Despite the fact that the "hollowing out process" should have been obvious to any competent journalist just about every single member of the global economic commentariat completely missed it, in doing so they provided ample evidence of how bad the teaching of economics has become.

The process is fundamentally simple. There always exists at any point in time a structure of relative prices. When undisturbed by bad monetary policy these prices effectively allocate resources to their most valued uses. However, should a country's currency become persistently overvalued its price structure will be distorted with the result that exports will become more expensive and imports cheaper.

Depending on their circumstances export industries will be left with three courses of action: reduce the scale of their operations, go out of business or shift their operations abroad. In addition, the producers of many non-tradable goods could now find themselves having to compete with imports. Therefore we find that the country becomes excessively oriented toward consumption and its capital structure shortens.

In brief, due to the central bank's inflationary policy a process of deindustrialisation sets in, current account problems emerge, the financial sector undergoes excessive expansion as do services in general while manufacturing as a proportion of GDP contracts. This certainly seems to have been the case in the US, the UK and Australia.

What is maddening is that this process used to be fairly well understood. Friedrich von Hayek referred to it in Money, Capital and Fluctuations: Early Essays, Routledge & Kegan Paul, 1984, pp. 150-2. The eighteenth century Anglo-Irish banker Richard Cantillon wrote a brilliant analysis of how inflation distorts the price structure and the pattern of production. (Richard Cantillon, Essay on the Nature of Commerce in General, Transaction Publishers, 2001, written about 1734 and first published in 1752).

The heart of his analysis was the insight that money is not neutral, a vitally important issue that was part of the bullion controversy of the 1800s with respect to how inflation affected exchange rates, prices and production. Following in the tradition of Cantillon's analysis John E. Cairnes explained how the Australian gold discoveries disrupted the colonies economies and distorted the price structure and the pattern of international trade, observing that

the action of the new gold on prices will not be uniform, but partial. Certain classes of commodities will be affected much more powerfully than others. Prices generally will rise, but with unequal steps . . . The movement will be governed throughout its course by economic laws. (John E. Cairnes, Essays in Political Economy, Mcmillan and Co., 1873, p. 57)

Des Moore's ignorance of the history of economic thought and his failure to fully grasp the theory of free trade greatly helped the enemies of the market

As the reader can easily see this is a vitally important issue, one that directly affects economic policy and living standards. Unfortunately Australia's economic commentariat not only refuse to debate it they have gone so far as to even deny its existence. Des Moore, a former deputy head of the Australian Treasury and one of our self-appointed defenders of the free market, dismissed the issue on the asinine grounds that the analysis was not part of "the traditional explanation". According to the likes of Moore and Sinclair Davidson, another self-appointed defender of the market, the a decline a in manufacturing as a proportion of GDP is basically an example of the law of comparative advantage at work.

But my argument is that the concept of comparative advantage was conceived within the framework of a gold standard, meaning that its success rests on sound monetary policies. This would be obvious to anyone with a reasonable knowledge of the history of economic thought, which Des Moore clearly does not possess. Joseph Schumpeter — one of the last century's leading historians of economic thought — noted that "the 'classic' writers without neglecting other cases, reasoned primarily in terms of an unfettered international gold standard". (Joseph Schumpeter, The History of Economic Analysis, Oxford University Press, 1994, p. 732).

Davidson's approach to manufacturing badly damaged the case for free markets and helped justify greater government direction of investment and industry

Moore is not alone in his ignorance and arrogant conceit. Two years ago Chris Berg and Sinclair Davidson, both of whom are with the Institute of Public Affairs, wrote Thumping the Table: Key Questions for the Labor Party’s 'Industry Policy'. The paper concerned manufacturing and — to be blunt — it was a pretty sorry job indeed. I raised the same points that I repeated here. Berg had the decency to remain silent in the face of my criticism. Davidson, on the other hand, responded with the insult that he only deals with professionals, with him defining who is a professional and who isn't, and the facts of the case be damned.

In other words, the IPA adamantly refused to defend their own paper, a paper that involved a vitally important issue, because they knew they would have to admit ignorance of very crucial part of the history of economic thought and the consequences it could have for economic policy, not to mention their own reputations. In refusing to confront this issue the IPA made it abundantly clear that the welfare of Australians come a very poor second to their own selfish interests.

Regrettably, it gets even worse. Ron Manners, who founded and heads the Mannkal Economic Education Foundation, personally objected to me having the bad taste to expose the incompetence, dishonesty and cowardice of the IPA. For some very peculiar reason Mr Manners seems to think it is a form treachery to expose the errors of our self-appointed and self-anointed leaders of the free market cause, of which he considers himself to be one.

Mr Manners — and I kid you not — calls himself "the happy libertarian". Why is he happy defending two men who wrote a paper that damaged the reputation of free market thought? Evidently Manners is unable to grasp the fact that Berg and Davidson's paper played into the hands of statists who believe that free markets have failed the country.

Last year the Centre for Independent Studies published a truly shoddy piece of work promoting a carbon tax. Such a tax would savage living standards and devastate the economy. When I criticised this atrocity Manners sided with — you guessed it — the Centre for Independent Studies. He then compounded the insult by writing them a cheque. So what in heavens name made Manners — the free market crusader — so happy about this mob and their destructive anti-market tax?

Australia's so-called free marketeers are a bloody disgrace.

Gerard Jackson is Brookesnews' economics editor

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