The Online Library of Liberty

A project of Liberty Fund, Inc.

• Acknowledgements
• Part One: Introduction
• Walter E. Grinder, In Pursuit of the Subjective Paradigm: Walter E. Grinder
• Austrian Economics In the Present Crisis of Economic Thought
• Part Two: Setting the Stage
• The Significance of the Austrian School of Economics In the History of Ideas
• The Role of Expectations In Economics As a Social Science
• Professor Shackle On the Economic Significance of Time
• The Science of Human Action
• Model Constructions and the Market Economy
• Part Three: the Market Process
• Some Notes On Economic Thought, 1933–1953
• Methodological Individualism and the Market Economy
• Economics As a Social Science1
• Ludwing Von Mises and the Market Process
• Part Four: Problems In Macroeconomic and Capital Theory
• Complementarity and Substitution In the Theory of Capital
• Mrs. Robinson On the Accumulation of Capital
• Sir John Hicks On Capital and Growth: (review Article)
• Sir John Hicks As a Neo-austrian: (review Article)
• A Reconsideration of the Austrian Theory of Industrial Fluctuations
• Part Five: On Economic Policy
• Causes and Consequences of the Inflation of Our Time
• The Market Economy and the Distribution of Wealth
• Cultivated Growth and the Market Economy
• Appendix: Economic Writings of Ludwig M. Lachmann

Austrian Economics in the Present Crisis of Economic Thought

1.

In the present confused state of thinking on fundamental economic issues the time may have come to set forth a succinct outline of a position that we may with some justification denote as “Austrian.” This has to be done in a situation of considerable turmoil. While the Ricardian counterrevolution of our days has thus far failed to present any new insights that are either novel or compelling, the neoclassical forces called upon to resist it already seem to be in some disarray.1 Perhaps this is a temporary phenomenon due merely to the sheer dash and verve with which the attackers have conducted their forays; perhaps it betrays a sense of insecurity, reflecting an awareness of the weakness of their position. Elsewhere we learn, less than three decades after Keynes's death, of a crisis in Keynesian economics. And if as perspicacious a thinker as Professor G. L. S. Shackle chooses to give his most mature work, Epistemics and Economics, the subtitle A Critique of Economic Doctrines (Cambridge: Cambridge University Press, 1972), the implication that all is not well with more than one doctrine is noteworthy.

The main reason for an Austrian pronouncement is that otherwise a possibly interesting contribution to the discussion of some of the issues currently in dispute may go by default. But there are other reasons, with some of which we shall have to deal later on. One of them arises from the fact that, while a certain strand of Austrian thought has, over the last few decades, become fused with, and embedded in, what has come to be called the neoclassical synthesis, some Austrians have refused to regard this as a happy union. They and their heirs may feel that the case for a divorce is now strong.

This essay was prepared by the author especially for this volume and appears in print for the first time.

There is, however, also a case against such an Austrian pronouncement. It derives its strength from a distaste for what many will regard as a factious enterprise. The view is widely held that “schools of thought” belong to the adolescent stage of a discipline. We have heard it said that there is only good and bad economics, hence no place for Austrian economics. A mature discipline, we are told, continues to fuse what is best in the contributions of various schools and to discard the rest. Such a synthesis may not be easy to achieve, but we must do nothing to jeopardize it.

It seems to us, however, that the validity of such views depends on the epoch in which one is living. There are, in the history of economic thought, ages of convergence and ages of divergence.2 The period from about 1890 to 1914, the age of Fisher, Marshall, Pareto, and Wicksell, in which the neoclassical synthesis was born, was an age of convergence in which rivers flowing from many diverse sources merged into one broad stream. Ours, by contrast, is an age of divergence. We have already described the scene on which high-level debates in economic theory are pursued today as one of considerable turmoil. When factions are already in existence, who can be blamed for being factious? Where the air is full of the clamor of rivals, who can be reproached for raising a voice of dissent? In an age of convergence an enterprise such as ours may be frowned upon; in an age of divergence it can hardly be condemned.

2.

