Austrian vs Post Keynesian explanations of the business cycle: an empirical examination

Abstract

Neoclassical economists posted many mea culpas after they completely missed the Financial Crisis of 2008. Some heterodox schools of thought, however, claimed to have seen it coming. Among these were the Austrians and Post Keynesians. There was a surge in references to Austrian Business Cycle Theory in both the scholarly and popular press, while Post Keynesians like Steve Keen took to the blogosphere to warn people of the coming crash. One is led to wonder, however, if both can truly lay a legitimate claim to such accurate precognition when their theoretical underpinnings are so radically different? Can it be that deviations of the actual from the “natural” rate of interest were to blame at the same time that Keynes/Kalecki-style boom-bust cycles were emerging? To answer this question, an empirical test is run comparing the explanatory power of models based on each theory. Rather than limit this to just the period around the Financial Crisis, the test covers 1962 through 2020. The overall results are then compared, as well as the fit just leading up to and through the recession of 2008Q1 to 2009Q2. The results suggest that the Post Keynesians have a considerably stronger case than the Austrians.