Austrian school of economics
Historical Overview
Main Personalities and their Ideals
The story of the Austrian School begins in the fifteenth century, when the followers of St. Thomas Aquinas, writing and teaching at the University of Salamanca in Spain, sought to explain the full range of human action and social organization.
These Late Scholastics observed the existence of economic law, inexorable forces of cause and effect that operate very much as other natural laws. Over the course of several generations, they discovered and explained the laws of supply and demand, the cause of inflation, the operation of foreign exchange rates, and the subjective nature of economic value—all reasons Joseph Schumpeter celebrated them as the first real economists.
The Late Scholastics were advocates of property rights and the freedom to contract and trade. They celebrated the contribution of business to society, while doggedly opposing taxes, price controls, and regulations that inhibited enterprise. As moral theologians, they urged governments to obey ethical strictures against theft and murder. And they lived up to Ludwig von Mises's rule: the first job of an economist is to tell governments what they cannot do.
The dominant British-French tradition Jevons and Richard Cantillon ( Essay on the Nature of Commerce, 1730) who were followed by Anne Robert Jacques Turgot, the pro-market French aristocrat whose paper "Value and Money" spelled out the origins of money, and the nature of economic choice received its first serious challenge in many years when Carl Menger's Principles of Economics was published in 1871.
Austrian School Proper
History
By way of general fascination over Principles of Economics, Menger (1840-1921) then became the founder of the Austrian School proper, resurrected the Scholastic-French approach to economics, and put it on firmer ground.
In addition, Menger showed how money originates in a free market when the most marketable commodity is desired, not for consumption, but for use in trading for other goods.
Menger's book was a pillar of the "marginalist revolution" in the history of economic science. When Mises said it "made an economist" out of him, he was not only referring to Menger's theory of money and prices, but also his approach to the discipline itself. Like his predecessors in the tradition, Menger was a classical liberal and methodological individualist, viewing economics as the science of individual choice. His Investigations, which came out twelve years later, battled the German Historical School, which rejected theory and saw economics as the accumulation of data in service of the state.
As professor of economics at the University of Vienna, Menger restored economics as the science of human action based on deductive logic, and prepared the way for later theorists to counter the influence of socialist thought. Indeed, his student Friederich von Wiese (1851-1926) strongly influenced Friedrich von Hayek's later writings. Menger's work remains an excellent introduction to the economic way of thinking. At some level, every Austrian since has seen himself as a student of Menger.
The "First" Generation of the Austrian School was thus composed of a pair Austrian professors who, although not directly students of Menger, were nonetheless heavily influenced by him: Friedrich von Wieser and Eugen von Böhm-Bawerk (1851-1914). Boehm-Bawerk's Positive Theory of Capital demonstrated that the normal rate of business profit is the interest rate. Capitalists save money, pay laborers, and wait until the final product is sold to receive profit. In addition, he demonstrated that capital is not homogeneous but an intricate and diverse structure that has a time dimension. A growing economy is not just a consequence of increased capital investment, but also of longer and longer processes of production. His History and Critique of Interest Theories, appearing in 1884, is a sweeping account of fallacies in the history of thought and a firm defense of the idea that the interest rate is not an artificial construct but an inherent part of the market. It reflects the universal fact of "time preference," the tendency of people to prefer satisfaction of wants sooner rather than later .
Boehm-Bawerk and von Wiesel, for the most part, spread the Austrian School gospel throughout the Austro-Hungarian Empire and trained the next two generations. These later generations were dominated by the figures of Ludwig von Mises (1881-1973) in the second generation of “Austrian School of Economics” and, in the third generation, by Friedrich von Hayek (1889-1992).
One area where Boehm-Bawerk had not elaborated on the analysis of Menger was money, the institutional intersection of the "micro" and "macro" approach. This time, young Mises, economic advisor to the Austrian Chamber of Commerce, took on the challenge. The result of Mises's research was The Theory of Money and Credit, published in 1912. He spelled out how the theory of marginal utility applies to money, and laid out his "regression theorem," showing that money not only originates in the market, but must always do so. Drawing on the British Currency School, Knut Wicksell's theory of interest rates, and Boehm-Bawerk's theory of the structure of production, Mises presented the broad outline of the Austrian theory of the business cycle.
Major Features of the Austrian School as the Opposition to other Economic Theories
Methodological Subjectivism
A radically "subjectivist" strain of Neoclassical marginalist economics (versus Classical School) : An individual's actions and choices are based upon a unique value scale known only to that individual. It is this subjective valuation of goods that creates economic value. Like other economists, the Austrian does not judge or criticize these subjective values but instead takes them as given data. But unlike other economists, the Austrian never attempts to measure or put these values in mathematical form. The idea that an individual's values, plans, expectations, and understanding of reality are all subjective permeates the Austrian tradition and, along with an emphasis on change or processes, is the basis for their notion of economic efficiency.
Methodologogical Individualism
A dedication to a prioristic "pure" theory, with an emphasis on "methodological individualism" (versus German Historical School).
