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50th Anniversary Anthology of the Works of Ludwig von Mises

The 50th Anniversary of Liberty Fund (1960-2010)

Liberty Fund was founded in 1960 thus making 2010 its 50th Anniversary Year. As part of the celebrations organized for this year we plan to create a number of anthologies drawn from the books which Liberty Fund has published over the decades. The idea is to introduce readers to some of the outstanding material which Liberty Fund has produced over this period in the hope that it might encourage people to read the original books for themselves.

In particular, we will showcase the outstanding definitive scholarly editions of the following economists and political theorists:

• The Glasgow Edition of the Works and Correspondence of Adam Smith (7 titles). The Glasgow Edition was originally published by Oxford University Press in 1976 to coincide with the 200th anniversary of the publication of Smith’s best known work The Wealth of Nations in 1776. It was republished by Liberty Fund between 1981-1987.
• The Collected Works of John Stuart Mill, ed. J.M. Robson (Toronto: University of Toronto Press, London: Routledge and Kegan Paul, 1963-1991), 33 vols. All 33 vols. are available online at the Online Library of Liberty. Volumes I, II, III, IV, V, VII, VIII, and X have been republished in book form by Liberty Fund in 2006.
• The Works and Correspondence of David Ricardo, ed. Piero Sraffa with the Collaboration of M.H. Dobb (Indianapolis: Liberty Fund, 2005), 11 vols. This eleven-volume set was prepared under the auspices of the Royal Economic Society by Piero Sraffa and printed by Cambridge University Press in 1951–1973.
• Liberty Fund Library of the Works of Ludwig von Mises, ed. Bettina Bien Greaves. 9 vols.
• The Natural Law and Enlightenment Classics, general editor Knud Haakonssen. 40 vols.

Additional anthologies of Liberty Fund books are planned in the following subject areas and topics: The American Revolution and Constitution, History of Political Thought, Economics, History, Law, Political Thought.

A complete list of books published by Liberty Fund can be found at its online catalog from which they can be purchased. Many of these are also available online at the OLL here.

Ludwig von Mises (1881-1973)

The following is an anthology of the writings of the great Austrian economist Ludwig von Mises (1881-1973) who was the acknowledged leader of the Austrian School of economic thought, a prodigious originator in economic theory, and a prolific author. Mises’ writings and lectures encompassed economic theory, history, epistemology, government, and political philosophy. His contributions to economic theory include important clarifications on the quantity theory of money, the theory of the trade cycle, the integration of monetary theory with economic theory in general, and a demonstration that socialism must fail because it cannot solve the problem of economic calculation. Mises was the first scholar to recognize that economics is part of a larger science in human action, a science which Mises called “praxeology”. He taught at the University of Vienna and later at New York University. Mises wrote many works on two related economic themes: monetary economics, inflation, and the role of government, and the differences between government-controlled economies and free trade. His influential work on economic freedoms, their causes and consequences, brought him to highlight the interrelationships between economic and non-economic freedoms in societies, and the appropriate role for government.

The selections are taken from the Liberty Fund Library of the Works of Ludwig von Mises.

For further information about Mises see:

• a list of his works at the OLL
• at our sister website Econlib: the Concise Encyclopedia of Economics entry on Mises
• a timeline of the Life and Work of Ludwig von Mises
• a Reading List: Introduction to the Major Writings of Ludwig von Mises

• Back to Top

  1: “The Nature of Money” in The Theory of Money and Credit [1912/1981]

  Ludwig von Mises, The Theory of Money and Credit, trans. H.E. Batson (Indianapolis: Liberty Fund, 1981). Chapter: PART ONE: THE NATURE OF MONEY

  Accessed from oll.libertyfund.org/title/1061/37027 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  PART ONE

  THE NATURE OF MONEY

  CHAPTER 1

  The Function of Money

  1

  The General Economic Conditions for the Use of Money

  Where the free exchange of goods and services is unknown, money is not wanted. In a state of society in which the division of labor was a purely domestic matter and production and consumption were consummated within the single household it would be just as useless as it would be for an isolated man. But even in an economic order based on division of labor, money would still be unnecessary if the means of production were socialized, the control of production and the distribution of the finished product were in the hands of a central body, and individuals were not allowed to exchange the consumption goods allotted to them for the consumption goods allotted to others.