The fact that Sir John Hicks gave his recent book Capital and Time the subtitle A Neo-Austrian Theory [Oxford: Clarendon Press, 1973] adds to the confusion reigning on our methodological scene. While it constitutes an obstacle, at the same time it provides us with an opportunity to exhibit certain aspects of Austrian thought by contrasting them with the well-articulated thought of a great contemporary. For in confronting this book the “Austrian” economist of our days is compelled to state that he is not a neo-Austrian in the Hicksian sense; and of course he has to explain why he is not before he can proceed to make his own positive contribution. But the very fact that he has to justify his refusal to follow Hicks enables him to make his reader gradually familiar (in a way that otherwise might not seem called for) with some Austrian ideas, at first by showing that they do not fit into the Hicksian mold, later on by displaying their positive uses in understanding a dynamic world. It thus becomes possible to examine the same object successively from various angles.

This is not the place to review sir John's remarkable book.3 We are not even called upon to do justice to it as an attempt to clarify some of our contemporary confusions. All we are concerned to show here is that a good deal of what is offered to us as neo-Austrian is at variance with what we must regard as fundamental Austrian tenets. It was not for nothing that Menger regarded Böhm-Bawerk's theory “as one of he greatest errors ever committed.”4 Böhm-Bawerk was, at least in his theory of capital and interest, a Ricardian, interested in capital only as a receptacle of the flow of interest, who asked the Ricardian question why and how the owners of “intermediate products” contrived to draw a permanent income from their wealth as if they were factor owner. He found a Ricardian answer to this question.

Hicks follows Böhm-Bawerk in stressing the time dimension of production, but also employs a kind of sequence analysis as providing causal chains to trace the gradual unfolding of the effects of technological innovation on income distribution and growth. We are shown how, with the lapse of time, these effects gradually show themselves at successive stages of production. Time is here both the dimension of production and the dimension in which the effects of change show themselves.

In order to accomplish this sequence analysis and formulate a theory of the “traverse” from one equilibrium path to another, Hicks has to make two assumptions, static expectations and the existence of only one good. The former means that the actors in his model always expect the future to be exactly like the present. The Austrian objection to this assumption rests not merely on its lack of realism, striking though this is. Can we really imagine employers who, though experiencing continually rising wage rates, nonetheless always expect their future wage costs to be the same as their present? Much worse is that this assumption effectively prevents what from the Austrian standpoint are some of the more important problems concomitant to change from ever coming into view.

Austrian economics reflects a “subjectivist” view of the world. The subjective nature of human preferences is its root. But in a world of change the subjectivism of expectations is perhaps even more important than the subjectivism of preferences. The assumption of “static expectations,” however, means not merely that expectations as autonomous forces causing economic change are ignored so that a mechanism of other forces may be exhibited in its “pure form” but also that the diversity of expectations, the pattern of inconsistent expectations held by different individuals at the same time, which we find in the real world, cannot even come into sight. Static expectations mean no less than that the minds of all actors at the same moment work in identical fashion. One of the achievements of the subjectivist revolution is blandly nullified.

Hick's other assumption, the one-commodity world, is no less open to objection from an Austrian point of view. But as criticism of it has also played a prominent part in the neo-Ricardian counterrevolution, at least at one stage, it will be more conveniently dealt with in our next section.

Since the label “neo-Austrian” has now been preempted by Hicks for his own brand of theory, we are unable to dub the point of view to be elucidated here “neo-Austrian.” We might perhaps call it neo-Mengerian, or Mises-type, or even palaeo-Austrian. Each of these would be an awkward label. We trust that if in what follows we simply call it Austrian without qualifying epithet the reader will understand what we mean by it.

3.

Since Sraffa in 1960 gave the signal, the attack on the Walras-Paretian general equilibrium theory has steadily gained ground.5 From an Austrian point of view the strong antisubjectivist bias of this neo-Ricardian movement is naturally reason enough to oppose it. A style of economic thinking in which there is no place for human preferences, let alone time preferences, is hardly acceptable to the heirs of Menger. But some of the weapons the neo-Ricardians have used in their attack on the neoclassical citadel are of great intrinsic interest to the student of intellectual warfare. They might turn out to be useful for other purposes. It will be worth our while to have a close look at them and see what we can learn from them.

From a common source in Wicksell's work two broad streams of capital theory have emerged over the last fifty years. One is the distinctly Austrian stream we find manifested in Professor Hayek's work, in Prices and Production (London: George Routledge, 1931); in “The Maintenance of Capital” (Economica 2 [August 1935]: 141–276); and in The Pure Theory of Capital (London: Routledge & Kegan Paul, 1941). Here emphasis is on the importance of relative price movements and the impossibility of measuring investment without a criterion for the maintenance of a heterogeneous capital stock. The other stream found prominent expression in Professor Joan Robinson's well-known critique of neoclassical capital theory. Here the problems stressed by Hayek are ignored. The fact that in all these years there has been, with one exception noted below, virtually no contact between these two streams is of course just another reflection of the present crisis of economic thought.

