Dealing with the Cambridge Capital Controversy: The Reswitching Interest Rates Represent Multiple Equilibria ONLY in a Partial Equilibrium Framework

Real interest rates measure only one aspect of project profitability, the cost of funds. Project profitability depends upon an entire set of funds, flows and prices, of which real interest rates are only one component. Once we allow other values to vary with the real interest rate, the Cambridge demonstration of project equiprofitability at two distant real interest rates disappears.

Technique 1 may be most profitable at two disparate real interest rates if we vary the real interest rate alone. Technique 1 is not necessarily the most profitable alternative at both interest rates if we also specify the changed expenditure patterns and changed relative prices which, in a general equilibrium, must accompany differing real interest rates. In other words, the reswitching interest rates represent multiple equilibria only in a partial equilibrium framework; the Cambridge critique treats the rate of discount as the only relevant determinant of project profitability. It has not been shown that reswitching will occur in a more realistic context.

--Tyler Cowen, Risk and Business Cycles: New and Old Austrian Perspectives, Foundations of the Market Economy (London: Routledge, 2003), 113.