  The phenomenon of money presupposes an economic order in which production is based on division of labor and in which private property consists not only in goods of the first order (consumption goods), but also in goods of higher orders (production goods). In such a society, there is no systematic centralized control of production, for this is inconceivable without centralized disposal over the means of production. Production is “anarchistic.” What is to be produced, and how it is to be produced, is decided in the first place by the owners of the means of production, who produce, however, not only for their own needs, but also for the needs of others, and in their valuations take into account, not only the use-value that they themselves attach to their products, but also the use-value that these possess in the estimation of the other members of the community. The balancing of production and consumption takes place in the market, where the different producers meet to exchange goods and services by bargaining together. The function of money is to facilitate the business of the market by acting as a common medium of exchange.

  2

  The Origin of Money

  Indirect exchange is distinguished from direct exchange according as a medium is involved or not.

  Suppose that A and B exchange with each other a number of units of the commodities m and n. A acquires the commodity n because of the use-value that it has for him. He intends to consume it. The same is true of B, who acquires the commodity m for his immediate use. This is a case of direct exchange.

  If there are more than two individuals and more than two kinds of commodity in the market, indirect exchange also is possible. A may then acquire a commodity p, not because he desires to consume it, but in order to exchange it for a second commodity q which he does desire to consume. Let us suppose that A brings to the market two units of the commodity m, B two units of the commodity n, and C two units of the commodity o, and that A wishes to acquire one unit of each of the commodities n and o, B one unit of each of the commodities o and m, and C one unit of each of the commodities m and n. Even in this case a direct exchange is possible if the subjective valuations of the three commodities permit the exchange of each unit of m, n, and o for a unit of one of the others. But if this or a similar hypothesis does not hold good, and in by far the greater number of all exchange transactions it does not hold good, then indirect exchange becomes necessary, and the demand for goods for immediate wants is supplemented by a demand for goods to be exchanged for others.1

  Let us take, for example, the simple case in which the commodity p is desired only by the holders of the commodity q, while the comodity q is not desired by the holders of the commodity p but by those, say, of a third commodity r, which in its turn is desired only by the possessors of p. No direct exchange between these persons can possibly take place. If exchanges occur at all, they must be indirect; as, for instance, if the possessors of the commodity p exchange it for the commodity q and then exchange this for the commodity r which is the one they desire for their own consumption. The case is not essentially different when supply and demand do not coincide quantitatively; for example, when one indivisible good has to be exchanged for various goods in the possession of several persons.

  Indirect exchange becomes more necessary as division of labor increases and wants become more refined. In the present stage of economic development, the occasions when direct exchange is both possible and actually effected have already become very exceptional. Nevertheless, even nowadays, they sometimes arise. Take, for instance, the payment of wages in kind, which is a case of direct exchange so long on the one hand as the employer uses the labor for the immediate satisfaction of his own needs and does not have to procure through exchange the goods in which the wages are paid, and so long on the other hand as the employee consumes the goods he receives and does not sell them. Such payment of wages in kind is still widely prevalent in agriculture, although even in this sphere its importance is being continually diminished by the extension of capitalistic methods of management and the development of division of labor.2

  Thus along with the demand in a market for goods for direct consumption there is a demand for goods that the purchaser does not wish to consume but to dispose of by further exchange. It is clear that not all goods are subject to this sort of demand. An individual obviously has no motive for an indirect exchange if he does not expect that it will bring him nearer to his ultimate objective, the acquisition of goods for his own use. The mere fact that there would be no exchanging unless it was indirect could not induce individuals to engage in indirect exchange if they secured no immediate personal advantage from it. Direct exchange being impossible, and indirect exchange being purposeless from the individual point of view, no exchange would take place at all. Individuals have recourse to indirect exchange only when they profit by it; that is, only when the goods they acquire are more marketable than those which they surrender.

  Now all goods are not equally marketable. While there is only a limited and occasional demand for certain goods, that for others is more general and constant. Consequently, those who bring goods of the first kind to market in order to exchange them for goods that they need themselves have as a rule a smaller prospect of success than those who offer goods of the second kind. If, however, they exchange their relatively unmarketable goods for such as are more marketable, they will get a step nearer to their goal and may hope to reach it more surely and economically than if they had restricted themselves to direct exchange.

  It was in this way that those goods that were originally the most marketable became common media of exchange; that is, goods into which all sellers of other goods first converted their wares and which it paid every would-be buyer of any other commodity to acquire first. And as soon as those commodities that were relatively most marketable had become common media of exchange, there was an increase in the difference between their marketability and that of all other commodities, and this in its turn further strengthened and broadened their position as media of exchange.3

  Thus the requirements of the market have gradually led to the selection of certain commodities as common media of exchange. The group of commodities from which these were drawn was originally large, and differed from country to country; but it has more and more contracted. Whenever a direct exchange seemed out of the question, each of the parties to a transaction would naturally endeavor to exchange his superfluous commodities, not merely for more marketable commodities in general, but for the most marketable commodities; and among these again he would naturally prefer whichever particular commodity was the most marketable of all. The greater the marketability of the goods first acquired in indirect exchange, the greater would be the prospect of being able to reach the ultimate objective without further maneuvering. Thus there would be an inevitable tendency for the less marketable of the series of goods used as media of exchange to be one by one rejected until at last only a single commodity remained, which was universally employed as a medium of exchange; in a word, money.