In what follows we attempt to show that a keen pursuit of the implications of some of the more successful critical arguments used in the course of the neo-Ricardian counterrevolution will take us far afield, away from the mountain fastness of macroeconomics and into fields in which what happens depends on individual action and expectations, which of course need not be consistent; and that in the course of this pursuit one of the main sources of Keynesian inspiration becomes rather tarnished. Three examples will serve our purpose.

1. Ever since Professor Joan Robinson proclaimed “the generalization of the General Theory” as her aim, Cambridge economists fond of being described as “neo-Keynesians” have taken an interest in growth theory. In these endeavors the notion of investment, the famous Keynesian I = S, naturally plays a prominent part. How can its use be reconciled with the now-accepted fact that outside long-run equilibrium a measurable capital stock does not exist? The usual answer is that investment is a flow, not a stock, and thus exempt from such objections. But this answer applies only to gross investment, not to that part of it which concerns growth. Can we isolate this latter element without having to concern ourselves with the maintenance of the capital stock?

Keynes defined “the investment of the period” as “the addition to capital equipment as a result of the productive activities of the period.”6 But if we cannot measure this capital equipment, how do we know what constitutes an addition to it? To hold that in the short period capital is by definition constant and thus provides a firm floor for our adding activity would be to ignore the pre-Wicksellian innocence of the Marshallian definition. The awkward fact remains that the supposedly measurable macroeconomic magnitude I has to be measured by means of another magnitude based on subjective evaluation.

Keynes was well aware of the problem. He explicitly agreed with Professor Hayek “that the concepts of saving and investment suffer from a corresponding vagueness,”7 but added that this applies only to net saving and net investment since they depend on subjective evaluation. By contrast “The saving and the investment, which are relevant to the theory of employment, are clear of this defect, and are capable of objective definition.”8

In fact we soon learn that this is not so. For Keynes's own notion of investment, by contrast to the contaminated “net investment,” is defined as gross investment minus user cost, as A₁−U. In the “Appendix on User Cost” Keynes admitted that “user cost partly depends on expectations as to the future level of wages” and that “it is the expected sacrifice of future benefit involved in present use which determines the amount of user cost.”9 Thus Keynesian investment, affected by user cost, is by no means “capable of objective definition.” User cost depends on expectations, which are as subjective as preferences. Investment is no more “objective” than the stock of capital.

2. From Ricardo to Professor Pasinetti the difference between a “classical corn economy” and a multicommodity world has often been used as a basis for critical arguments of all kinds. It ahs been a standard criticism of Böhm-Bawerk's theory that, in order to demonstrate the higher productivity of roundabout production, we need as a yardstick a price system invariant to those changes in interest and wages that are the necessary result of roundabout production. Furthermore, in a multicommodity world the subsistence fund must consist of wage goods in precisely that proportion in which wage earners wish to spend their incomes on them, otherwise there will be capital gains and losses. Pasinetti's main criticism of Irving Fisher's “rate of return over costs” has been that the price system of a multicommodity world entails a uniform rate of profit, and that to “explain” the rate of return on capital in terms of opportunities for profit inherent in such a price system is no explanation at all.

It seems to us, however, that the argument may be turned around and used to disclose, not just the inconsistency of certain conclusions within the framework of equilibrium theory, or even of a heuristic device such as Fisher's “rate of return over costs,” but also the weakness of the notion of a “price system” in a world of change. In a world in which prices depend on supply and demand in a multitude of markets, a constant price system is almost inconceivable. Relative prices change every day for one reason or another, for instance, changes in knowledge that may occur on both sides of the market. A Ricardian might say that these are daily fluctuations around an equilibrium level determine by “underlying forces” like technology and the wage level, but apart from changing technology, he can say that only if he regards demand as an ephemeral force. As soon as we regard demand as a “datum,” daily price changes reflect changed data. We conclude that a price system implying a uniform rate of profit and wage rate cannot exist. The forces tending to bring it about will always be weaker than the forces of change. For the explanation of phenomena observed in a market economy it is useless. The market is a continuous process, not a “given” state of affairs. Divergent rates of profit in a multicommodity world are both a result of change and a cause of further change.

