The following points highlight the eight major criticisms of Hawtrey’s theory. Some of the criticisms are: 1. Neglects Non-monetary Influences 2. Over-emphasis on the Role of Wholesalers 3. Too Much Importance to Interest Sensitivity of Demand for Credit 4. No Inherent Instability of Credit and Others.

Hawtrey’s Theory Criticism # 1. Neglects Non-monetary Influences:

Myron Ross has pointed out that this is an incomplete theory. It neglects such real causes of the trade cycle as the multiplier- accelerator interaction, innovations, rate of profit and the stock of capital.

In fact, Hawtrey admitted that he has concentrated only on monetary factors. He observed, “Monetary theory offers an explanation of one important class of economic disorders and indicates the remedy for them.

It does not mean that a community perfectly free from monetary fluctuations would have no monetary disorders at all.” A complete theory must deal with real factors as well.

Hawtrey’s Theory Criticism # 2. Over-emphasis on the Role of Wholesalers:


In Hainberg’s view, Hawtrey has exaggerated the role of wholesalers and merchants in the instability of the economic system. This is probably because in his time, i.e. before the First World War, merchants had a strategic position.

Empirical evidence collected now suggests that a large part of the business financing is now done by traders with their own funds rather than with bank credit. This fact has seriously undermined the relevance of this theory.

Hawtrey’s Theory Criticism # 3. Too Much Importance to Interest Sensitivity of Demand for Credit:

Critics have also questioned Hawtrey’s assumption that merchant are sensitive to changes in the rate of interest. This assumption, in their view, is far away from realities.

Firstly, where traders invest their own capital in inventories, changes in commercial bank’s discount rates will have little effect on their investment plans.


Secondly, if the traders regard a reduction in discount rate as temporary, they would not be affected by it.

Thirdly, if the volume of sales remains the same, the wholesalers will have no compulsion to borrow additionally from the banks.

Fourthly, firms’ decisions about the level of inventories is governed much more by expected changes in price, cost of storage and market demand than by the rate of interest.

Hawtrey’s Theory Criticism # 4. No Inherent Instability of Credit:

Hawtrey’s idea of the inherent instability of credit is a product of the old commercial banking school that held that the commercial banks mainly invest in short-term commercial papers. This is not the case now. The commercial banks diversify their portfolios by balancing short-term securities with long-term investments of a liquid nature. There is now no basis for the assumption of instability of credit.

Hawtrey’s Theory Criticism # 5. Unwarranted Confidence in Monetary Policy:


Haberler has also questioned Hawtrey’s view that a cheap-money policy can ward off depression. Haberler has remarked, “His contention that the reason for the breakdown of the boom is always a monetary one and that prosperity could be prolonged and depression staved off indefinitely, if the money supply were inexhaustible, would certainly be challenged by most economists.”

When the expectations of profit are poor, even an easy-money policy would fail to encourage investment. The Great Depression of the Thirties proved the inefficacy of monetary policy.

Hawtrey’s Theory Criticism # 6. Rise in Interest Rate is not the Cause of Economic Prosperity:

Hawtrey’s view that the rise in interest rates on bank loans is the major cause of the end of the prosperity and onset of recession is not borne out by facts. The fact is that a gradual rise in interest rate continues to occur throughout the prosperity phase because of the pressure of increased demand for credit.

The rapid rise in interest rate which Hawtrey had taken as the cause of recession is, in fact, consequence of the crisis; when the demand for money to repay old debts rises suddenly in the wake of recession, the interest rate rises fast. Thus, Hawtrey had mistaken the result for the cause.

Hawtrey’s Theory Criticism # 7. Neglects the Role of Expectations:

J.M. Keynes severely criticised this theory because it neglected the role of profit expectation (called MEC by Keynes) in causing the crisis. Experience has amply shown that monetary restraints can only aggravate the economic situation. They cannot be its sole cause.

Businessmen would continue to borrow even when interest rates are high provided the expected rate of profit is also high. On the opposite, they would not borrow even at low rates of interest if the expected profit is low.

Hawtrey’s Theory Criticism # 8. Incomplete Theory of the Trade Cycle:

Hawtrey’s theory is incomplete because it tries to explain only the upper and the lower turning points of the Trade Cycle. It offers no explanation for the other important characteristic of the business cycle which is called periodicity. Why are some business cycles long and deep? Why are others short and fleeting? This theory does not answer such questions.

The brief review of the major criticisms made against Hawtrey’s theory shows that it took only one-sided view of the instability of the economy. It analysed only the monetary factors. The real factors of profit expectations, multiplier and acceleration effects of investment were not admitted into the theory.

Even on the monetary side, the theory failed to take notice of the need to make distinction between the demand for credit to stock consumer goods and the demand for credit to produce capital goods. Recognising this basic flaw in this theory, the Austrian economist, F A. Hayek, developed another theory of the trade cycle.