  This stage of development in the use of media of exchange, the exclusive employment of a single economic good, is not yet completely attained. In quite early times, sooner in some places than in others, the extension of indirect exchange led to the employment of the two precious metals gold and silver as common media of exchange. But then there was a long interruption in the steady contraction of the group of goods employed for that purpose. For hundreds, even thousands, of years the choice of mankind has wavered undecided between gold and silver The chief cause of this remarkable phenomenon is to be found in the natural qualities of the two metals. Being physically and chemically very similar, they are almost equally serviceable for the satisfaction of human wants. For the manufacture of ornaments and jewelry of all kinds the one has proved as good as the other. (It is only in recent times that technological discoveries have been made which have considerably extended the range of uses of the precious metals and may have differentiated their utility more sharply.) In isolated communities, the employment of one or the other metal as sole common medium of exchange has occasionally been achieved, but this short-lived unity has always been lost again as soon as the isolation of the community has succumbed to participation in international trade.

  Economic history is the story of the gradual extension of the economic community beyond its original limits of the single household to embrace the nation and then the world. But every increase in its size has led to a fresh duality of the medium of exchange whenever the two amalgamating communities have not had the same sort of money. It would not be possible for the final verdict to be pronounced until all the chief parts of the inhabited earth formed a single commercial area, for not until then would it be impossible for other nations with different monetary systems to join in and modify the international organization.

  Of course, if two or more economic goods had exactly the same marketability, so that none of them was superior to the others as a medium of exchange, this would limit the development toward a unified monetary system. We shall not attempt to decide whether this assumption holds good of the two precious metals gold and silver. The question, about which a bitter controversy has raged for decades, has no very important bearings upon the theory of the nature of money. For it is quite certain that even if a motive had not been provided by the unequal marketability of the goods used as media of exchange, unification would still have seemed a desirable aim for monetary policy. The simultaneous use of several kinds of money involves so many disadvantages and so complicates the technique of exchange that the endeavor to unify the monetary system would certainly have been made in any case.

  The theory of money must take into consideration all that is implied in the functioning of several kinds of money side by side. Only where its conclusions are unlikely to be affected one way or the other, may it proceed from the assumption that a single good is employed as common medium of exchange. Elsewhere, it must take account of the simultaneous use of several media of exchange. To neglect this would be to shirk one of its most difficult tasks.

  3

  The “Secondary” Functions of Money

  The simple statement, that money is a commodity whose economic function is to facilitate the interchange of goods and services, does not satisfy those writers who are interested rather in the accumulation of material than in the increase of knowledge. Many investigators imagine that insufficient attention is devoted to the remarkable part played by money in economic life if it is merely credited with the function of being a medium of exchange; they do not think that due regard has been paid to the significance of money until they have enumerated half a dozen further “functions”—as if, in an economic order founded on the exchange of goods, there could be a more important function than that of the common medium of exchange.

  After Menger’s review of the question, further discussion of the connection between the secondary functions of money and its basic function should be unnecessary.4 Nevertheless, certain tendencies in recent literature on money make it appear advisable to examine briefly these secondary functions—some of them are coordinated with the basic function by many writers—and to show once more that all of them can be deduced from the function of money as a common medium of exchange.

  This applies in the first place to the function fulfilled by money in facilitating credit transactions. It is simplest to regard this as part of its function as medium of exchange. Credit transactions are in fact nothing but the exchange of present goods against future goods. Frequent reference is made in English and American writings to a function of money as a standard of deferred payments.5 But the original purpose of this expression was not to contrast a particular function of money with its ordinary economic function, but merely to simplify discussions about the influence of changes in the value of money upon the real amount of money debts. It serves this purpose admirably. But it should be pointed out that its use has led many writers to deal with the problems connected with the general economic consequences of changes in the value of money merely from the point of view of modifications in existing debt relations and to overlook their significance in all other connections.

