Skyscrapers and Business Cycles

0:00I'll be the next speaker, and I'll be talking about a paper that I've written called Skyscrapers and Business Cycles which shows basically how to predict, how skyscrapers can help you predict the business cycle and that if you had read my paper you'd be 50% wealthier now rather than 50% poorer. But I wanted to reflect on, you know, how great it is to work at the Mises Institute and have Tom Woods as a colleague and have the opportunity to follow him as a speaker at the podium. That's always a great privilege.

0:45I want to step back just a minute before I get into the skyscraper business. I went to graduate school in 1982, all energized to study Austrian economics, and in particular the Austrian Theory of the Business Cycle. And when I got to graduate school, I was told that the Austrian Theory of the Business Cycle was a grisly embarrassment in economics, and that the Austrian School of Economics was an historical fact and that in the evolutionary process in academics that the Austrian School was soon going to cease to exist because there was only about six academic Austrians left in the world and none of them were teaching at PhD granting institutions And so that was the state of the world 26, 27 years ago in academia in 1982.

1:53Fortunately at the time, Lew Rockwell was hatching his plot to resurrect the Austrian School and would be moving to my town the next year and starting that whole process. But in the meantime, I had dropped my interest in the Austrian theory of the business cycle and taken up public policy issues of a more microeconomic nature. But during the tech stock bubble of the late 1990s, I had just finished working for two years in government. Please don't hold that against me. But I decided to have a fresh start, so to speak, and get back into macroeconomics and the business cycle theory and things of that nature.

2:43I began writing a series of articles about the history of American business cycles and looking at how economists had been dealing with them. And some of this follows up on what Tom was talking about. Looking at America's Great Depression during the 1920s, we had the roaring 1920s. Everything was great. Everything was fine. Economists were telling America that we were in a period of perpetual prosperity and that we had reached a permanently high plateau of prosperity. Based on the idea that economists had now been put in charge of the economy, that they had figured out a secret formula, that they were going to stabilize the value of the dollar, and on that scientific basis, that we had nothing to worry about, and so, invest all of your money in the stock market, not to worry, you're going to make money.

3:48Indeed, on the eve of the stock market crash in 1929, economist Irving Fisher said that we had reached a permanently high plateau of prosperity and that he foresaw no recession in stock prices. And he continued to say the same thing until the American stock market had lost about 90% of its value. In 1928, the year before the crash, Ludwig von Mises published an entire book critiquing Fisher and this modern approach to the business cycle and controlling the economy and showing that it had fatal flaws. And Mises and a couple of his students, F. A. Hayek, all predicted correctly that we were going to go into a The depression would be international in scope and severe in nature.

4:47And so America's Great Depression, the Austrians had it correct, predicted it beforehand, while the mainstream economists did not see it coming, thought they had it scientifically in their hands and that we were in a permanent prosperity. The same thing happened in the 1960s. The Keynesians got control of economic policy. They instituted Keynesian policy measures. Their science of Keynesian economics was supposed to have eliminated business cycles. And indeed, they claimed that there was no longer needed a course in business cycles in college because it was a thing of the past. And Arthur Oaken, The Chairman of the President's Council of Economic Advisers published a book on this subject in 1969.

5:41It unfortunately came out the same month as a severe recession started, showing that business cycles were essentially a thing of the past and that we had perpetual prosperity once again restored. Of course, what followed was the stagflation of the 1970s, a period of severe, long, high unemployment and high inflation. Murray Rothbard and Henry Hazlitt both showed what the Keynesian approach would do, both publishing articles in 1969, at the same time that Arthur Oaken was publishing his book, they got it right and Oaken got it wrong.

6:29We see the same thing in Japan, the same similar thing where the economists have this scientific approach, they've got this model that they're building that they're going to use policy manipulation and they're going to create prosperity and a boom in the economy. Economy and indeed they created the boom but they had no idea of the bust that was to follow where Japan languished some say 10 years some say till the present day and American economists were all over themselves saying that Japan was going to take over the world and that the US was doomed if we didn't adopt their so-called scientific approach and again we see this in the 1990s during and its tech stock bubble.

