Page 223 - DECO402_Macro Economics

Macroeconomic Theory

Notes Expansion phase of trade cycle starts when increases loan facilities. These loan facilities are provided
by decreasing the rate of interest of giving loans or by buying securities. By it traders and producers
are motivated to take loans. Its reason is that they are very alert towards changes in interest rates that
is why when loan is available at cheap rates they take loans from bank for increasing their stock or
material. For this they give big orders with the manufacturers who further for fulfilling this increased
demand deploy more sources of production. Consequently, monetary income of masters of resources
of production increases because of which expenditure on goods increase. Traders see that their stock
is ending. They place more orders with manufacturers. By this there is an increase in productivity
activeness, income, expenditure, demand and sock of the traders diminishes even more. According to
Hawtrey, “Meaning of increasing activeness is increasing demand and meaning of increasing demand
is increasing activeness. Expansion of a vicious circle, productive activeness starts.”
As accumulative process of expansion moves, producers start increasing prices. By high prices traders
are motivated to take more loans, so that they may keep more stock for earning more profits,. In
this manner, optimism motivates to take loans, sales increase by taking loan and by sales, optimism
increases.
Hawtrey has to say that prosperity cannot go on continuously. When banks stop expansion of loans
then prosperity ends. Banks refuse to give loans because their cash reserve stocks get empty and the
currency that is in circulation, it is consumed by the consumers in form of cash holdings. Second
reason is that when prices of domestic goods increase very much as a result of which in comparison
to export, imports increase, then export of gold has to be done to foreign countries. Compelled by
these reasons, banks have to increase the rates of interest and they refuse to give loans. Instead they
ask the trader community to repay loans. By this need for trade depression starts.
For repaying loans to the banks, traders start selling their stocks. By it process of price fall starts. Traders
also cancel their orders given to the manufacturers. Because of decline in demand, manufacturers reduce
their manufacturing activeness. Further, demand for resources of production falls. Unemployment
spreads. Income falls. Declining demand, prices and income- all these are indicators of depression.
Firms, incapable of repaying bank’s loan become bankrupt and in this way compel banks that they
further contract their credit. In this way entire process becomes accumulative and pushes the economy
in depression.
According to Hawtrey, process of recovery moves very slow and with interruptions. When depression
is going on, traders sell their stock at any price that they get and repay banks loans. As a result, money
starts coming in bank’s reserve and their reserves increase. Though bank-rates are very less, still
credit deadlock is maintained which stops the traders from taking loans from the banks because of
pessimism in economic activeness. Central bank may end this obstacle by adopting liberal monetary
policy, which will ultimately bring rejuvenation in the economy.

Criticism

Money theorists like Friedman have supported the theory of Hawtrey. But most economists have
criticised him for this that in describing cyclical ups and down he has emphasised much on monetary
resources and has ignored non-monetary resources. Those facts for which Hawtrey’s theory has been
criticised, some of those are being discussed below:
1. Expansion or contraction of credit cannot bring boom or depression: No one can deny that
by expansion of credit trade activities expand. But Hawtrey believe that by credit expansion,
boom comes. It is not correct because cause of boom is not credit expansion. As Pigou has
targeted, “Changes in bank money supply are a part of trade cycle, not the cause.” In the
last stage of depression loans are easily available but still it remains incapable of bringing

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