Lift your lamp beside the golden door, Break not the golden rule, avoid well the golden calf, know; not all that glitters is gold, and laissez faire et laissez passer [let do and let pass] but as a shining sentinel, hesitate not to ring the bell,
defend the gates, and man the wall
The Democratic-Republican Party was founded by Thomas Jefferson and James Madison around 1792. Supporters usually identified themselves as Republicans, but sometimes as Democrats. The term "Democratic Republican" was also used by contemporaries, but mostly by the party's opponents. It was the dominant political party in the United States from 1800 to 1824, when it split into competing factions, one of which became the modern Democratic Party.
Jefferson created the party to oppose the economic and foreign policies of the Federalists, a party created a year or so earlier by Treasury Secretary Alexander Hamilton. The Democratic-Republican party opposed the Jay Treaty of 1794 with Britain (then at war with France) and supported good relations with France before 1801. The party insisted on a strict construction of the Constitution, and denounced many of Hamilton's proposals (especially the national bank) as unconstitutional. The party favored states' rights and the primacy of the yeoman farmer over bankers, industrialists, merchants, and other monied interests. There was always a range of opinion within the Party on issues of commerce, public works, and industrialization, which were more warmly received by Madison and the Northern Democrats than by Jefferson and the Southern Republicans; but this was a preference, not a firm ideology on either side. Jefferson signed a bill funding a canal for the Potomac in 1805; Madison ended his term in office vetoing a public works bill.
Jeffersonian purists, or "Old Republican" wing of the party, led by Jefferson, John Randolph of Roanoke, William H. Crawford and Nathaniel Macon, favored low tariffs, states' rights, strict construction of the Constitution and reduced spending. It opposed a standing army. The "National Republicans," led by Henry Clay, John Quincy Adams and John C. Calhoun, eventually favored higher tariffs, a stronger national defense, and "internal improvements" (public works projects). After the Federalist Party broke up in 1815, many former members joined the D-R's nationalist faction.
United States Presidents from the party were: Thomas Jefferson (elected in 1800 and 1804), James Madison (1808 and 1812), and James Monroe (1816 and 1820). The party dominated Congress and most state governments; it was weakest in New England. William H. Crawford was the party's last presidential nominee in 1824 as the party broke up into several factions. One faction, led by Andrew Jackson, would become the modern Democratic Party. Another faction, led by Adams and Clay, was known as the National Republicans. This group evolved into the Whig Party. ________________________________________________________________________________________________
Friedrich August von Hayek
(8 May 1899 – 23 March 1992), was an Austrian and British economist and philosopher known for his defense of classical liberalism and free-market capitalism against socialist and collectivist thought. He is considered by some to be one of the most important economists and political philosophers of the twentieth century. [1] Hayek's account of how changing prices communicate signals which enable individuals to coordinate their plans is widely regarded as an important achievement in economics.[2] Hayek also wrote on the topics of jurisprudence, neuroscience and the history of ideas.
Hayek is one of the most influential members of the Austrian School of economics, and in 1974 shared the Nobel Memorial Prize in Economics with Gunnar Myrdal "for their pioneering work in the theory of money and economic fluctuations and for their penetrating analysis of the interdependence of economic, social and institutional phenomena."[3] He also received the U.S.Presidential Medal of Freedom in 1991 from president George H. W. Bush.[4]
Hayek lived in Austria, Great Britain, the United States and Germany, and became a British subject in 1938. It was during this time that he wrote The Road to Serfdom. Hayek was concerned about the general view in Britain's academia that fascism was a capitalist reaction against socialism. A chapter in the book is entitled, "The Socialist Roots of Nazism." The book was to be the popular edition of the second volume of a treatise entitled "The Abuse and Decline of Reason".[15] It was written between 1940–1943. The title was inspired by the French classical liberal thinker Alexis de Tocqueville's writings on the "road to servitude".[16] It was first published in Britain by Routledge in March 1944 and was quite popular, leading Hayek to call it "that unobtainable book," also due in part to wartime paper rationing.[17] When it was published in the United States by the University of Chicago in September of that year, it achieved greater popularity than in Britain. At the arrangement of editor Max Eastman, the American magazine Reader's Digest also published an abridged version in April 1945, enabling The Road to Serfdom to reach a far wider audience than academics. The libertarian economist Walter Block has observed critically that while the The Road to Serfdom makes a strong case against centrally-planned economies, it appears only lukewarm in its support of pure laissez-faire capitalism, with Hayek even going so far as to say that "probably nothing has done so much harm to the liberal cause as the wooden insistence of some liberals on certain rules of thumb, above all of the principle of laissez-faire capitalism".[18] In the book, Hayek writes that the government has a role to play in the economy through the monetary system, work-hours regulation, and institutions for the flow of proper information.[19]