  The functions of money as a transmitter of value through time and space may also be directly traced back to its function as medium of exchange. Menger has pointed out that the special suitability of goods for hoarding, and their consequent widespread employment for this purpose, has been one of the most important causes of their increased marketability and therefore of their qualification as media of exchange.6 As soon as the practice of employing a certain economic good as a medium of exchange becomes general, people begin to store up this good in preference to others. In fact, hoarding as a form of investment plays no great part in our present stage of economic development, its place having been taken by the purchase of interest-bearing property.7 On the other hand, money still functions today as a means for transporting value through space.8 This function again is nothing but a matter of facilitating the exchange of goods. The European farmer who emigrates to America and wishes to exchange his property in Europe for a property in America, sells the former, goes to America with the money (or a bill payable in money), and there purchases his new homestead. Here we have an absolute textbook example of an exchange facilitated by money.

  Particular attention has been devoted, especially in recent times, to the function of money as a general medium of payment. Indirect exchange divides a single transaction into two separate parts which are connected merely by the ultimate intention of the exchangers to acquire consumption goods. Sale and purchase thus apparently become independent of each other Furthermore, if the two parties to a sale-and-purchase transaction perform their respective parts of the bargain at different times, that of the seller preceding that of the buyer (purchase on credit), then the settlement of the bargain, or the fulfillment of the seller’s part of it (which need not be the same thing), has no obvious connection with the fulfillment of the buyer’s part. The same is true of all other credit transactions, especially of the most important sort of credit transaction—lending. The apparent lack of a connection between the two parts of the single transaction has been taken as a reason for regarding them as independent proceedings, for speaking of the payment as an independent legal act, and consequently for attributing to money the function of being a common medium of payment. This is obviously incorrect. “If the function of money as an object which facilitates dealings in commodities and capital is kept in mind, a function that includes the payment of money prices and repayment of loans...there remains neither necessity nor justification for further discussion of a special employment, or even function of money, as a medium of payment.”9

  The root of this error (as of many other errors in economics) must be sought in the uncritical acceptance of juristical conceptions and habits of thought. From the point of view of the law, outstanding debt is a subject which can and must be considered in isolation and entirely (or at least to some extent) without reference to the origin of the obligation to pay. Of course, in law as well as in economics, money is only the common medium of exchange. But the principal, although not exclusive, motive of the law for concerning itself with money is the problem of payment. When it seeks to answer the question, What is money? it is in order to determine how monetary liabilities can be discharged. For the jurist, money is a medium of payment. The economist, to whom the problem of money presents a different aspect, may not adopt this point of view if he does not wish at the very outset to prejudice his prospects of contributing to the advancement of economic theory.

  CHAPTER 2

  On the Measurement of Value

  1

  The Immeasurability of Subjective Use-Values

  Although it is usual to speak of money as a measure of value and prices, the notion is entirely fallacious. So long as the subjective theory of value is accepted, this question of measurement cannot arise. In the older political economy, the search for a principle governing the measurement of value was to a certain extent justifiable. If, in accordance with an objective theory of value, the possibility of an objective concept of commodity values is accepted, and exchange is regarded as the reciprocal surrender of equivalent goods, then the conclusion necessarily follows that exchange transactions must be preceded by measurement of the quantity of value contained in each of the objects that are to be exchanged. And it is then an obvious step to regard money as the measure of value.

  But modern value theory has a different starting point. It conceives of value as the significance attributed to individual commodity units by a human being who wishes to consume or otherwise dispose of various commodities to the best advantage. Every economic transaction presupposes a comparison of values. But the necessity for such a comparison, as well as the possibility of it, is due only to the circumstance that the person concerned has to choose between several commodities. It is quite irrelevant whether this choice is between a commodity in his own possession and one in somebody else’s possession for which he might exchange it, or between the different uses to which he himself might put a given quantity of productive resources. In an isolated household, in which (as on Robinson Crusoe’s desert island) there is neither buying nor selling, changes in the stocks of goods of higher and lower orders do nevertheless occur whenever anything is produced or consumed; and these changes must be based upon valuations if their returns are to exceed the outlay they involve. The process of valuation remains fundamentally the same whether the question is one of transforming labor and flour into bread in the domestic bakehouse, or of obtaining bread in exchange for clothes in the market. From the point of view of the person making the valuation, the calculation whether a certain act of production would justify a certain outlay of goods and labor is exactly the same as the comparison between the values of the commodities to be surrendered and the values of the commodities to be acquired that must precede an exchange transaction. For this reason it has been said that every economic act may be regarded as a kind of exchange.10

  Acts of valuation are not susceptible of any kind of measurement. It is true that everybody is able to say whether a certain piece of bread seems more valuable to him than a certain piece of iron or less valuable than a certain piece of meat. And it is therefore true that everybody is in a position to draw up an immense list of comparative values; a list which will hold good only for a given point of time, since it must assume a given combination of wants and commodities. If the individual’s circumstances change, then his scale of values changes also.