7:18Mainstream economist saying, well, we've got Greenspan in there. We're not sure what he's doing, but he knows what he's doing, and he's watching every conceivable number, not just a formula. He's watching everything, and he'll bail us out if there's any slight problem. And so, you know, American economists, again, controlling the system, so to speak, manipulating policy, creating the bubble in the economy and creating all sorts of not-to-be-met expectations. A couple of free market economists, not from the Austrian School, but free market in nature, published a book at the height of the bubble called Dow 36,000. A couple months later another Another free market economist published a book called Dow 40,000 and then just before the slide really hit, Ralph Acampura published a book called Dow 100,000.

8:25Needless to say, a little off base there. And so there is this series of in American history, and indeed world history, that shows that the Austrians have gotten it right. They believe in sound money, whereas the mainstream economists believe in this so-called scientific approach, develop a formula, create a bubble, make everybody happy, and get out while the getting's good. Like Greenspan. I mean, he He must have known what was coming, right? And Arthur Oaken, he resigns the month before the big stagflation hit.

9:14So that is the history. And it's something I talked a little bit about. I came to Houston about 10 years ago to do kind of a proto-Mises circle event. It was in an Italian restaurant, but it wasn't this Italian restaurant. and so I was interested in the business cycles at that time and when I got back to Auburn I came across an article in the newspaper, Investors Business Daily, reporting on a report by Andrew Lawrence, the report was called the Skyscraper Index, and I found this very interesting Lawrence draws this correlation between the building of the world's tallest skyscraper and the onset of global economic depression and the history is very interesting the Singer building and the Metropolitan Life building were both begun in 1906 and those were designed to be record-setting skyscrapers in New York, and we had the panic of 1907. The Singer Building was completed in 1908, and the Metropolitan Life Building was completed in 1909. And then in the late 1920s, 40 Wall Street was started in early 1929, the Chrysler Building was finished

10:57in 1930 and the Empire State Building was completed in 1931 and of course the Great Depression began in 1929. So all of these buildings were begun during the height of the bubble of the 1920s and then we had the crash and then these buildings were completed. They all set new record height for skyscrapers. And then we went of course through the Great Depression, World War II and onward. And then in the early 1970s we had a similar building program of new record-setting skyscrapers. In the late 1960s World Trade Tower 1 and World Trade Tower 2 were begun and designed to become record-setting skyscrapers. In Chicago the Sears Tower was started, which was designed again to set a record height. They were completed in the early 1970s, right after the beginning of the onslaught of the stagflation of the 1970s.

12:03Fast forward ahead to the 1990s. While Japan was in the economic doldrums, the Asian tiger nations, Taiwan, Singapore, Hong Kong, those countries were all going strong. They somehow avoided the problems that the Japanese economy had and continued on, and at the height of all this they started the Petronas Towers in Guadalupeur, and again it was designed to set a record height in skyscrapers. It was completed shortly after the beginning of what was called the Asian Contagion, where where economies suffered currency problems, economic problems, high unemployment, and so on.

12:54And so again, there's this relationship, this correlation between the building of a record-setting skyscraper and major economic difficulties in the world. And then we also have, subsequent to Lawrence's paper, because it came out in 1999, we still had the tech stock bubble going at the time, and in Taiwan they were building Taipei 101. There was also a record-setting skyscraper designed in New York City that never got off the ground, so to speak, I think, due to, I think, environmental questions. But, so Taipei 101 was being built. The tech stock bubble broke down. It was completed. It took them a while to complete that one, but again, this sort of re-emphasizes the correlation that Andrew Lawrence drew my attention to. There were problems with his analysis. For example, the Woolworth building, which was a record-setting skyscraper in 1913, was not associated with any kind of economic troubles.

14:16So I took this article and I started to look at it. I said, is there any justification for this kind of indicator, to be a reliable indicator of economic doom, because there's a lot of silly ones out there, like who wins the Super Bowl? Are you really going to bet your retirement money on the outcome of the Super Bowl? I imagine that there are some There's some people who do that, but it just wouldn't work for me. There's the January effect, where if the market is up in the first week of the year, it's okay to leave your money in there because it's up for the first week.