Nobel laureate
On 9 October, 1974, it was announced that Hayek would be awarded the Nobel Memorial Prize in Economics, along with Swedish socialist economist Gunnar Myrdal. He was surprised at being given the award and believed that he was given it with Myrdal in order to balance the award with someone from the opposite side of the political spectrum.[26] During the Nobel ceremony in December 1974, Hayek met the Russian dissident Aleksandr Solzhenitsyn. Hayek later sent him a Russian translation of The Road to Serfdom and Solzhenitsyn was surprised that someone who had not lived in Russia could see so clearly the effects of socialism.[26] The Prize brought much greater public awareness of Hayek and has been described by his biographer as "the great rejuvenating event in his life".[27]
The economic calculation problem
Hayek was one of the leading academic critics of collectivism in the 20th century. Hayek argued that all forms of collectivism (even those theoretically based on voluntary cooperation) could only be maintained by a central authority of some kind. In his popular book, The Road to Serfdom (1944) and in subsequent works, Hayek argued that socialism required central economic planning and that such planning in turn leads towards totalitarianism. Hayek posited that a central planning authority would have to be endowed with powers that would impact and ultimately control social life, because the knowledge required for central planning an economy is inherently decentralized, and would need to be brought under control.
Building on the earlier work of Mises and others, Hayek also argued that while, in centrally planned economies, an individual or a select group of individuals must determine the distribution of resources, these planners will never have enough information to carry out this allocation reliably. The efficient exchange and use of resources, Hayek claimed, can be maintained only through the price mechanism in free markets (see economic calculation problem). In The Use of Knowledge in Society (1945), Hayek argued that the price mechanism serves to share and synchronize local and personal knowledge, allowing society's members to achieve diverse, complicated ends through a principle of spontaneous self-organization. He used the term catallaxy to describe a "self-organizing system of voluntary co-operation."
In Hayek's view, the central role of the state should be to maintain the rule of law, with as little arbitrary intervention as possible.
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The economic calculation problem is a criticism of socialist economics, or more precisely central economic planning. It was first proposed by Ludwig von Mises in 1920 and later expounded by Friedrich Hayek.[1][2] The problem referred to is that of how to distribute resources rationally in an economy. The free market solution is the price mechanism, wherein people individually have the ability to decide how a good should be distributed based on their willingness to give money for it. The price conveys embedded information about the abundance of resources as well as their desirability which in turn allows, on the basis of individual consensual decisions, corrections that prevent shortages and surpluses; Mises and Hayek argued that this is the only possible solution, and without the information provided by market prices socialism lacks a method to rationally allocate resources. Those who agree with this criticism argue it is a refutation of socialism and that it shows that a socialistplanned economy could never work. The debate raged in the 1920s and 1930s, and that specific period of the debate has come to be known by economic historians as the The Socialist Calculation Debate.[3] Ludwig von Mises argued in a famous 1920 article "Economic Calculation in the Socialist Commonwealth" that the pricing systems in socialist economies were necessarily deficient because if government owned the means of production, then no prices could be obtained for capital goods as they were merely internal transfers of goods in a socialist system and not "objects of exchange," unlike final goods. Therefore, they were unpriced and hence the system would be necessarily inefficient since the central planners would not know how to allocate the available resources efficiently.[3] This led him to declare "...that rational economic activity is impossible in a socialist commonwealth."[1]. Mises developed his critique of socialism more completely in his 1922 book Socialism, an Economic and Sociological Analysis.