  But subjective valuation, which is the pivot of all economic activity, only arranges commodities in order of their significance; it does not measure this significance. And economic activity has no other basis than the value scales thus constructed by individuals. An exchange will take place when two commodity units are placed in a different order on the value scales of two different persons. In a market, exchanges will continue until it is no longer possible for reciprocal surrender of commodities by any two individuals to result in their each acquiring commodities that stand higher on their value scales than those surrendered. If an individual wishes to make an exchange on an economic basis, he has merely to consider the comparative significance in his own judgment of the quantities of commodities in question. Such an estimate of relative values in no way involves the idea of measurement. An estimate is a direct psychological judgment that is not dependent on any kind of intermediate or auxiliary process.

  (Such considerations also provide the answer to a series of objections to the subjective theory of value. It would be rash to conclude, because psychology has not succeeded and is not likely to succeed in measuring desires, that it is therefore impossible ultimately to attribute the quantitatively exact exchange ratios of the market to subjective factors. The exchange ratios of commodities are based upon the value scales of the individuals dealing in the market. Suppose that A possesses three pears and B two apples; and that A values the possession of two apples more than that of three pears, while B values the possession of three pears more than that of two apples. On the basis of these estimations an exchange may take place in which three pears are given for two apples. Yet it is clear that the determination of the numerically precise exchange ratio 2 : 3, taking a single fruit as a unit, in no way presupposes that A and B know exactly by how much the satisfaction promised by possession of the quantities to be acquired by exchange exceeds the satisfaction promised by possession of the quantities to be given up.)

  General recognition of this fact, for which we are indebted to the authors of modern value theory, was hindered for a long time by a peculiar sort of obstacle. It is not altogether a rare thing that those very pioneers who have not hesitated to clear new paths for themselves and their followers by boldly rejecting outworn traditions and ways of thinking should yet shrink sometimes from all that is involved in the rigid application of their own principles. When this is so, it remains for those who come after to endeavor to put the matter right. The present is a case in point. On the subject of the measurement of value, as on a series of further subjects that are very closely bound up with it, the founders of the subjective theory of value refrained from the consistent development of their own doctrines. This is especially true of Böhm-Bawerk. At least it is especially striking in him; for the arguments of his which we are about to consider are embodied in a system that would have provided an alternative and, in the present writer’s opinion, a better, solution of the problem, if their author had only drawn the decisive conclusion from them.

  Böhm-Bawerk points out that when we have to choose in actual life between several satisfactions which cannot be had simultaneously because our means are limited, the situation is often such that the alternatives are on the one hand one big satisfaction and on the other hand a large number of homogeneous smaller satisfactions. Nobody will deny that it lies in our power to come to a rational decision in such cases. But it is equally clear that a judgment merely to the effect that a satisfaction of the one sort is greater than a satisfaction of the other sort is inadequate for such a decision; as would even be a judgment that a satisfaction of the first sort is considerably greater than one of the other sort. Böhm-Bawerk therefore concludes that the judgment must definitely affirm how many of the smaller satisfactions outweigh one of the first sort, or in other words how many times the one satisfaction exceeds one of the others in magnitude.11

  The credit of having exposed the error contained in the identification of these two last propositions belongs to Cuhel. The judgment that so many small satisfactions are outweighed by a satisfaction of another kind is in fact not identical with the judgment that the one satisfaction is so many times greater than one of the others. The two would be identical only if the satisfaction afforded by a number of commodity units taken together were equal to the satisfaction afforded by a single unit on its own multiplied by the number of units. That this assumption cannot hold good follows from Gossen’s law of the satisfaction of wants. The two judgments, “I would rather have eight plums than one apple” and “I would rather have one apple than seven plums,” do not in the least justify the conclusion that Böhm-Bawerk draws from them when he states that therefore the satisfaction afforded by the consumption of an apple is more than seven times but less than eight times as great as the satisfaction afforded by the consumption of a plum. The only legitimate conclusion is that the satisfaction from one apple is greater than the total satisfaction from seven plums but less than the total satisfaction from eight plums.12

  This is the only interpretation that can be harmonized with the fundamental conception expounded by the marginal-utility theorists, and especially by Böhm-Bawerk himself, that the utility (and consequently the subjective use-value also) of units of a commodity decreases as the supply of them increases. But to accept this is to reject the whole idea of measuring the subjective use-value of commodities. Subjective use-value is not susceptible of any kind of measurement.

