A Hayekian Analysis of the Term Structure of Production

This paper applies cointegration analysis to investigate the term structure of production using the Hayekian triangle model. The Hayekian triangle illustrates how arbitrage among real and financial assets effects intertemporal resource allocation. The prevailing term structure of interest rates determines resource allocation among early, middle, and late stages of production, in accordance with consumer time preference and available investment alternatives. When consumer time preference increases (decreases), demand for consumer goods increases (decreases) as saving decreases (increases). This change in time preference brings about a reallocation of resources from early (late) stages of production toward late (early) stages, shortening (lengthening) the production structure embodied in the capital stock. In contrast, credit expansion (contraction) engineered by the central bank lowers (raises) interest rates, reducing (increasing) the attractiveness of saving, and causing prospective savers to spend more (less) of their income on consumer goods, and reduced (increased) saving finances the purchase of fewer (more) producer goods, shortening (lengthening) the production structure. However, credit expansion (contraction) simultaneously mimics a reduction (increase) in time preference, also reallocating resources toward earlier (later) stages of production, creating an unsustainable and time-inconsistent production structure which then becomes pinched in the middle (or bowed outward.) U.S. interest and employment data are used to estimate stable long-run cointegrated vectors. Results provide convincing support for the Hayekian triangle as an encompassing explanation of intertemporal resource allocation and production