One of the most critical concepts in Austrian Economics is that of capital malinvestment. This occurs whenever a firm makes an investment in future business that fails to pay off as originally expected. Obviously this happens all the time, people and firms are not perfect and naturally make mistakes. Also obvious is that these same firms are putting as much effort as they can into NOT making such mistakes since the penalty could ultimately be bankruptcy. Therefore in an economy free of outside manipulation such failures would tend to be infrequent and sporadic enough as not to cause serious disruptions. A business may take a heavy loss but regroup and recover with a new investment. Or it may continue to fail, liquidate its assets, and have them put back to use by more productive firms.
This is NOT what is happening in America today. Since the inception of the vile Federal Reserve in 1913 the Federal Government and the Fed Reserve have pursued an openly stated policy of nonstop monetary inflation and artificially low interest rates. This is a very bad thing and one of the key factors in the major economic bust we are currently experiencing. I’m sure you may be asking yourself “What’s so bad about low interest rates? I hate paying interest!”
The problem with manipulated interest rates is that they increase the level of malinvestment in the economy. Instead of sporadic and generally inconsequential malinvestments, you get huge clusters of malinvestment, entire industries blowing up at once. Interest rates are THE key factor that a business uses when evaluating where to invest its money. If virtually unlimited credit is available to every firm in the country for virtually zero interest, suddenly every investment starts to look like a winner. Applied to consumer credit, this causes people to borrow too much feeding right into the malinvestments of the firms that serve consumers. Eventually the bubble bursts. Someone stops spending when they realize what a mistake they’ve made, this cascades through the entire system popping all the bubbles in sight.
The concept of malinvestment is completely foreign to the economists who write economics textbooks, work in industry, and run the federal government. To them, all demand is good demand. All investment, all spending on anything and everything is good. They pursued the low interest rates on purpose, because they believe that if you drive the rates low enough that you can create a bubble that expands forever without consequence. This belief is utterly false. Malinvestment is everywhere you look today: housing, automobiles, restaurants, the list goes on and on.
Still need proof? Here’s an example near and dear to my heart and the well being of quite a few people here in Michigan and the midwest: automobiles. Do you have any idea how many economists and financial analysts and marketing experts are employed by the auto industry? Thousands! Every single one of them in some capacity is given the job of forecasting the future, and evaluating investments to satisfy consumer demand. Smart people, with all kinds of experience and training and fancy degrees and complex computer models. And yet look at what is going on right now, they were all wrong, VERY wrong, and at the same time! What a coincidence!
Automobile demand has essentially collapsed in virtually every market around the globe, at the same time. Virtually every automobile company on the planet overinvested in capacity, and in the wrong kinds of products. Currently worldwide automobile capacity is probably being utilized at about 40%, that means 60% sits idle and unused. That means the entire industry guessed wrong on demand by more than 100% Amazing! Not exactly a near miss. People expect such stupidity from the Detroit 3, but even the untouchable Toyota has made some huge blunders, maybe fewer than the domestics but huge nonetheless. Their new $1.2 billion Austin, TX truck plant sits completely idle less than a year after opening. They’re the smartest guys in the business, how did they screw up so bad?
Whoops, didn’t see that coming…

Everything was looking pretty good for a while there. Demand just keeps going up and up. Then thwack! In less than a year demand falls back to where it was 20 years prior.
Still think artifiically low interest rates are so great? Suddenly you have twice as many auto companies as you really need, half of them could just disappear tomorrow and we would still have plenty of production capacity to serve consumer demand. That’s one heck of a coincidence!
But back to the point I originally started in on: the malinvestments are not being purged. The failed companies are not allowed to fail. The capital is not being diverted to productive activities. The federal government steps back in with bags of free money to keep the failed companies going. Billions upon billions of free money to GM and Chrysler, to keep building cars that no one wants. Oh wait, the government has a plan for that too. Plenty of free cash to the financing companies so dealers can buy inventory and keep the 0% loans flowing to consumers. Still not enough though probably. The Cash For Clunkers bill is virtually guaranteed at this point – the government will literally pay consumers to scrap perfectly good cars and buy new ones. The government is already planning to buy the hybrid and electric cars to be built by the “new” GM and Chrysler, gee I wonder why…maybe because they will be ungodly expensive and no one will willingly buy one with their own money except a few celebrities. And if that’s still not enough they’ll find any number of ways to move that metal (or plastic).