15:10I've always been very skeptical of those kind of stock market tip indicators and so I began to take this index seriously and I started to notice, well, you know, there is reason to take this seriously because despite what the mainstream economists say, you know, there are real factors in a business cycle. There are real malinvestments that take place in and Business Cycles and where they very often take place is in real estate. I mean, no matter what industry is being hyped up in the boom, it's going to involve to one degree or another real estate and in our case, of course, with the housing bubble, it's the central part of the story.

16:00But in all business cycles, real estate and of course, skyscrapers are nothing but very Very Tall Real Estate. So that's something that we can take to heart and also technology. Technology is also often involved with the business cycle, the boom and bust process. During the 1990s, I got a big kick out of the fact that a lot of economists, mainstream economists and politicians were saying that we really didn't have to worry if this was was a bubble or not because technology was making things so efficient and, you know, that we should be really worried about, you know, not having enough work because machines and computers and the internet and so forth were going to make work obsolete and, you know, we really wouldn't have to worry about a downturn because we wouldn't notice it.

16:57So I began incorporating Austrian economic theory into this story about skyscrapers. In each case of these record-setting skyscrapers, we saw an expansion of the money supply. We saw easy credit conditions in each of these cases where central banks were making credit available to the banking system at dependably low rates. They were also making motions, of course, Alan Greenspan leading the charge, saying that if there were any problems in the economy, that the Fed and the central banks would come to a rescue. And so, under these easy credit conditions, there's typically an expansion of capital expenditures. This This helps inaugurate a boom in the economy and you get higher stock prices and you get the tendency of speculation to run wild in the economy and each of these cases followed that same process until you get to the point in the economy at the height of the bubble where everyone is a genius.

18:16can make money doing whatever it happens to be. Flipping houses, day trading, stocks, and so these sort of phenomena were taking place during each of the cases where record setting skyscrapers were being built. And in each of these cases, things eventually turned sour. Cost of production in the economy starting to rise. Typically, for example, And then you start to find out that entrepreneurs are finding that competition is creating pressure on prices. In other words, all those geniuses who were going into business simultaneously in the same line of work were all competing against one another and prices were falling and therefore profit expectations were also falling.

19:10And then you see rising interest rates or less easy credit, lending standards become more strict, projects get curtailed, losses occur and you get bankruptcies. So, on the historical surface, all of these cases of record-setting skyscrapers, the traditional Austrian theory of the business cycle was holding true. And so I took it one step further and I looked at what an Austrian economist called Cantillon effects. Named after an Austrian, excuse me, an Irish economist who was a banker in Paris. And I had more or less accidentally started doing some research on him in 1998, about the same time that I'd gone back to macroeconomics.

20:03and Bioeconomics. So I had these two different threads in my research interest and they came together in these record-setting skyscrapers. What Cantillon showed was that you have to follow the money. Wherever the money comes into the economy, whether it's through foreign trade, whether it's from foreign subsidies, whether it's from banking industry, Industry, whether it's from savers, it's all going to have a unique effect in the economy. And what Cantillon showed is that increases in the money supply could be consistent with rising interest rates or falling interest rates, so that any kind of effect could occur in economy because of a big increase in the money supply.

20:57What Mises did was he took Cantillon's general case and made a very specific case about money coming into the economy through the banking sector. And of course Mises, much of his early work was in an era where all nations had central banks. So he was refining the Cantillon effect in developing the Austrian theory, the business cycle. And this really separates the Austrians from mainstream economists. Cantillon and Mises were looking at the distortion or the allocation of resources, capital, in the economy. In the mainstream, capital is, it's kind of hard to explain, mainstream economists view Capital is all the same thing. In other words, a fork is the same thing as a chair. It's just capital. And they call that K. And K works very well in their formula. It doesn't work so well in the real world, because if you ever tried to eat chicken with a chair, impossible, I mean chopsticks much better. So I started looking at you know what happens in terms of skyscrapers in the business cycle. Does the all of the

22:32general forces of the Austrian theory of the business cycle create these Cantillon effects? Can it be seen in record-setting skyscrapers? Well one of One of the things we know happens is that when the interest rate is reduced in the economy, the price of land goes up, especially in central business districts. Anybody who's a builder, a developer, an architect, or just somebody looking for office space knows that when the interest rate is lower, that the price of land and the price of real Real estate tends to go higher and vice versa.

