The Austrian Business Cycle Theory (ABCT) has been getting much more attention lately, thanks in part to its unique ability to explain the housing bubble collapse and nation-wide recession that followed it. One of the biggest problems advocates of the ABCT face when dealing with criticism of the theory, is the critic’s misrepresentation of what ABCT actually says. Equally problematic, and what I will be focusing on today, is the misrepresentation of ABCT by its advocates – namely using it as a theory to explain much more than what it was designed to do.

In a nutshell, the ABCT explains the macro-wide effects of artificial manipulation of the interest rate (usually by central banks) and how/why this causes the boom/bust cycle. In a recent Mises Daily article, “Monetary Origins of the Poker Bubble,” author Peter C. Earle attempts to make the case that the boom/bust in Texas Hold’ Em poker in America can be explained by the ABCT as it is the result of the Federal Reserve’s manipulation of the Federal Funds Rate.

One of the key errors of this piece is the conflation of a very real bubble that was occurring in financial markets at the time with the rise in poker popularity. While there is no debate over the economy wide bubble being formed in 2003, assigning the Fed’s role in that as the impetus behind the rise of poker is a mistake. The fundamental error lies within the statement that consumers were “frenetically expending tens of billions of dollars on it.” That is simply false. Poker tournaments only take a single digit percentage out of the prize pool, so it is very misleading to say that billions of dollars are being expended. An overwhelming majority of that money (think 95%) is being redistributed back among the players. So it is not the same as spending billions of dollars on goods that are consumed.

To put that in perspective let’s say you play a $100 buy-in tournament every Friday night. Some nights you win your money back, some nights you lose it all, some nights you double it, maybe once a year you win the whole tournament and win whatever that pays out. The point is it is incorrect to merely total up the buy-ins and say that you spent $5,200 that year on poker tournaments. If you were truly awful and never won or broke even, then yes that would be true. But who do you lose the money to? Other poker players! So if you are aggregating poker as a whole, it is important to acknowledge that the money is not being consumed but merely redistributed among the players – with the better players getting back more than they put in. So when framing it in the correct way, to average up all the buy-ins on poker tournaments and say billions of dollars are being spent, is simply false. Only a very small fraction of that money is actually being taken out of the community. The reason this is so relevant is that “where did all this extra money come from” is so critical to the need to point to the Federal Reserve as the source for all this excess money. When in reality, if a player only breaks even their same $100 can last them for what one would mistakenly aggregate as a yearly $5,200 expenditure on poker. So we don’t need an explanation for where these tens of billions of dollars suddenly came from, because to a large extent, that’s simply not what happened.

There are numerous various explanations for why poker exploded so much at the time it did. Some played a larger role than others, but clearly the creation of online poker and the influx of new players that allowed for, coupled with a dramatic improvement and presentation in the televised format that brought in hundreds of millions new viewers is certainly a significant factor. Mr. Earle dismisses these and the other related impetuses as myths and instead believes looking at the change in the Federal Funds Rate is where our answers lie. Occam’s Razor comes to mind at this point. If one is going to overlook what appears to be the most obvious answer, there must be compelling causal evidence to support that. Instead, Mr. Earle’s entire supporting arguments are a form of post hoc ergo propter hoc, without any attempt at explaining why the easy money policies of the Fed affected Texas Hold’Em poker specifically. Why not baccarat? Sports betting? Horse racing? Etc. Sure the Fed-induced boom led to broad increases in a variety of industries nationwide, people have more disposable income, and obviously that doesn’t hurt the poker boom, but to insist that its exceptional rise is due to Fed policy, and not the advent of online poker, followed closely by an ESPN revolutionary broadcast that introduced it to millions of new players, is a bit of a stretch.

The biggest weakness of framing the poker boom as caused by the Fed is the bust part. The decline in poker is very real, but there is still significantly higher poker volume than there was at the start of the boom. This makes it difficult to square as a Fed-created bubble. Mr. Earle used World Series of Poker main event tournament entrants to support his argument, so we will use the same. Let’s look at those numbers, provided by Steve Brecher as a comment in the original article: “839 WSOP Main Event entrants in 2003, Moneymaker’s year. Entrants peaked in 2006 at 8,773. Since then they have ranged from 6,358 in 2007 to 7,319 in 2010. Last year: 6,598.” Where’s the bust? A cessation in exponential growth, to a level that is still 800% greater than the initial “boom” year, does not a (popped) bubble make!

Finally, the Unlawful Internet Gambling Enforcement Act of 2006 (UIGEA) which drove companies and sponsors overseas, and the subsequent US DOJ raid of April 15, 2011, which saw virtually all US-based poker players have their money seized and all poker rooms permanently shut down, is the reason for the tempering off of the poker explosion. There can be no analysis of the poker industry without mentioning these events. Sure if we omit the most important and monumental events in the industry and then look at a poker company like the WPT and see it struggling, since we lack all the relevant information, it seems reasonable to interject the ABCT as the cause behind it. But when you include such monumentally relevant pieces of information, the WPT’s failure is much more readily explained by the essential outlawing of their business, the loss of sponsors, TV networks uncomfortable with continuing to support a product their Federal Government is waging a war against, and the loss of what had been one of the biggest sources of new players in the WPT tournaments – winning a seat in an online poker tournament. I’ve done extensive analysis in regards to what the Federal Reserve did during those years and while it gets a bit complicated the data supports my claim. A visual representation of my findings can be seen here:

In summary, I appreciate Mr. Earle’s enthusiasm for ABCT and there is no doubt it remains the most accurate theory available to us to explain the events of the past decade. However, attempting to extend it to areas in which it is not applicable only serves to obscure the very real insights that it does have to offer us.