Comparing heterogeneous goods
Since capital goods and labour are highly heterogeneous (i.e. they have different characteristics that pertain to physical productivity) economic calculation requires a common basis for comparison for all forms of capital and labour. Money, as a means of exchange, allows many different goods to be analysed in terms of their cost in a very easy way; the cheaper good is a more desirable one to use. This is the signalling function of prices, and the rationing function prevents over-use of any resource.
Without money to facilitate easy comparisons, socialism lacks any way to compare different goods and services. Decisions made will therefore be largely arbitrary and without sufficient knowledge, often on the whim of bureaucrats.
Relating utility to capital and consumption goods
The common basis for comparison for capital goods must also be connected to consumer welfare. It must also be able to compare the desired trade-off between present consumption and delayed consumption (for greater returns later on), via investment in capital goods. The use of money as a medium of exchange and unit of account is necessary to solve the first two problems of economic calculation. Mises (1912) applied the marginal utility theory developed by Carl Menger to money.
Marginal consumer expenditures represent the marginal utility or additional consumer satisfaction expected by consumers as they spend money. This is similar to the equi-marginal principle developed by Alfred Marshall. Consumers equalize the marginal utility (amount of satisfaction) of the last dollar spent on each good. So the exchange of consumer goods establishes prices that represent the marginal utility of consumers, and money therefore is representative of consumer satisfaction.
If money is also spent on capital goods and labor, then it is possible to make comparisons between capital goods and consumer goods. The exchange of consumer and capital/labor goods does not imply that capital goods are valued accurately, only that it is possible for the valuations of capital goods to be made.
These first elements of the Calculation Critique of Socialism are the most basic element: economic calculation requires the use of money across all goods. This is a necessary but not a sufficient condition for successful economic calculation.
Without a price mechanism, socialism lacks the means to relate consumer satisfaction to economic activity, it is argued. The incentive function of prices allows diffuse interests, like the interests of every household in cheap, high quality, shoes, to compete with the concentrated interests of the cobblers in expensive, poor quality shoes. Without it, a panel of experts set up to ‘rationalise production’, likely closely linked to the cobblers for expertise, would tend to support the cobblers interests in a ‘conspiracy against the public’. If this happens to all industries however, everyone would be worse off than if they had been subject to the rigours of competition (economics)
The von Mises theory of money and calculation conflicts directly with Marxist labour theory of value. Marxist theory allows for the possibility that Labour content can serve as a common means of valuing capital goods, a position now out of favour with economists following the success of the theory of marginal utility.
Entrepreneurship
The third condition for economic calculation is the existence of genuine entrepreneurship and market rivalry.
According to Kirzner (1973) and Lavoie (1985) entrepreneurs reap profits by supplying unfulfilled needs in markets. Entrepreneurship therefore brings prices closer to marginal costs. The adjustment of prices in markets towards ‘equilibrium’ (where supply and demand equal) gives them greater utilitarian significance. The activities of entrepreneurs make prices more accurate in terms of how they represent the marginal utility of consumers. Prices act as guides to the planning of production. Those who plan production use prices to decide which lines of production should be expanded or curtailed.
Entrepreneurs lack the profit motive to take risks under socialism, and so are far less likely to attempt to supply consumers demands. Without the price system to match consumer utility to incentives for production, or even indicate those utilities "without providing incentives", state planners are much less likely to invest in new ideas to satisfy consumer’s desires.
Coherent planning
The fourth condition for successful economic calculation is plan coordination among those who plan production. The problem of planning production is the knowledge problem explained by Hayek (1937, 1945) The planning could either be done in a decentralised fashion, requiring some mechanism to make the individual plans coherent, or centrally, requiring a lot of information.
Within capitalism, the overall plan for production is composed of individual plans from capitalists in large and small enterprises. Since capitalists purchase labour and capital out of the same common pool of available but scarce labor and capital, it is essential that their plans fit together in at least a semi-coherent fashion. Hayek (1937) defined an efficient planning process as one where all decision makers form plans that contain relevant data from the plans from others. Entrepreneurs acquire data on the plans from others through the price system. The price system is an indispensable communications network for plan coordination among entrepreneurs. Increases and decreases in prices inform entrepreneurs about the general economic situation, to which they must adjust their own plans.
As for socialism, Mises (1944) and Hayek (1937) insisted that bureaucrats in individual ministries could never coordinate their plans, not without a price system. If decentralized socialism cannot work, central authorities must plan production. But central planners face the knowledge problem in forming a comprehensive plan for production. Mises and Hayek saw centralization as inevitable in socialism.
