Consumer Expectations Don't Tell Us Much About The Real State Of The Economy

It is overlooked that “fixing the money supply's growth rate” does not alter the fact that the money supply continues to expand. This means that it will continue the diversion of resources from wealth producers to non–wealth producers even if prices of goods remain stable. This policy of attempting to stabilize prices is, instead, likely to generate more instability. 

Alternatively, let us assume that the government presents a plan to raise personal taxes. How is the mere fact that this plan is communicated to everybody going to prevent an erosion of individual's living standards?

Even if politicians could succeed in convincing people that the tax increase is going to benefit them, this cannot alter the fact that individuals’ after-tax income is likely to be reduced.

Alternatively, if the central bank makes it public knowledge that it will raise the money supply growth rate, how can the simple publication of this information prevent capital consumption and the development of a boom-bust economic cycle?

Stable expectations cannot undo the damage caused by loose monetary policies or by higher taxes. Irrespective of whether individuals are successful in identifying the facts of reality or not, these facts are going to assert themselves and will exert their impact on individuals conduct.

Thus, if we have established that people’s real incomes are going to decline, then this is a fact of reality. Regardless of people's psychological disposition, this fact is going to undermine people’s outlays.

The decline in outlays is not going to occur because of the decline in confidence but because consumers can no longer afford the previous level of outlays.

Consumer Expectations in Free versus Hampered Market

Consumer expectations do not emerge in a vacuum but are part of every individual’s evaluation process, which is based on his views regarding the facts of reality.

In a free unhampered market economy, whenever individuals form expectations that run contrary to the facts of reality this sets in place incentives for a renewed evaluation and different actions. Reality is not going to permit prolonged mistaken evaluations in a free unhampered market.

Let us assume that as a result of incorrect evaluation too much capital was invested in the production of product A and too little invested in the production of product B.

The effect of the overinvestment in the production of A is to depress profits, because the excessive quantity of A can only be sold at prices that are low in relation to costs.

The effect of underinvestment in the production of B will lift its price in relation to cost, and thus will raise its profit. We suggest that this will lead to a withdrawal of capital from A and channeled towards B, implying that if investment goes too far in one direction, and not far enough in another the counteracting forces of correction are likely to be set in motion.3

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