Economics, to an Austrian economist, is the study of purposeful human action in its broadest sense. Since only individuals act, the focus of study for the Austrian economist is always on the individual. Although Austrian economists are not alone in their methodological individualism, they do not stress the maximizing behavior of individuals in the same way as mainstream neoclassical economists.
Austrian economists believe that one can never know if humans have maximized benefits or minimized costs. Austrian economists emphasize instead the process by which market participants gain information and form their expectations in order to lead them to their own idea of a best solution.
After the 1871 presentation of his revolutionary subjective theory of value, Carl Menger was challenged by Gustav Schmoller and the recurrent debate on method (methodenstreit) which ensued between them and their followers divided the German-speaking world neatly: Austria and its universities for the Austrian School; Germany and its universities for the German Historical School.
Antitrust Behaviour
The theory of alternative cost which reduces all goods and factors, by "imputation", to the subjective valuation of consumer goods (versus Classical School and Marshallian Neoclassicals).
The neoclassical economic theory of perfect competition defines a competitive market as one in which there are a large number of small firms, all selling a homogeneous good and possessing perfect knowledge.
The structure of the market, according to this analysis, determines the competitiveness of a market. But Austrian economists Friedrich A. Hayek and Israel M. Kirzner have rejected this theory of competition.
According to Hayek there is no competition in the neoclassical theory of perfect competition. Competition to an Austrian economist is defined simply as rivalrous behavior, and to compete is to attempt to offer a better deal than one's competitors.
Competition in the market arises out of one firm distinguishing its products in some way from those of other firms. And because firms in the real world do not have perfect knowledge, they do not know what a successful competitive strategy is until they try it.
"Competition is", therefore, as Hayek explains, a "discovery procedure." As each firm attempts to do better than all other firms, the knowledge of what consumers actually want in the market is discovered.
The next great contributions of the Austrian School were made soon. Friedrich von Wieser (1889) detailed and expanded Menger's theory of imputation in production and alternative cost, while Eugen von Boehm-Bawerk (1889) developed his own distinctive time-dependent theory of capital and interest.
The early Austrian School was to influence economists beyond the boundaries of the Austro-Hungarian Empire. The alternative cost doctrine caught the fancy of Philip H. Wicksteed and Lionel Robbins in the U.K. and Herbert J. Davenport and Frank H. Knight in the United States, who used it to gleefully pound away at the Marshallian Neoclassical orthodoxy.
Monetary Overinvestment Theory of the Business Cycle
This focus on opportunity cost alone means that their interpretation of the time value of a good has a strict relationship: since goods will be as restricted by scarcity at a later point in time as they are now, the strict relationship between investment and time must also hold. A factory making goods next year is worth as much less as the goods it is making next year are worth. This means that the business cycle is driven by miscoordination between sectors of the same economy, caused by money not carrying incentive information correct about present choices, rather than within a single economy where money causes people to make bad decisions about how to spend their time.
A monetary overinvestment theory of the business cycle (versus Keynesians): Hayek and Mises authored many studies on the business cycle, warned of the danger of credit expansion, and predicted the coming currency crisis. This work was cited by the Nobel Prize committee in 1974 when Hayek received the award for economics. Working in England and America, Hayek later became a prime opponent of Keynesian economics with books on exchange rates, capital theory, and monetary reform. His popular book Road to Serfdom helped revive the classical liberal movement in America after the New Deal and World War II. And his series Law, Legislation, and Liberty elaborated on the Late Scholastic Late Scholastic approach to law, and applied it to criticize egalitarianism and nostrums like social justice. Support for anti-cyclical monetary policy and, later, a free banking system (versus Monetarists) :
Mises's New York seminar continued until two years before his death in 1973. During those years, Rothbard was his student. Indeed, Rothbard's Man, Economy, and State (1963) was patterned after Human Action, and in some areas—monopoly theory, utility and welfare, and the theory of the state—tightened and strengthened Mises's own views. Rothbard's approach to the Austrian School followed directly in the line of Late Scholastic thought by applying economic science within a framework of a natural-rights theory of property. What resulted was a full-fledged defense of a capitalistic and stateless social order, based on property and freedom of association and contract.