Opponents argued that in principle an economy can be seen as a set of equations. Thus, there should be no need for prices. Using information about available resources and the preferences of people, it should be possible to calculate an optimal solution for resource allocation. Friedrich von Hayek responded that the system of equations required too much information that would not be easily available and the ensuing calculations would be too difficult.[3] This is partly due to the fact that individuals possess useful knowledge but do not realise its importance, or may have no incentive to transmit the information.[4] He contended that the only rational solution is to utilize all the dispersed knowledge in the market place through the use of price signals.[5] The early debates were made before the much greater calculating powers of modern computers became available but also before research on chaos theory. In the 1980s, Alex Nove argued that even with the best computers, the calculations would take millions of years[6]
It may be impossible to make long-term predictions for a highly complex system such as an economy.[7]
Hayek (1935, 1937, 1940, 1945) stressed the knowledge problem of central planning, partly because decentralized socialism seemed indefensible. Part of the reason that Hayek stressed the knowledge problem was also because he was mainly concerned with debating the proposal for Market Socialism and the Lange Model by Oskar R. Lange (1938) and Hayek's student Abba Lerner (1934, 1937, 1938), which was developed in response to the calculation argument. Lange and Lerner conceded that prices were necessary in socialism. Lange and Lerner thought that socialist officials could simulate some markets (mainly spot markets) and the simulation of spot markets was enough to make socialism reasonably efficient. Oskar Lange argued that prices can be seen merely as an accounting practice. In principle, claim market socialists, socialist managers of state enterprises could use a price system, as an accounting system, in order to minimize costs and convey information to other managers.[3] However, while this can deal with existing stocks of goods, providing a basis for values can be ascertained, it does not deal with the investment in new capital stocks.[citation needed]
Hayek responded by arguing that the simulation of markets in socialism would fail due to a lack of genuine competition and entrepreneurship. Central planners would still have to plan production without the aid of economically meaningful prices. Lange and Lerner also admitted that socialism would lack any simulation of financial markets, and that this would cause problems in planning capital investment.
Hayek's argumentation is not only regarding computational complexity for the central planners, however. He further argues that much of the information individuals have cannot be collected or used by others. First, individuals may have no or little incentive to share their information with central or even local planners. Second, the individual may not be aware that he has valuable information, and when he becomes aware, it is only useful for a limited time, too short for it to be communicated to the central or local planners. Third, the information is useless to other individuals if it is not in a form that allows for meaningful comparisons of value (i.e. money prices as a common basis for comparison). Therefore, Hayek argues, individuals must acquire data through prices in real markets.[8]
Financial Markets
The fifth condition for successful economic calculation is the existence of well functioning financial markets. Economic efficiency depends heavily upon avoiding errors in capital investment. The costs of reversing errors in capital investment are potentially large. This is not just a matter of rearranging or converting capital goods that are found to be of little use. The time spent reconfiguring the structure of production is time lost in the production of consumer goods. Those who plan capital investment must anticipate future trends in consumer demand if they are to avoid investing too much in some lines of production and too little in other lines of production.
Capitalists plan production for profit. Capitalists use prices to form expectations that determine the composition of capital accumulation, the pattern of investment across industry. Those who invest in accordance with consumers desires are rewarded with profits, those who do not are forced to become more efficient or go out of business.
Prices in futures markets play a special role in economic calculation. Futures markets develop prices for commodities in future time periods. It is in futures markets that entrepreneurs sort out plans for production based on their expectations. Futures markets are a link between entrepreneurial investment decisions and household consumer decisions. Since most goods are not explicitly traded in futures markets, substitute markets are needed. The stock market serves as a ‘continuous futures market’ that evaluates entrepreneurial plans for production (Lachmann 1978). Generally speaking the problem of economic calculation is solved in financial markets.