3. In a one-commodity world the stock of capital is homogeneous and physically measurable. In a multicommodity world it loses this property and becomes heterogeneous. Here, as we saw in the case of Böhm-Bawerk's subsistence fund, there arises the problem of its composition or structure. Where many capital goods are durable and specific, the stock will never have its “equilibrium composition.” Some capital goods when worn out, will not be replaced by replicas. This fact of course presents an obstacle to the construction of any equilibrium theory of capital such as would fit into a general equilibrium model. It is hardly surprising that most neoclassical economists choose to ignore this inconvenient fact. Some have brought themselves to imagine that they have found a substitute for the missing theory of capital structure in a theory of intertemporal consumption—a capital theory without capital.

For the neo-Ricardians the problem at least seems to exist. In Pasinetti's writings we find occasional references to it. “Two techniques may well be as near as one likes on the scale of variation of the rate of profit and yet the physical capital goods they require may be completely different.”10 In his reply to Dr. Dougherty he explicitly describes this as “one of the important results of the reswitching-of-technique debate.”11 In his altercation with Professor solow he writes, “The two situations a and b that Solow compares differ not only by the single consumption good he has hypothesized but also by the whole structure of capital goods.“12

A capital structure is an ordered whole. How does it come into existence? What maintains it in the face of change, in particular, unexpected change? These are questions that now claim our attention. A capital structure is composed of the capital combinations of various firms, none of which is a simple miniature replica of the whole structure. What makes them fit into this structure? Wherever we might hope to find answers to these questions, it must be clear that they cannot be found within the realm of macroeconomics. Capital combinations, the elements of the capital structure, are formed by entrepreneurs. Under pressure of market forces entrepreneurs have to reshuffle capital combinations at intervals, just as they have to vary their input and output streams. Change in income distribution is just one such force. “Capital reswitching” in a world of heterogeneous capital is merely one instance of the reshuffling of existing capital combinations.

In the field of capital theory the crisis of economic thought has given rise to a situation full of irony. The neo-Ricardians have discovered a range of problems they are unable to tackle since this can only be done on a microlevel, a level to which their macroeconomic commitment does not permit them to descend. Their neoclassical opponents meanwhile, while irked by no such scruples, prefer to ignore these problems altogether and are turning to a capital theory without capital instead.

4.

To substantiate Austrian dissent from neoclassical economics is no easy task. As we pointed out above, some Austrian strands of thought have merged into the main stream of what we may call the neoclassical synthesis. Some Austrian thinkers were quite content to see their school lose its identity within this broader union. Others felt less happy about it.

One reason, less superficial than might appear, why our task is difficult lies in the need to make the reader see the present neoclassical establishment and its main doctrines in a perspective that is not its own, one in which pupils in the best schools are not taught to view the economic world, not to mention the products of the textbook industry, and that must therefore be unfamiliar to the reader. By now most economists have learnt that the world seen in a Ricardian perspective is different from the world seen in, say, a Samuelsonian perspective. But other perspectives are just as possible. We may, for example, view both the perspectives mentioned as mere variants of a style of thought we might describe as late classical formalism. It is a characteristic of this mode of thought that for it the manifestations of spontaneous human action appear in the guise of formal entities, the continuous existence of which can only be assured by imposing constraints on spontaneity.

In order to sustain Austrian objections to neoclassical doctrines we must thus elucidate a “third perspective” rooted in subjectivism. But when we say that the central issue here stems from a different approach to the problem of knowledge and its relevance to economic action, many readers might refuse to follow us into what they might regard as a field of philosophy.

In these circumstances it will be best to start by indicating two areas which are not in dispute, despite what has sometimes been said in the past. Professor Jaffé, in reviewing the volume Carl Menger and the Austrian School of Economics (ed. J. R. Hicks and W. Weber [Oxford: Oxford University Press, 1973]), speaks of “the Austrians, who were not interested in the mathematical pin-point determination of equilibrium price à la Walras, but looked rather for the interval within which any price is advantageous to trading parties on both sides.”13 Suffice it to say that the introduction of the notion of the core in recent neoclassical writings has removed this point of dispute. Secondly, the difference has sometimes been traced to a preference for process analysis by the Austrians and for equilibrium analysis by the neoclassical economists, a difference between “genetic-causal” and “functional” analysis.14 But this difference is not essential in any way that concerns style of thought. A type of equilibrium theory that employs process analysis to show how various equilibria are attained is quite conceivable. Sir John Hick's “traverse” comes readily to mind. Forging chains of causation is not beyond the power to the neoclassical mind. We see no reason why the attempts now made in such quarters “to require of our equilibrium notion that it should reflect the sequential character of actual economics” might not succeed.15 If they do, the issue falls away.

