Monetary policy as bad medicine: The volatile relationship between business cycles and asset prices

Abstract

Abstract Austrian business cycle theory has become an important point of focus in controversial mainstream discussions regarding the role of asset prices in monetary policy. In this article, the relation between asset prices and the Austrian business cycle theory is examined. The analysis focuses on how central banking supports optimism, resulting in the redirection of entrepreneurial activity and knowledge via asset price bubbles. The crucial role of credit expansion for asset price booms is also analyzed. Following this analysis, the implications for monetary policy are deduced. Keywords Austrian business cycle theory. Asset prices. Asset price bubbles. Monetary policy. Credit expansion. Herding behavior JEL codes B53—Austrian Economics. E32—Business Cycles. E44 — Financial Markets and theMacroeconomy. E58—Central Banks and their Policie