The problem of economic calculation arises in an economy which is perpetually subject to change ... In order to solve such problems it is above all necessary that capital be withdrawn from particular undertakings and applied in other lines of production ... [This] is essentially a matter of the capitalists who buy and sell stocks and shares, who make loans and recover them, who speculate in all kinds of commodities”[9] Mises
The existence of financial markets is a necessary condition for economic calculation. The existence of financial markets itself does not automatically imply that entrepreneurial speculation will tend towards efficiency. Mises claimed that speculation in financial markets tends towards efficiency because of a “trial and error” process. Entrepreneurs who commit relatively large errors in investment waste their funds over expanding some lines of production at the cost of other more profitable ventures where consumer demand is higher. The entrepreneurs who commit the worst errors by forming the least accurate expectations of future consumer demands incur financial losses. Financial losses remove these inept entrepreneurs from positions of authority in industry.
Entrepreneurs who commit smaller errors by anticipating consumer demand more correctly attain greater financial success. The entrepreneurs who form the most accurate opinions regarding the future state of markets (i.e. new trends in consumer demands) earn the highest profits and gain greater control of industry. Those entrepreneurs who anticipate future market trends therefore waste the least amount of real capital and find the most favorable terms for finance on markets for financial capital. Minimal waste of real capital goods implies the minimization of the opportunity costs of capital- economic calculation. The value of capital goods is brought into line with the value of future consumer goods through competition in financial markets, because competition for profits among capitalists financiers rewards entrepreneurs who value capital more correctly (i.e. anticipating future prices more correctly) and eliminates capitalists who value capital least correctly.
To sum things up, the use of money in trading all goods (capital/labor and consumer) in all markets (spot and financial) combined with profit driven entrepreneurship and Darwinian natural selection in financial markets all combine to make rational economic calculation and allocation the outcome of the capitalist process.
Mises insisted that socialist calculation is impossible because socialism precludes the exchange of capital goods in terms of a generally accepted medium of exchange, or money. Investment in financial markets determines the capital structure of modern industry with some degree of efficiency. The egalitarian nature of socialism prohibits speculation in financial markets. Mises therefore concluded that socialism lacks any clear tendency towards improvement in the capital structure of industry.
Example
Von Mises gave the example of choosing between producing wine or oil:
“
It will be evident, even in the socialist society, that 1,000 hectolitres of wine are better than 800, and it is not difficult to decide whether it desires 1,000 hectolitres of wine rather than 500 of oil. There is no need for any system of calculation to establish this fact: the deciding element is the will of the economic subjects involved. But once this decision has been taken, the real task of rational economic direction only commences, i.e. economically, to place the means at the service of the end. That can only be done with some kind of economic calculation. The human mind cannot orientate itself properly among the bewildering mass of intermediate products and potentialities of production without such aid. It would simply stand perplexed before the problems of management and location.[1]
”
Such intermediate products would include land, warehouse storage, bottles, barrels, oil, transport, etc. Not only would these things have to be assembled, but they would have to compete with the attainment of other economic goals. Without pricing for capital goods, essentially, Mises is arguing, it is impossible to know what their rational/most efficient use is. Investment is particularly impossible, as the potential future outputs, which cannot be measured by any current standard, let alone a monetary one required for economic calculation. The value consumers have for current consumption over future consumption cannot be expressed, quantified or implemented, as investment is independent from savings.
Criticisms
Scale of Problem
One criticism, though, has been that proponents of the problem overstate the strength of their case, in describing socialism as impossible, rather than inefficient.[10] Bryan Caplan is a libertarian economist and wrote a piece explaining why he 'is not an Austrian economist'. In it, he discusses the economic calculation debate, and, while admitting that it is a problem for socialism, denies that Mises has shown it to be fatal, or that it is this particular problem that led to the collapse of the socialist states.
