The timing of any credit crisis is set by the rate at which the credit cycle progresses. People don’t think in terms of the credit cycle, wrongly believing it is a business cycle. The distinction is important, because a business cycle by its name suggests it emanates from business. In other words, the cycle of growth and recessions is due to instability in the private sector and this is generally believed by state planners and central bankers.
This is untrue, because cycles of business activity have their origin in the expansion and contraction of credit, whose origin in turn is in central banks’ monetary policy and fractional reserve banking. Cycles of credit are then manifest in variations of business activity. Cycles are the cause, booms and slumps the consequence. It follows that if we understand the characteristics of the different phases, we can estimate where we are in the credit cycle.
With sound money, that is to say money that neither expands nor contracts, cycles in business activity cannot exist, except for plagues and wars which interrupt the balances between money-hoarding, saving and consumption. Any exceptions to this rule are bound to be insignificant and non-cyclical, because with a steady money supply, failures are random instead of cyclically clustered by monetary policy.
Capital is always allocated by entrepreneurs to favour the efficient production of the goods and services wanted by consumers. Allocations of earnings and profits to savings are set by entrepreneurial demands for monetary capital to finance production until the goods and services produced are sold. Failures, the result of errors of judgement by entrepreneurs, are inevitable, but are quickly accepted, and capital is redeployed accordingly.
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