The real issue lies much deeper. We catch a first glimpse of it when, with a critical mind and an air of innocence, we follow the usual introduction to general equilibrium theory. We are presented with three classes of “data,” tastes, resources, and knowledge, which are to serve as our “independent variables.” This is, surely, rather embarrassing, as knowledge “exists” in a way different from that in which rivers and typewriters do. How are we to determine that change in knowledge that would just offset a change in resources in such a way as to preserve an existing equilibrium situation? And what is the economic significance of tastes and resources nobody knows?

Closer reflection shows of course that what is meant here by knowledge as a “datum” is merely technical knowledge about the use of resources, while tastes and resources as such are known to every participant in the market. When they change, the fact is at once known throughout the market, and this does not constitute a separate change of datum. Such universal market knowledge by every participant is simply taken for granted. Neoclassical economics, then, operates with two kinds of knowledge; one appears as an independent variable and the other does not. In neoclassical writings, from presidential addresses to textbooks, this fact is never mentioned. By contrast, Austrian economics takes no form of knowledge for granted. The market appears to it as a continuous process, in the course of which the knowledge possessed by some participants become diffused to many, while new knowledge is acquired by some, and some earlier knowledge becomes obsolete. The reader will now understand why we said that the problem of knowledge is at the bottom of the dispute.

It goes without saying that it is possible to modify the rigor of the assumption about the universal market knowledge, and this has been done recently. The pattern of limited market knowledge then becomes a new “datum.” But such an assumption in no way affects the real weakness of the equilibrium model, which is that knowledge of whatever kind is here treated as an external datum and not as, at least partly, a product of the market process. Can market knowledge exist irrespective of what happens in the market? Some aspects of the problem are best elucidated by reference to two statements made by Professor Hahn in his recent inaugural lecture: “I shall want to say that an agent is learning if his theory is not independent of the date t. It will be a condition of the agent being in equilibrium that he is not learning.”16 It is difficult to know the range of implications here envisaged. Strictly speaking, it means that point-of-time equilibrium is the only equilibrium possible since it involves no learning. We may doubt, however, whether this is what was meant. For if so, how can such an equilibrium ever “reflect the sequential character of actual economies?” So we must assume that Professor Hahn envisages some time sequences in which nothing is learned by any participant and others in which something is learned. Needless to say, the former variety cannot exist. Time and knowledge belong together. As soon as we permit time to elapse, we must permit knowledge to change. The pattern of knowledge never stands still.

We are also told that “practical men and ill-trained theorists everywhere in the world do not understand what they are claiming to be the case when they claim a beneficent and coherent role for the invisible hand.”17 Here Hahn regrettably does not know that those he criticizes conceive of the market in terms very different from his own.

What Hahn means is that only in a market system with perfect intertemporal markets, including “contingent futures markets,” could a Pareto optimum be attained; in the real world in which there are only a few forward markets, and virtually none for industrial goods, no such optimum can be reached. “Ill-trained,” alias “Austrian,” economists are not entitled to claim Pareto optimality for the market economy of the real world.18

But the Austrians are making no such claim, and Hahn simply misunderstood their position. He tacitly assumes that everybody, like his well-trained disciples, identifies the market economy with a general equilibrium model. But to Austrians the market is a competitive process, not a given state of affairs. No general equilibrium model, however large the number of intertemporal markets it includes, can serve as a simile for the market process of reality, and the Pareto optimum is at best an irrelevant fiction. The markets of the real world, by contrast, while at no time constituting an ordered whole, invariably give rise to coordinating forces, reflecting and, over time, generating changes in the pattern of knowledge. In a market economy, as Professor Kirzner stated, “at any given time, an enormous amount of ignorance stands in the way of the complete coordination of the actions and decisions of the many market participants. Innumerable opportunities for mutually beneficial exchange ... are likely to exist unperceived.... The normative question raised by Hayek is how well the market succeeds in bringing together those uncoordinated bits of information scattered throughout the economy. Successful coordination of these bits of information cannot fail to produce coordinated activity—exchange—benefiting both parties.”19