“
Austrians have overused the economic calculation argument. In the absence of detailed empirical evidence showing that this particular problem is the most important one, it is just another argument out of hundreds on the list of arguments against socialism. How do we know that the problem of work effort, or innovation, or the underground economy, or any number of other problems were not more important than the calculation problem?[11]
”
An Austrian response to this claim is that most national attempts at socialism have relied upon capitalist markets, foreign and domestic, to determine the socialist system's accounting prices, observe successful innovations, and even import and export goods. Domestic black markets and gift-systems such as the Soviet's blat would expose socialism to market calculations. Global socialism (or socialism in an isolated country), completely reliant upon central planning, would not have such methods to make socialism in tune with capitalist successes.[12]
Efficiency of Markets
Another counter-argument is to dispute the claim that a free market is efficient at resource allocation. Alec Nove argues that in "Economic Calculation in the Socialist Commonwealth" von Mises "tends to spoil his case by the implicit assumption that capitalism and optimum resource allocation go together",[13] and Mainstream economists, such as Paul Samuelson have argued however that markets are, on the whole, allocatively efficient[citation needed]. Joan Robinson claims many prices in modern capitalism are effectively "administered prices" created by "quasi monopolies", thus challenging the connection between capital markets and rational resource allocation.[14] Milton Friedman agreed that markets with monopolistic competition are not efficient, but argued that in countries with free trade the pressure from foreign competition would make monopolies behave in a competitive manner.[15] In countries with protectionist policies foreign competition cannot fulfill this role, but the threat of potential competition- that, were companies to abuse their position, new rivals could emerge and gain customers dissatisfied with the old companies, can still reduce the inefficiencies.
It is argued, however, that monopolies and big business are not generally the result of a free market, but government privileges, otherwise known as state capitalism or mercantalism[citation needed], which Mises and other Austrians argued adamantly against. State capitalism incorporates central planning into a national economy, which removes power from individual calculation and moves it towards bureaucrats and politicians, similarly to socialism.
Alternatively, Joseph Schumpeter argued that it is large firms that drive economic advance though innovation and investment, and so their proliferation shouldn't be seen as a bad thing: they are the Unternehmergeist that drive advance.
Socialists retort that natural monopolies and strict oligopolies even in a free market disprove the Austrian argument. [16]
Other responses
It has also been claimed that the contention that finding a true economic equilibrium is not just hard but impossible for a central planner applies equally well to a market system; As any Universal Turing Machine can do what any other Turing machine can, a system of dispersed calculators (i.e. a market) has no in principle advantage over one central calculator.[17]
Austrian economists underline that a central planner cannot have access to all the necessary information (including local conditions, know-how and changing individual preferences) to feed into such a central calculator.
Some writers have gone on to suggest that with detailed use of real unit accounting and demand surveys a planned economy could operate without a capital market, in a situation of abundance,[18][19] The purpose of the price mechanism is to allow individuals to recognise the opportunity cost of decisions: in a state of abundance, there is no such cost.
Steady state
Robinson also noted that in a non-growth economy (what Marxists would call a situation of simple reproduction) there would be an effective abundance of means of production, and so markets would not be needed.[20] Von Mises acknowledged such a theoretical possibility in his original tract:
“
The static state can dispense with economic calculation. For here the same events in economic life are ever recurring; and if we assume that the first disposition of the static socialist economy follows on the basis of the final state of the competitive economy, we might at all events conceive of a socialist production system which is rationally controlled from an economic point of view.[1]
”
He contended, however, that stationary conditions never prevail in the real world. Changes in economic conditions are inevitable; and even if it were, the transition to socialism would be so chaotic as to preclude the existence of such a steady state from the start.[1]
Project Cybersyn
Project Cybersyn is an example of attempting to plan the Chilean Economy through computer-aided calculation. It consisted of Telex machines located in workplaces communicating information in real time to a central control system. It was designed to manage investment based on the specifics of processes and their dependencies, but was only ever applied to internal investment within and between state owned businesses, not to consumer relationships. As such the system never included a way to calculate human utility, although this was planned, starting from a basis of rationing. Its overall impact is difficult to assess, as it was destroyed in 1973.
Hayek viewed the free price system, not as a conscious invention (that which is intentionally designed by man), but as spontaneous order, or what is referred to as "that which is the result of human action but not of human design". Thus, Hayek put the price mechanism on the same level as, for example, language.
Hayek attributed the birth of civilization to private property in his book The Fatal Conceit (1988). He explained that price signals are the only means of enabling each economic decision maker to communicate tacit knowledge or dispersed knowledge to each other, in order to solve the economic calculation problem.