23:18Lower interest rates also reduce the cost of your capital. So the stuff that you put on top of the land is going to go down while the land you're putting it on, the price of that's going to go up. So what happens under those conditions? Well, if land is going up and the cost of capital is going to go down, you're going We need to build higher. If you've got a very, very expensive piece of property, you're going to want to put a second or a third or a fourth story on it until government says, oh, that's too high. Where if the cost of land is low, you're going to spread it out, because building, going up is more expensive.

24:08So, the lower interest rate working through the price of land gives people the incentive to build higher. Also, when the interest rate goes down, firms tend to get larger. They tend to become more capital intensive and they tend to produce and distribute products over a larger territory. And I use the example in the paper of the dairy industry of how this works. How do firms produce more roundabout, as the Austrians explain. We become more profitable and we get higher standards of living in an economy that produces goods in a more roundabout fashion.

24:56But in the business cycle, when we get into a boom, the process is speeded up and it causes misallocations. and in the dairy industry when I was a kid there were cows outside of town they ate grass and then they went into the barn and they were milked and the milk was put in a truck and driven into town into a dairy right down the street from my house and they did something to the milk and it came in cartons outside our back door which I thought was thought was really neat Now, over time, that's changed. There are still cows outside my hometown, they still eat grass, and they still go in the barn.

25:42And then the milk is trucked a long distance to a central processing plant. And in that plant, the products are all produced, and then they're shipped back to grocery stores all over an extensive area. okay that's a more roundabout production process and whatever reason I don't know much about the dairy industry other than what I've explained to you it gets cheaper by doing it that way okay that's the kind of thing that happens in the business cycle but it happens too quickly and it doesn't happen according to the proper price signals, so people tend to try to create these more roundabout production techniques that ultimately go bad.

26:35And finally, in tall buildings, in record-setting buildings, new technology is always introduced. When you go higher, every time they set a new record, engineers have to sit down and and figure out all new ways of doing things. In other words, you can't run the same air conditioning system up 120 stories. It's got to be something that's smaller because every pipe, every wire you run through every floor means you're reducing the amount of rentable space. And so everything has to be re-engineered, like elevators. You're going to go up 120 stories. How are you going to do that? Is the commute to work going to be the same hour commute as getting up to the top floor? And so every time, it's very interesting what they're doing right now with record-setting skyscrapers with respect to elevators. They have, on the newest one, they have three elevator things stacked on top of one another, and these things These are run by computers, so when you get in, you say the floor you want to go to and

27:51the elevator just decides going up and down the best way to accommodate the most people. So basically what I found 2001, 2002, 2003 in looking at all these issues was that the The skyscraper index was a reliable indicator of what's going on in the business cycle because historically it matched up with business cycle conditions and it also had the sort of technical features of what Austrians look at in a business cycle and so I became very I'm very concerned, actually, because there were several places around the world that were starting to build potential record-setting skyscrapers.

28:43In China, for example, many projects are still underway in some state of ongoing construction. in Chicago, they're trying to build record-setting skyscrapers in New York, but most particularly in the Middle East, new record-setting skyscraper projects have been announced in Dubai and in Saudi Arabia within the last month. But the most important thing, I think for our purposes here, is that the Dubai Tower set the record for the highest building in the world in June of 2008, it was under construction for a long time, which is an indicator that you're already in a boom, it has not been completed yet, but it set the record officially in June of 2008, which is of course an indicator that the world is entering an international economic crisis, and that's pretty much much what we've seen. I mean, if you knew the tower was being built, you would be concerned in the second half of 2007 that the economy was going to be entering a worldwide economic crisis and that is what has come to pass. Thank you very much.