Lesson 7 of 7
The boundary, written down
A theory of the business cycle is not a timing tool. What this track will claim, what it refuses to claim, and why the refusal is not modesty.
By Javier Sanz
Founder of ValueScreener. Built Ninety Nine, a securities services provider, and sold it to a tier-one global bank; ran operations and internationalization at Alpaca, the brokerage API.
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In one minute
- This track teaches a theory of the cycle as intellectual content. It never teaches timing, and the theory does not contain any.
- The permitted forms of words are narrow on purpose: what the theory claims, on this account, what the published tests found. Never proves, never predicted.
- The honest payoff is not better returns. It is that a cycle reading changes which conditions you write down and watch.
Most of what a reader has heard about this theory arrives as a market call. That is the one thing it is not, and stating the boundary before the theory saves a great deal of trouble later.
Four claims, and which side of the line each falls on
What this track says
- What the theory claims about a credit expansion.
- Which step was added by which author.
- What the published tests of a claim found.
- What a reading changes about the conditions you monitor.
What it will not say
- That the theory proves anything.
- That it predicted any particular episode.
- Where in a cycle anyone is now.
- That any of it improves an investment return.
Everything this track will say lives in the left column.
Why the line is drawn here
Three reasons, and none of them is politeness.
The first is that the theory does not contain a clock. Its account is about a sequence: what a change in credit does to which decisions, in what order. It has nothing in it that fixes how long any step takes, and Mises's own division between theory and history is why. A sequence without durations is not a timing tool no matter how confidently it is repeated.
The second is the previous lesson. A tradition whose core is defended as prior to evidence has to be unusually careful about claiming that evidence vindicated it. You cannot hold a claim immune from data on Monday and present data as confirmation of it on Tuesday.
The third is that this is a research tool and not an advisory one. No lesson here tells anyone to buy or sell anything, and a macro call dressed as education is still a macro call.
No policy, either
The literature in this track is entangled with argument about central banking, the gold standard and bank regulation. Those arguments are real and several of them are interesting, and this track describes them rather than joining them. Where a course reaches a dispute, it states each side as its own authors state it and stops.
What is actually left
Quite a lot, and it is the part with any use in it. A reader who finishes the track can say what the theory claims, who added each step, which claims are shared with mainstream macroeconomics and which are not, and what the strongest criticisms are. That is enough to read the literature without being managed by it.
The applied payoff comes later, in the bridge courses, and it is deliberately small and concrete: a view about credit conditions changes which numbers on a company's balance sheet are load bearing, and therefore which conditions a written thesis has to carry. It never becomes a view about the market.
Check yourself
Why is the theory not a timing tool?
- Because the data needed is not published
- Because its account is a sequence with nothing in it that fixes durations
- Because its authors were not investors
Show the answer
Answer: B.
It describes what follows what. Nothing in it supplies how long any step takes, and Mises's separation of theory from history is the reason.Which of these sentences is permitted in this track?
- The theory predicted the last credit cycle
- The theory proves that credit expansion distorts production
- On this account, a credit expansion changes the relative attractiveness of longer projects
Show the answer
Answer: C.
The permitted forms report what the theory claims and what tests found. Proves and predicted are both ruled out.What does the track offer as the honest payoff?
- Better returns
- A view on where the market is in its cycle
- A change in which conditions you write down and monitor
Show the answer
Answer: C.
Nothing here claims a return, and no lesson gives a market position. The applied end of the track is a checkable condition about one company.Sources
- Mises, Human Action, 1949, chapter II, on the separation of theory from history, which is why the account contains no durations.
- Caplan, 'The Austrian Search for Realistic Foundations', Southern Economic Journal, 1999, on the limits of the tradition's foundational claims.
- Hayek, 'The Use of Knowledge in Society', American Economic Review, 1945, on how little any one participant can know, which applies to the person holding a theory as well.
What this leaves out
- This is a heterodox tradition. The mainstream account of the same phenomenon differs, and nothing here is a forecast or a view on any security.
- The two finishing moves in the example are invented to show a contrast. No company, industry or period is described.
- This lesson is a boundary, not a defence. Whether the theory is any good is argued over the rest of the track.