Wednesday, June 29, 2016

Carl Menger and the Austrian School of Economics

Carl Menger and the Austrian School of Economics

[This article, written on the occasion of a memorial to Carl Menger, first appeared in Neue Freie Presse (Vienna), January 29 /30, 1929. It was translated from the German by Bettina Bien Greaves, and appeared first in Austrian Economics: An Anthology (Foundation for Economic Education, 1996, pp. 47-53. This is this article's first appearance online.]
On the day when the memorial to Carl Menger is to be unveiled in the courtyard of the University of Vienna, it seems appropriate to take a look at the work accomplished by Menger, founder of the "Austrian School of Economics." This is by no means merely a posthumous trib­ute to persons who are dead and gone. Even though those who devel­oped the Austrian school are no longer with us, their work survives as firm as a rock and it still continues. What they contributed has become the basis of all scientific effort in economic theory. Every economic thought today is connected with what Menger and his school demon­strated. 1871, the date of the publication of Menger's first scientific work, Principles of Economics, is usually considered the opening of a new epoch in the history of our science.

No place would be better than the columns of the Neue Freie Presse to review briefly for a larger audience the work of the Austrian school. Carl Menger himself, as well as all the others closely or more loosely associated with the older Austrian school-Eugen von Bohm-Bawerk, Friedrich von Wieser, Robert Zuckerkandl, Emil Sax, Robert Meyer, Johann  Komorzynski, Rudolf Auspitz, Richard Lieben-often availed themselves of the pages of the Neue Freie Presse to discuss economic and political events of the day and to report on the results of their theoreti­cal analyses.

The knowledge that prices, wages, and interest rates are clearly determined through the marketplace, even within very narrow mar­gins, and that the market price functions as a regulator of production, was developed in the 18th century by the Physiocrats in France and by the Scots David Hume and Adam Smith. This knowledge became the historical foundation of scientific economics. Where previously men had seen only chance and caprice in economic affairs, they came to rec­ognize regularity. The Classical school of economics, which reached its peak in the works of David Ricardo, considered its task to be to elabo­rate a comprehensive system of catallactics, a theory of exchange and income.

The recognition brought to light by theoretical investigation led to important conclusions for economic policy. People began to realize that the interventions, by which governments sought to direct the economic forces in a certain way to attain some particular goal, must fail. By no means can the fixing of maximum prices assure the provisioning of the people at the cheapest possible prices; if the official order is actually obeyed, it leads to a contraction, if not to a complete halt, of the ship­ment to the market of the commodities concerned; thus the interven­ tion accomplishes the very opposite of what had been intended. The situation is similar with respect to the political regulation of wages and interest rates, as well as with regard to interventions in international trade. Mercantilism believed that to assure equilibrium in foreign trade measures of trade policy (tariffs, embargoes, etc.) were necessary.

Ricardo proved that equilibrium always reestablishes itself automati­cally, that measures of trade policy to protect a monetary standard not destroyed by inflation are superfluous, and that they are incapable also of halting an inflation-caused downward slide of purchasing power. Political measures aimed at trade policy divert production away from opportunities that take advantage of the most advantageous natural conditions of production, reducing the economic productivity of labor as a result and thus depressing the living standards of the masses.

In the eyes of Classical economics interventionism seemed nonsen­sical in every respect. The continual improvement in the well-being of all classes may be expected, not from government interventions which only hinder and hamper economic development, but from the free flow of all forces. So the political program of liberalism, which advocated free trade in domestic as well as international economic policy, is built on the foundation of Classical economic theory.
Whoever wants to struggle against liberalism, must attempt to refute these conclusions. But that is impossible. The aspect of Classical economic theory on which liberalism rests cannot be shaken. Only one way remains for the opponents of liberalism: they must reject on prin­ciple, as the German Historical school of political science does, any knowledge of the social economy which claims general validity for its tenets; only economic history and economic description are considered of value; fundamental investigations of the interconnectedness of eco­nomic phenomena are declared to be "abstract" and "unscientific."

After Walter Bagehot, whose reputation as a political economist rests on his renowned book on the London money market, Lombard Street, had already struggled against these errors in the mid-1870s, Menger came forward in 1883 with his Untersuchungen uber die Methode der Sociolwissenschaften [Investigations into the Methods of the Social Sciences]. The debates associated with this book, which have come to be known as the Methodenstreit, exposed the objections raised by his­toricism against the logical and methodological correctness of the exis­tence of generally valid knowledge in the field of economics.

Theoreti­cal ideas and principles, the general validity of which is maintained even if not so recognized, are found in every economic historical inves­tigation or description. Without a consideration of theory, it is impossi­ble to assert anything about anything. In every statement about com­modity prices, taxes, socio-political measures or group interests, "theory" must necessarily be included. If the school of academic social­ists has failed to notice this, that does not mean they have operated without theory. It only means they have relinquished any claim to investigate the correctness of their theories in advance, to think them through to their logical conclusions, to integrate them into a system, to explore their irrefutability and their logical consistency, and to check them against the facts.

Instead of useful, irrefutable theories, therefore, the school has based its investigations on untenable, long-since repudi­ated errors which are full of contradictions. And these it has presented as the outcome of its efforts.

To pursue economic theory means simply to examine all assertions concerning economics, again and again, to examine them very critically on their merit, using every intellectual means available.

Classical economics was unable to solve the problem of price for­mation satisfactorily. To accomplish this, it is obvious that the basis of the evaluations, which determine the configuration of the prices of goods, derive from their utility (their usefulness for the satisfaction of human needs). However that presented a difficulty which the Classi­cists, in spite of their ingenuity, were unable to overcome. Many of the most useful goods, such as iron, coal, or bread, have little value on the market;  goods such as water or air are not even considered to have any value at all. On the other hand, some less useful commodities, precious stones for instance, are highly valued. In view of the failure of all their efforts to explain this antinomy, the Classicists seized on other explana­tions of value, but without artificial help none of these could be thought through to an irrefutable conclusion. Apparently nothing seemed to work.