In their defense of the market economy the “ill-trained” economists may have a strong or a weak case. It cannot be refuted by reference to a fictitious optimum irrelevant to it. Evidently the market processes of reality require closer study than they have thus far received. All Hahn has to offer his well-trained disciples is an argument insinuating to others a utopia that is very much his own. The formalistic mind, we may note, incapable of conceiving of a market otherwise than as a set of determinate relationships, is helpless when confronted with a set of forces the interaction of which yields no determinate outcome.

The Austrian objection does not apply to the use of the notion of equilibrium as such. It applies to its indiscriminate misuse at the three different levels of the individuals, the market, and the economic system. Equilibrium of the individual, household or firm, as an expression of consistent action, is indeed an indispensable tool of analysis. Equilibrium involving action planned by different minds involves altogether new problems. Equilibrium on a simple market, such as a Marshallian corn market, still has its uses. “Equilibrium of the industry” is already harder to handle. When we speak of “general equilibrium,” we are simply hypothesizing that among the forces of interaction between markets the equilibrating forces are of overwhelming power and will prevail over all obstacles. Also, they must be able to do their work quickly, before any changes in data can take place. General equilibrium is thus possible in a stationary world. Equilibrium in a world of change requires peculiar hypotheses.

In neoclassical writings we look in vain for arguments sustaining such strong hypotheses. For it is characteristic of the style of formalistic thought that a concept found useful in one context is often torn out of its natural habitat and indiscriminately transplanted to alien soil. Such are the uses of abstraction to careless thinkers.

5.

The reader may feel that, instead of the promised outline of the Austrian position, he has been presented with a series of critical comments directed against non-Austrian views. He may demand to be told, in particular, what is to take the place of the general equilibrium model as the central paradigm of economic theory.

It was necessary, however, to prepare by extensive criticism the fundament on which to erect our structure. Our constructive task will be so much the easier. Our positive proposals simply follow the direction of our critical comments. As regards equilibrium in particular, all we need to do is let our thoughts roam freely along the lines indicated at the end of the previous section.

What would happen, we may now ask ourselves, if we were to reverse the order of significance assigned to equilibrating and disequilibrating forces respectively in neoclassical thought? If we were to assume that all equilibrating forces, so far from being of overwhelming strength, must sooner or later succumb to obstacles of various kinds before having reached their “destination”? In a world in which unexpected change is likely to overtake equilibrating forces, in which new knowledge is continually coming into existence as old knowledge becomes obsolete, this appears to us the more plausible hypothesis. This reversal of the order of significance attributed to the various forces of interaction cannot but affect the perspective in which we view the course of market processes.20

For neoclassical thought equilibrium is central; processes that may or may not lead to it are subsidiary to its main objective. For us, by contrast, market processes reflecting the interplay between equilibrating forces are the essence of the matter, while equilibrium itself, as Mises put it, is nothing but an auxiliary notion employed in its context and devoid of any sense when used outside of this context.”21 we refuse to believe that the equilibrating forces are always overwhelming strength.

Not all market action is consistent action. The actions of competitors are an obvious example. The notion of a “state of competition,” perfect or otherwise, in which they are made consistent, is not merely useless as a tool of analysis; it presents an obstacle to our understanding of competition as a process. In a market economy, at all times, as Professor Kirzner says, “an enormous amount of ignorance stands in the way of the complete coordination of the actions and decisions of the many market participants. Innumerable opportunities for mutually beneficial exchange ... are likely to exist unperceived.” Market processes, to be sure, will reduce such ignorance. But during the very same period in which old knowledge becomes more widely diffused, much of it becomes obsolete, and new ignorance emerges simultaneously with the new knowledge gained by some.

Economists have learnt that some technical progress is absorbed by means of “learning by doing.” But different men learn different lessons from doing the same work and embody what they have learned in differentiated products. The same applies to market knowledge. While the competitive market process leads to the erosion of profit margins, it also inspires some producers to seek safety in product differentiation. The market process is not a one-way street.