  The American economist Irving Fisher has attempted to approach the problem of value measurement by way of mathematics.13 His success with this method has been no greater than that of his predecessors with other methods. Like them, he has not been able to surmount the difficulties arising from the fact that marginal utility diminishes as supply increases, and the only use of the mathematics in which he clothes his arguments, and which is widely regarded as a particularly becoming dress for investigations in economics, is to conceal a little the defects of their clever but artificial construction.

  Fisher begins by assuming that the utility of a particular good or service, though dependent on the supply of that good or service, is independent of the supply of all others. He realizes that it will not be possible to achieve his aim of discovering a unit for the measurement of utility unless he can first show how to determine the proportion between two given marginal utilities. If, for example, an individual has 100 loaves of bread at his disposal during one year, the marginal utility of a loaf to him will be greater than if he had 150 loaves. The problem is, to determine the arithmetical proportion between the two marginal utilities. Fisher attempts to do this by comparing them with a third utility. He therefore supposes the individual to have B gallons of oil annually as well, and calls that increment of B whose utility is equal to that of the 100th loaf of bread. In the second case, when not 100 but 150 loaves are available, it is assumed that the supply of B remains unchanged. Then the utility of the 150th loaf may be equal, say, to the utility of b/2. Up to this point it is unnecessary to quarrel with Fisher’s argument; but now follows a jump that neatly avoids all the difficulties of the problem. That is to say, Fisher simply continues, as if he were stating something quite self-evident: “Then the utility of the 150th loaf is said to be half the utility of the 100th.” Without any further explanation he then calmly proceeds with his problem, the solution of which (if the above proposition is accepted as correct) involves no further difficulties, and so succeeds eventually in deducing a unit which he calls a “util.” It does not seem to have occurred to him that in the particular sentence just quoted he has argued in defiance of the whole of marginal-utility theory and set himself in opposition to all the fundamental doctrines of modern economics. For obviously this conclusion of his is legitimate only if the utility of b is equal to twice the utility of b/2. But if this were really so, the problem of determining the proportion between two marginal utilities could have been solved in a quicker way, and his long process of deduction would not have been necessary. Just as justifiably as he assumes that the utility of is equal to twice the utility of b/2, he might have assumed straightaway that the utility of the 150th loaf is two-thirds of that of the 100th.

  Fisher imagines a supply of B gallons that is divisible into n small quantities b, or 2n small quantities b/2. He assumes that an individual who has this supply B at his disposal regards the value of commodity unit x as equal to that of b and the value of commodity unit y as equal to that of b/2. And he makes the further assumption that in both valuations, that is, both in equating the value of x with that of b and in equating the value of y with that of b/2, the individual has the same supply of B gallons at his disposal.

  He evidently thinks it possible to conclude from this that the utility of b is twice as great as that of b/2. The error here is obvious. The individual is in the one case faced with the choice between x (the value of the 100th loaf) and b = 2b/2. He finds it impossible to decide between the two, i.e., he values both equally. In the second case he has to choose between y (the value of the 150th loaf) and b/2. Here again he finds that both alternatives are of equal value. Now the question arises, what is the proportion between the marginal utility of b and that of b/2? We can determine this only by asking ourselves what the proportion is between the marginal utility of the nth part of a given supply and that of the 2nth part of the same supply, between that of b/n and that of b/2n. For this purpose let us imagine the supply B split up into 2n portions of b/2n. Then the marginal utility of the (2n-1)th portion is greater than that of the 2nth portion. If we now imagine the same supply B divided into n portions, then it clearly follows that the marginal utility of the nth portion is equal to that of the (2n-1)th portion plus that of the 2nth portion in the previous case. It is not twice as great as that of the 2nth portion, but more than twice as great. In fact, even with an unchanged supply, the marginal utility of several units taken together is not equal to the marginal utility of one unit multiplied by the number of units, but necessarily greater than this product. The value of two units is greater than, but not twice as great as, the value of one unit.14

  Perhaps Fisher thinks that this consideration may be disposed of by supposing b and b/2 to be such small quantities that their utility may be reckoned infinitesimal. If this is really his opinion, then it must first of all be objected that the peculiarly mathematical conception of infinitesimal quantities is inapplicable to economic problems. The utility afforded by a given amount of commodities, is either great enough for valuation, or so small that it remains imperceptible to the valuer and cannot therefore affect his judgment. But even if the applicability of the conception of infinitesimal quantities were granted, the argument would still be invalid, for it is obviously impossible to find the proportion between two finite marginal utilities by equating them with two infinitesimal marginal utilities.