Then Menger appeared on the scene with his ingenious first book which overcame the supposed antinomy of value. It is not the signifi­cance of the entire class of goods, which determines value, but the sig­nificance of precisely that portion of a good that is at one's disposal. Since we ascribe to every individual portion of a given supply only the importance of the want-satisfaction it has brought about, then with respect to every individual class of needs the urgency of further gratification diminishes with progressive satisfaction; thus we value each concrete aliquot [fractional] portion according to the importance of the last, i.e., the least important, concrete need which can be satisfied by the still available supply, that is to its marginal utility. In this way, the for­mation of the prices of goods of the first order, i.e., goods for immediate use and for consumption, may be traced to the subjective values of con­sumers. The formation of the prices of goods of the higher orders (also known as factors of production or operational goods) including wages, prices for labor power, i.e., goods needed for the production of con­sumers' goods and luxury goods, are also traced back to the prices of the goods of the first order. Thus in the final analysis it is the consumers who determine and who pay the prices of the means of production and wages. To accomplish this calculation is the task of accounting theory which deals specifically with prices, wages, interest, and entrepreneur­ial profit.

Using the knowledge already won by the Classicals, Menger and his successors erected on the new foundation a comprehensive system interprething all economic phenomena.

Almost at the same time as Menger, and independently of him, the Englishman William Stanley Jevons and the Frenchman Leon Walras working in Lausanne [Switzerland] expounded similar theories. After some time had passed, time which every new idea needs to be accepted, the subjectivist marginal utility theory became victorious worldwide. Menger was luckier than his important forerunner, the Prussian government official Hermann Heinrich Gossen; Menger's the­ory gained the recognition of economists throughout the entire world. The ideas of the Austrian school were developed in the United States especially by John Bates Clark, founder of the renowned American school. Clark, like Heinrich Oswalt in Frankfurt and Richard Reisch, is a worthy associate of the Economic Society of Vienna. The theory soon flourished also in the Netherlands and the Scandinavian countries. And successful scientific work based on it appeared in Italy.
Menger did not found a school in the usual sense of the word. He stood too high and thought too much of the worth of science to use the paltry means by which others seek to promote themselves. He inquired, wrote and taught. And the best who have worked in the Aus­trian state and economy in recent decades have been products of that school. Optimistic like all liberals, Menger fully expected that reason must finally prevail.

Before long Menger had two companions who stood with him, two men who followed in his footsteps, both a decade younger than Menger-Eugen von Bohm-Bawerk and Friedrich von Wieser. Both were the same age, had been friends from youth, were bound together as brothers-in-law, and were related also by conviction, character, and culture. As scientific personalities, however, they were both as different as two equally aspiring contemporaries could be. Yet each in his own way began working where Menger left off. Working as mature men with Menger 's works at hand, they succeeded in solving problems. Their names are now inseparably linked to Menger 's in the history of our science.

Now these two men have also completed their work and their lives. A new generation is coming along. A collection of exceptional scientific investigations has been published in recent years by men who have not yet reached their thirties, showing that Austria is unwilling to relin­quish her priority as a source of important economic contributions.

The Historical school of academic socialism and of "economic political science" has not allowed itself to be interrupted by the critical and positive work of the Austrian school any more than it has by the foreign interventionist school. The members of the German Historical school, confident in the political power guaranteed them by govern­ment and political parties, continue to look down contemptuously on serious theoretical work; and they continue calmly to publish their work on the omnipotence of the state over the economy.

The economic-political experiments put into effect during the War [World War I] and the early post-war years carried interventionism and statism to a peak. Everything that was tried-maximum prices, the command economy, inflation-turned out just as foreseen by the theo­reticians, the theoreticians who are despised by government officials and adherents of the Historical school. Yet the opponents of "abstract, inappropriate, Austrian value theory" still tried stubbornly to maintain their point of view. How far they went in their delusion is illustrated by the fact that one of them renowned as a monetary authority, Bank Director Bendixen, announced that he believed that the undervaluation abroad of the German currency during the War was "to a certain extent even desirable because it made it possible for us to purchase foreign goods at an advantageous rate."

Finally, however, a reaction must set in. The Historical school's anti-theoretical position is beginning to be rejected. The decade-long neglect of theoretical studies had led to the remarkable result that the German public must look to a foreigner, the Swede Gustav Cassel, for a principled explanation of the problems of economic life. For example, Cassel related to German newspaper readers, not only the old purchas­ing power parity theory of exchange rates first developed by Ricardo, but also the suggestion that lasting unemployment is a necessary con­ sequence of union wage policy. Cassel expounded in his theoretical works the theory of the subjectivist school, even if he expressed it a lit­tle differently and at times somewhat awkwardly so that it is not exactly worth accepting in every detail.
Though the camp followers of the Historical school still try to set forth their old theme of the end or collapse of marginal theory, one can­ not fail but recognize, however, that to an increasing extent the ideas and thoughts of the Austrian school are penetrating the treatises of today's younger political economists, even in the German Reich. The work of Menger and his friends has become the foundation of the entire modern science of economics.
Ludwig von Mises
Ludwig von Mises
Ludwig von Mises (1881-1973) taught in Vienna and New York and served as a close adviser to the Foundation for Economic Education. He is considered the leading theorist of the Austrian School of the 20th century.
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1 comment:

  1. For more Menger see also The History & Mystery of Money & Economics-250 Books on DVDrom