The image of economic action that emerges from our reflections is thus that of the market as a continuous process without beginning or end. Marshallian markets for individual goods may, for a time, find their respective equilibria. The economic system never does. This process is propelled by equilibrating forces of intermarket interaction which are, again and again, thwarted by changes in the pattern of the distribution of knowledge. These changes in turn result in part from the impact of exogenous forces, such as the progress of science and technology; in part from human reaction to market events; and also in part from the spontaneous action of the alert minds of participants inspired, but not compelled, by what they witness on the market scene around them.

NOTES

PART TWO

SETTING THE STAGE

[[1]]For a somewhat blurred reflection of this state of affairs, see K. J. Arrow, “Limited Knowledge and Economic Analysis,” American Economic Review 64 (March 1974): 1–10; see also F. H. Hahn, “The Winter of Our Discontent,” Economica 40 (August 1973): 322–30. For as faithful a mirror image as the situation permits, we have to turn to John Hicks, Capital and Time (Oxford: Oxford University Press, 1973).

[[2]]“The young economists of the 1920s were not spellbound, like those of earlier decades, by the great glow from a great focus of convergent thought where all the world's economists seemed to pour in their blending illuminations” (G. L. S. Shackle, The Years of High Theory [Cambridge: Cambridge University Press, 1967], p. 291).

[[3]]L. M. Lachmann, “Sir John Hicks as a Neo-Austrian,” South African Journal of Economics 3 (September 1973): 195–207.

[[4]]J. A. Schumpeter, History of Economic Analysis (Oxford: Oxford University Press, 1954), p. 847.

[[5]]Piero Sraffa, Production of Commodities by Means of Commodities: Prelude to a Critique of Economic Theory (Cambridge: Cambridge University Press, 1960).

[[6]]J. M. Keynes, The General Theory of Employment, Interest, and Money (New York: Harcourt, Brace & World, 1936), pp. 62–63.

[[7]]Ibid., p. 60.

[[8]]Ibid. Here, for once, the two streams of capital theory mentioned above were in contact. The encounter produced little but confusion.

[[9]]Ibid., pp. 69–70; esp. 69n.

[[10]]Luigi Pasinetti, “Switches of Technique and the ‘Rate of Return’ in Capital Theory,” Economic Journal 79 (September 1969): 523.

[[11]]Luigi Pasinetti, “Reply to Mr. Dougherty,” Economic Journal 82 (December 1972): 1352.

[[12]]Robert Solow, “On the Rate of Return: Reply to Pasinetti,” Economic Journal 80 (June 1970): 429.

[[13]]William Jaffé, “Review of Carl Menger and the Austrian School of Economics,” Economic Journal 84 (June 1974): 401.

[[14]]This distinction was drawn by Hans Mayer in “Der Erkenntniswert der funktionellen Preistheroien,” in Die Wirtschaftstheorie der Gegenwart, 4 vols. (Vienna, 1932), 2:148–50. The expression causal-genetic was introduced by Sombart (Werner Sombart, Die drei Nationalökonomien [Munich, 1930], p. 220).

[[15]]F. H. Hahn, On the Notion of Equilibrium in Economics (Cambridge: Cambridge University Press, 1973), p. 16.

[[16]]Ibid., p. 19.

[[17]]Ibid., p. 14.

[[18]]We find the same argument in K. J. Arrow's presidential address before the American Economic Association: “Even as a graduate student I was somewhat surprised at the emphasis on static allocative efficiency by market socialists, when the nonexistence of markets for future goods under capitalism seemed to me a much more obvious target” (Arrow, “Limited Knowledge,” pp. 5–6). In the absence of intertemporal markets men will pursue inconsistent plans, some of which must fail. So do the plans of all competitors. What the argument really shows is the incompatibility of intertemporal equilibrium with competition and not the vulnerability of “capitalism.”

[[19]]Israel M. Kirzner, Competition and Entrepreneurship (Chicago: University of Chicago Press, 1973), p. 217.

[[20]]“It will be a kaleidic society, interspersing its moments or intervals of order, assurance and beauty with sudden disintegration and a cascade into a new pattern.... It invites the analyst to consider the society as consisting of a skein of potentiae, and to ask himself, not what will be its course, but what the course is capable of being in case of the ascendancy of this or that ambition entertained by this or that interest” (G. L. S. Shackle, Epistemics and Economics [Cambridge: Cambridge University Press, 1972], p. 76).

[[21]]Ludwig von Mises, Human Action: A Treatise on Economics (New Haven: Yale University Press, 1949), p. 352.