Disorganized Competitive Market Processes
Will produce the greatest demand for his product or how many, if any, new competitors will enter his market. Offering a product on the market is always a trial-and-error, never-ending process of changing one's plans to reflect new knowledge one gains from day to day. The importance of competitive markets and a price system in organizing a decentralized morass of economic agents with limited knowledge into a harmonious order. (versus Walrasians , Marxians and Keynesians) : The core of the Austrian framework can be summarized as taking a subjectivist approach to marginal economics, and a focus on the idea that logical consistency of a theory is more important that any interpretation of empirical observations. Austrians focus completely on the opportunity cost goods, as opposed to balancing downside or disutility costs. It is an Austrian assertion that everyone is better off in a mutually voluntary exchange, or they would not have carried it out. A fuller explanation of this in more exact terms is available at the New School's economic pages. Analyzing the time-consuming, disorganized competitive "market process" driven by specific actors in disequilibrium rather than the properties of anonymous equilibrium positions (versus Walrasians). The most important economic problem that people face, according to Austrian economists, is how to coordinate their plans with those of other people. Why, for example, when a person goes to a store to buy an apple, is the apple there to be bought? This meshing of individual plans in a world of uncertainty is, to Austrians, the basic economic problem. Austrian economists do not use mathematics in their analyses or theories because they do not think mathematics can capture the complex reality of human action. They believe that as people act, change occurs, and that quantifiable relationships are applicable only when there is no change. Mathematics can capture what has taken place, but can never capture what will take place. An individual's action takes place through time. A person decides on a desired end, chooses a means to attain that end, and then acts to attain it. But because all individuals act under the condition of uncertainty—especially uncertainty regarding the plans and actions of other individuals—people sometimes do not achieve their desired ends. The actions of one person may interfere with the actions of another. The actual consequences of any action can be known only after the action has taken place. This does not mean that people do not include in their plans expectations regarding the plans of others. But the exact outcome of a vast number of plans being executed at the same time can never be predicted. When offering a product on the market, for example, a producer can only guess as to what price it can put in. A stress on uncertainty and information in the economy, in particular the informational role of prices (versus Walrasians) : Mises and Hayek's view of prices as permitting agents to make use of dispersed tacit knowledge. The time preference theory of interest, which explains interest rates through intertemporal choice - the different time preferences of the borrower or lender - rather than as a price paid for a factor of production. Stressing uncertainty in the making of economic decisions, rather than relying on "Homo economicus" or the rational man who was fully informed of all circumstances impinging on his decisions. The fact that perfect knowledge never exists, means that all economic activity implies risk.
Economists affiliated with the Austrian School
Benjamin Anderson, William Barnett II, Gérard Bramoullé , Walter Block, Peter Boettke, Eugen von Böhm-Bawerk, Gene Callahan, Tony Carilli, Jean-Pierre Centi , Christopher Coyne, Gregory Dempster, Thomas DiLorenzo, Steven Horwitz , Richard Ebeling, Karel Engliš, Frank Fetter, Jacques Garello, Roger Garrison , David Gordon, Gottfried Haberler, Friedrich Hayek, Henry Hazlitt, Hans-Hermann Hoppe, Jörg Guido Hülsmann, William Harold Hutt, Israel Kirzner , Ludwig Lachmann, Don Lavoie, Peter T. Leeson, Henri Lepage, Peter Lewin, Juan De Mariana, Ludwig von Mises, Margit von Mises, Oskar Morgenstern, Fritz Machlup, Carl Menger, Gerald O'Driscoll , Ernest C. Pasour, Ralph Raico, George Reisman,Dr. Kurt Richebächer,Mario Rizzo,Llewellyn Rockwell, Paul Rosenstein-Rodan, Murray Rothbard,Mark Thornton, Joseph Salerno, Pascal Salin, Josef Síma, Mark Skousen, Jesus Huerta de Soto, Richard von Strigl, Philip Henry Wicksteed , Friedrich von Wieser.
Seminal works
- Boehm-Bawerk, E., Capital and Interest , Libertarian Press ( U. of C. ) 1959
- Boehm-Bawerk, E., "The Austrian Economists," Annals of the American Academy of Political and Social Science, 1 (1891)
- Boehm-Bawerk,E., Positive Theory of Capital, London: Macmillan and Co.. 1891, trans. William A. Smart, 1891
- Hayek, F. A., Individualism and Economic Order, 1948
- Hayek,F.A., The Fatal Conceit: The Errors of Socialism, 1988
- Hayek, F.A.,"Economic Thought VI: The Austrian School," in David L. Sills (ed.), International Encyclopedia of the Social Sciences, New York: Macmillan and Free Press, 1968, pp. 458-459
- Kirzner, I.M., Competition and Enterpreneurship , Chicago: University of Chicago Press, 1973.
- Menger, C., Principles of Economics, first printing in German, 1871. The first English translation was copyright 1950 by the The Free Press, with an introduction by Frank H. Knight; 1976 and 1981 by the Institute for Human Studies, published by New York University Press with an introduction by F.A. Hayek; 1994 by Libertarian Press (reprint of the 1976 edition). Online version is copyright 2004 by the Ludwig von Mises Institute.
- von Mises, L., Human Action, First Edition (1949), published by the von Mises Institute
- Rothbard, M.N., Man, Economy and State, 1962, revised 1970 & 1993, von Mises Institute
External Links
What is Austrian Economics? Austrian School as defined by the Ludwig von Mises Institute A Great Revolution in Economics - Vienna 1871 and after by Houmanidis and Leen The Origins of the Austrian School of Economics by John Moser The Pure Logic of Choice
This page was last modified 17:13, 19 April 2007. All text is available under the terms of the GNU Free Documentation License. (See Copyrights for details.)
- Moser, J., "The Origins of the Austrian School of Economics," Humane Studies Review, 11: 1 (Spring 1997)
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