply in order to offset, or more than offset, a fall in velocity.

The objection that has been raised by many, me included, in the comments of the linked post is that malinvested firms are the most likely to ask for an extension of credit, so that prima facie most of the easing of credit (money) constraints will be used to postpone the liquidation of malinvestment and the consequent recovery.

The criticism has not been answered. In the comments, I refer to a work by Peek & Rosengren on the behavior of Japanese banks during the lost decade. I also have to cite a casual remark by Hayek in "The formation of capital" about the dangers of relational banking throwing good money after bad.

Besides, I cited the last three chapter of Hayek's "The pure theory of capital" because his criticism of Keynes's liquidity preference analysis is perfectly suitable to criticize also attempts to stimulate aggregate demand: a liquidity demand increase arising out of an unsustainable structure of production is not really a rise in liquidity preference, but banks (as in "Monetary theory and the trade cycle") have no means to distinguish between the two.

It is of course conceivable that an exogenous rise in money demand puts pressure on production because of short-run rigidities. It is impermissible to think that easing monetary and credit conditions when most of this increase in money demand is endogenous to the structure of production is a solution to the problem of malinvestment.