Following up Joe’s excellent post on price stickiness: Note that the same argument applies to the so-called “real rigidities” — imperfect competition, co-specialized investment, search costs, efficiency wages, and the like — that are central to New Keynesian theories of unemployment. These sorts of institutional arrangements are part of a dynamic, entrepreneurial, innovative market economy, not impediments to it. The complaint that real rigidities are a source of inefficiency reminds me of the “snapshot” view of competition. It’s true that arrangements made in period 1 may limit trading opportunities in period 2, but that hardly means something is wrong once both periods are taken into account. New Keynesian-style real rigidities emerge endogenously through the actions of profit-seeking entrepreneurs and don’t justify policy intervention to offset the effects of monetary shocks, such as a change in the demand for money.
Joe is also right to point out the central role of rigidities in the “monetary equilibrium” approach to Austrian money and banking theory. I’ve heard some Austrians argue that Hayekian tacit knowledge, and the need for Kirznerian discovery, limits the ability of market participants to adjust to changes in the demand for money under 100%-reserve banking. These limits — call them “Kirznerian rigidities” — supposedly call for an elastic money supply generated by competitive fractional-reserve banks. This leads to the bizarre claim that Murray Rothbard must have believed that prices and wages are perfectly flexible downwards, otherwise how could he claim that any supply of money is optimal? But Rothbard didn’t uphold “perfect flexibility” any more than he upheld “perfect competition,” neither of which has anything to do with real-world market processes. Rather, he thought that market participants operating under a 100%-reserve banking system could deal with rigidities, nominal or real, just as they deal with the other imperfections of real people operating in real markets.