  Finally, a few words must be devoted to Schumpeter’s attempt to set up as a unit the satisfaction resulting from the consumption of a given quantity of commodities and to express other satisfactions as multiples of this unit. Value judgments on this principle would have to be expressed as follows: “The satisfaction that I could get from the consumption of a certain quantity of commodities is a thousand times as great as that which I get from the consumption of an apple a day,” or “For this quantity of goods I would give at the most a thousand times this apple.” 15 Is there really anybody on earth who is capable of adumbrating such mental images or pronouncing such judgments? Is there any sort of economic activity that is actually dependent on the making of such decisions? Obviously not.16 Schumpeter makes the same mistake of starting with the assumption that we need a measure of value in order to be able to compare one “quantity of value” with another. But valuation in no way consists in a comparison of two “quantities of value.” It consists solely in a comparison of the importance of different wants. The judgment “Commodity a is worth more to me than commodity b” no more presupposes a measure of economic value than the judgment ”A is dearer to me—more highly esteemed—than B” presupposes a measure of friendship.

  2

  Total Value

  If it is impossible to measure subjective use-value, it follows directly that it is impracticable to ascribe “quantity” to it. We may say, the value of this commodity is greater than the value of that; but it is not permissible for us to assert, this commodity is worth so much. Such a way of speaking necessarily implies a definite unit. It really amounts to stating how many times a given unit is contained in the quantity to be defined. But this kind of calculation is quite inapplicable to processes of valuation.

  The consistent application of these principles implies a criticism also of Schumpeter’s views on the total value of a stock of goods. According to Wieser, the total value of a stock of goods is given by multiplying the number of items or portions constituting the stock by their marginal utility at any given moment. The untenability of this argument is shown by the fact that it would prove that the total stock of a free good must always be worth nothing. Schumpeter therefore suggests a different formula in which each portion is multiplied by an index corresponding to its position on the value scale (which, by the way, is quite arbitrary) and these products are then added together or integrated. This attempt at a solution, like the preceding, has the defect of assuming that it is possible to measure marginal utility and “intensity” of value. The fact that such measurement is impossible renders both suggestions equally useless. Mastery of the problem must be sought in some other way.

  Value is always the result of a process of valuation. The process of valuation compares the significance of two complexes of commodities from the point of view of the individual making the valuation. The individual making the valuation and the complexes of goods valued, that is, the subject and the objects of the valuation, must enter as indivisible elements into any given process of valuation. This does not mean that they are necessarily indivisible in other respects as well, whether physically or economically. The subject of an act of valuation may quite well be a group of persons, a state or society or family, so long as it acts in this particular case as a unit, through a representative. And the objects thus valued may be collections of distinct units of commodities so long as they have to be dealt with in this particular case as a whole. There is nothing to prevent either subject or object from being a single unit for the purposes of one valuation even though in another their component parts may be entirely independent of each other The same people who, acting together through a representative as a single agent, such as a state, make a judgment as to the relative values of a battleship and a hospital, are the independent subjects of valuations of other commodities, such as cigars and newspapers. It is just the same with commodities. Modern value theory is based on the fact that it is not the abstract importance of different kinds of need that determines the scales of values, but the intensity of specific desires. Starting from this, the law of marginal utility was developed in a form that referred primarily to the usual sort of case in which the collections of commodities are divisible. But there are also cases in which the total supply must be valued as it stands.

  Suppose that an economically isolated individual possesses two cows and three horses and that the relevant part of his scale of values (that item valued highest being placed first) is as follows: 1, a cow; 2, a horse; 3, a horse; 4,a horse; 5, a cow. If this individual has to choose between one cow and one horse he will rather be inclined to sacrifice the cow than the horse. If wild animals attack one of his cows and one of his horses, and it is impossible for him to save both, then he will try to save the horse. But if the whole of his stock of either animal is in danger, his decision will be different. Supposing that his stable and cowshed catch fire and that he can only rescue the occupants of one and must leave the others to their fate, then if he values three horses less than two cows he will attempt to save not the three horses but the two cows. The result of that process of valuation which involves a choice between one cow and one horse is a higher estimation of the horse. The result of the process of valuation which involves a choice between the whole available stock of cows and the whole available stock of horses is a higher estimation of the stock of cows.