Investment and choice
Perhaps more fully than any other economist, Hayek investigated the choice theory of investment involving the inter-relations between non-permanent production goods and "latent" or potentially economic permanent resources, building on the choice theoretical insight that, "processes that take more time will evidently not be adopted unless they yield a greater return than those that take less time."[40] Hayek's work on the microeconomics of the choice theoretics of investment, non-permanent goods, potential permanent resources, and economically adapted permanent resources mark a central dividing point between Hayek's work on central planning, trade cycle theory, the division of knowledge, and entrepreneurial adaptation and that of most all other economists, most especially that of the macroeconomic "Marshallian" economists in the tradition of John Maynard Keynes and the microeconomic "Walrasian" economists in the tradition of Abba Lerner.
The business cycle
Capital, money, and the business cycle are prominent topics in Hayek's early contributions to economics. Mises had earlier explained monetary and banking theory in his Theory of Money and Credit (1912), applying the marginal utility principle to the value of money and then proposing a new theory of industrial fluctuations based on the concepts of the British Currency School and the ideas of the Swedish economist Knut Wicksell. Hayek used this body of work as a starting point for his own interpretation of the business cycle, which defended what later became known as the "Austrian Theory of the Business Cycle". In his Prices and Production (1931) and The Pure Theory of Capital (1941), he explained the origin of the business cycle in terms of central bankcredit expansion and its transmission over time in terms of capital misallocation caused by artificially low interest rates. Hayek claimed that: The past instability of the market economy is the consequence of the exclusion of the most important regulator of the market mechanism, money, from itself being regulated by the market process. In accordance with arguments outlined in his essay The Use of Knowledge in Society, he argued that a monopolistic governmental agency like a central bank can neither possess the relevant information which should govern supply of money, nor have the ability to use it correctly. [41]
Social and political philosophy
In the latter half of his career Hayek made a number of contributions to social and political philosophy, which he based on his views on the limits of human knowledge[42], and the idea of spontaneous order in social institutions. He argues in favor of a society organized around a market order, in which the apparatus of state is employed almost (though not entirely) exclusively to enforce the legal order (consisting of abstract rules, and not particular commands) necessary for a market of free individuals to function. These ideas were informed by a moral philosophy derived from epistemological concerns regarding the inherent limits of human knowledge.
Hayek disapproved strongly of the notion of 'social justice'. He compared the market to a game in which 'there is no point in calling the outcome just or unjust'[43] and argued that 'social justice is an empty phrase with no determinable content'[44]; likewise 'the results of the individual's efforts are necessarily unpredictable, and the question as to whether the resulting distribution of incomes is just has no meaning'[45]. He regarded any attempt by government to redistribute income or capital as an unacceptable intrusion upon individual freedom: 'the principle of distributive justice, once introduced, would not be fulfilled until the whole of society was organized in accordance with it. This would produce a kind of society which in all essential respects would be the opposite of a free society[46].
However, Hayek was prepared to tolerate 'some provision for those threatened by the extremes of indigence or starvation, be it only in the interest of those who require protection against acts of desperation on the part of the needy'[47].
In his philosophy of science, which has much in common with that of his good friend Karl Popper, Hayek was highly critical of what he termed scientism: a false understanding of the methods of science that has been mistakenly forced upon the social sciences, but that is contrary to the practices of genuine science. Usually scientism involves combining the philosophers' ancient demand for demonstrative justification with the associationists' false view that all scientific explanations are simple two-variable linear relationships. Hayek points out that much of science involves the explanation of complex multi-variable and non-linear phenomena, and that the social science of economics and undesigned order compares favourably with such complex sciences as Darwinian biology. These ideas were developed in The Counter-Revolution of Science: Studies in the Abuse of Reason, 1952 and in some of Hayek's later essays in the philosophy of science such as "Degrees of Explanation" and "The Theory of Complex Phenomena".
In The Sensory Order: An Inquiry into the Foundations of Theoretical Psychology (1952), Hayek independently developed a "Hebbian learning" model of learning and memory – an idea which he first conceived in 1920, prior to his study of economics. Hayek's expansion of the "Hebbian synapse" construction into a global brain theory has received continued attention[citation needed] in neuroscience, cognitive science, computer science, behavioral science, and evolutionary psychology.
Influence and recognition
Hayek's influence on the development of economics is widely acknowledged. Hayek is the second-most frequently cited economist (after Kenneth Arrow) in the Nobel lectures of the prize winners in economics – particularly that his lecture was critical of the field of orthodox economics and neo-classical modelization. A number of Nobel Laureates in economics – such as Vernon Smith and Herbert Simon – recognize Hayek as the greatest economist of the modern period. Another Nobel winner, Paul Samuelson believes that Hayek was worthy of his award but nevertheless avers that "there were good historical reasons for fading memories of Hayek within the mainstream last half of the twentieth century economist fraternity. In 1931,Hayek’s Prices and Production had enjoyed an ultra-short Byronic success. In retrospect hindsight tells us that its mumbo-jumbo about the period of production grossly misdiagnosed the macroeconomics of the 1927–1931 (and the 1931–2007) historical scene".[48] Hayek is widely recognized for having introduced the time dimension to the equilibrium construction, and for his key role in helping to having inspired the fields of growth theory, information economics, and the theory of spontaneous order. The "informal" economics presented in Milton Friedman's massively influential popular work Free to Choose (1980), is explicitly Hayekian in its account of the price system as a system for transmitting and coordinating knowledge. This can be explained by the fact that Friedman taught Hayek's famous paper "The Use of Knowledge in Society" (1945) in his graduate seminars.
Harvard economist and former Harvard University President Lawrence Summers explains Hayek's place in modern economics this way: "What's the single most important thing to learn from an economics course today? What I tried to leave my students with is the view that the invisible hand is more powerful than the [un]hidden hand. Things will happen in well-organized efforts without direction, controls, plans. That's the consensus among economists. That's the Hayek legacy."[49]
By 1947, Hayek was an organizer of the Mont Pelerin Society, a group of classical liberals who sought to oppose what they saw as socialism in various areas. He was also instrumental in the founding of the Institute of Economic Affairs, the free-market think tank that inspired Thatcherism.
Hayek had a long-standing and close friendship with philosopher of science Karl Popper, also from Vienna. In a letter to Hayek in 1944, Popper stated, "I think I have learnt more from you than from any other living thinker, except perhaps Alfred Tarski." (See Hacohen, 2000). Popper dedicated his Conjectures and Refutations to Hayek. For his part, Hayek dedicated a collection of papers, Studies in Philosophy, Politics, and Economics, to Popper, and in 1982 said, "... ever since his Logik der Forschung first came out in 1934, I have been a complete adherent to his general theory of methodology."[50] Popper also participated in the inaugural meeting of the Mont Pelerin Society. Their friendship and mutual admiration, however, do not change the fact that there are important differences between their ideas.[51]
Hayek's greatest intellectual debt was to Carl Menger, who pioneered an approach to social explanation similar to that developed in Britain by Bernard Mandeville and the Scottish moral philosophers (cf. Scottish Enlightenment). He had a wide-reaching influence on contemporary economics, politics, philosophy, sociology, psychology and anthropology. For example, Hayek's discussion in The Road to Serfdom (1944) about truth, falsehood and the use of language influenced some later opponents of postmodernism.[52]
Hayek and conservatism
Hayek received new attention in the 1980s and 1990s with the rise of conservative governments in the United States, United Kingdom, and Canada. After winning the 1979 election, Margaret Thatcher appointed Keith Joseph, the director of the Hayekian Centre for Policy Studies, as her secretary of state for industry in an effort to redirect parliament's economic strategies. Likewise, David Stockman, Ronald Reagan's most influential financial official in 1981 was an acknowledged follower of Hayek.[53]
Hayek wrote an essay titled "Why I Am Not a Conservative"[54] (included as an appendix to The Constitution of Liberty), in which he disparaged conservatism for its inability to adapt to changing human realities or to offer a positive political program. Although he noted that modern day conservatism shares many opinions on economics with classic liberals, particularly a belief in the free market, he believed it's because conservatism wants to "stand still", whereas liberalism embraces the free market because it "wants to go somewhere". Hayek identified himself as a classical liberal, but noted that in the United States it had become almost impossible to use "liberal" in its original definition, and the term "libertarian" has been used instead. However, for his part Hayek found this term "singularly unattractive" and offered the term "Old Whig" (a phrase borrowed from Edmund Burke) instead. In his later life he said: "I am becoming a Burkean Whig".[55] __________________________________________________________________________________
Quotes - "The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design." __________________________________________________________________________________
The Road to Serfdom