  Value can rightly be spoken of only with regard to specific acts of appraisal. It exists in such connections only; there is no value outside the process of valuation. There is no such thing as abstract value. Total value can be spoken of only with reference to a particular instance of an individual or other valuing “subject” having to choose between the total available quantities of certain economic goods. Like every other act of valuation, this is complete in itself. The person making the choice does not have to make use of notions about the value of units of the commodity. His process of valuation, like every other, is an immediate inference from considerations of the utilities at stake. When a stock is valued as a whole, its marginal utility, that is to say, the utility of the last available unit of it, coincides with its total utility, since the total supply is one indivisible quantity. This is also true of the total value of free goods, whose separate units are always valueless, that is, are always relegated to a sort of limbo at the very end of the value scale, promiscuously intermingled with the units of all the other free goods.17

  3

  Money as a Price Index

  What has been said should have made sufficiently plain the unscientific nature of the practice of attributing to money the function of acting as a measure of price or even of value. Subjective value is not measured, but graded. The problem of the measurement of objective use-value is not an economic problem at all. (It may incidentally be remarked that a measurement of efficiency is not possible for every species of commodity and is at the best only available within separate species, while every possibility, not only of measurement, but even of mere scaled comparison, vanishes as soon as we seek to establish a relation between two or more kinds of efficiency. It may be possible to measure and compare the calorific value of coal and of wood, but it is in no way possible to reduce to a common objective denominator the objective efficiency of a table and that of a book.)

  Neither is objective exchange value measurable, for it too is the result of the comparisons derived from the valuations of individuals. The objective exchange value of a given commodity unit may be expressed in units of every other kind of commodity. Nowadays exchange is usually carried on by means of money, and since every commodity has therefore a price expressible in money, the exchange value of every commodity can be expressed in terms of money. This possibility enabled money to become a medium for expressing values when the growing elaboration of the scale of values which resulted from the development of exchange necessitated a revision of the technique of valuation.

  That is to say, opportunities for exchanging induce the individual to rearrange his scales of values. A person in whose scale of values the commodity “a cask of wine” comes after the commodity “a sack of oats” will reverse their order if he can exchange a cask of wine in the market for a commodity that he values more highly than a sack of oats. The position of commodities in the value scales of individuals is no longer determined solely by their own subjective use-value, but also by the subjective use-value of the commodities that can be obtained in exchange for them, whenever the latter stand higher than the former in the estimation of the individual. Therefore, if he is to obtain the maximum utility from his resources, the individual must familiarize himself with all the prices in the market.

  For this, however, he needs some help in finding his way among the confusing multiplicity of the exchange ratios. Money, the common medium of exchange, which can be exchanged for every commodity and with which every commodity can be procured, is preeminently suitable for this. It would be absolutely impossible for the individual, even if he were a complete expert in commercial matters, to follow every change of market conditions and make the corresponding alterations in his scale of use-values and exchange values, unless he chose some common denominator to which he could reduce each exchange ratio. Because the market enables any commodity to be turned into money and money into any commodity, objective exchange value is expressed in terms of money. Thus money becomes a price index, in Menger’s phrase. The whole structure of the calculations of the entrepreneur and the consumer rests on the process of valuing commodities in money. Money has thus become an aid that the human mind is no longer able to dispense with in making economic calculations.18 If in this sense we wish to attribute to money the function of being a measure of prices, there is no reason why we should not do so. Nevertheless, it is better to avoid the use of a term which might so easily be misunderstood as this. In any case the usage certainly cannot be called correct—we do not usually describe the determination of latitude and longitude as a “function” of the stars.19

  CHAPTER 3

  The Various Kinds of Money

  1

  Money and Money Substitutes

  When an indirect exchange is transacted with the aid of money, it is not necessary for the money to change hands physically; a perfectly secure claim to an equivalent sum, payable on demand, may be transferred instead of the actual coins. In this by itself there is nothing remarkable or peculiar to money. What is peculiar, and only to be explained by reference to the special characteristics of money; is the extraordinary frequency of this way of completing monetary transactions.

  In the first place, money is especially well adapted to constitute the substance of a generic obligation. Whereas the fungibility of nearly all other economic goods is more or less circumscribed and is often only a fiction based on an artificial commercial terminology, that of money is almost unlimited. Only that of shares and bonds can be compared with it. The sole factor that could possibly prevent any of these from being completely fungible is the difficulty of sub-dividing their separate units; and various expedients have been adopted, which, at least as far as money is concerned, have entirely robbed this difficulty of all practical significance.

  A still more important circumstance is involved in the nature of the function that money performs. A claim to money may be transferred over and over again in an indefinite number of indirect exchanges without the person by whom it is payable ever being called upon to settle it. This is obviously not true as far as other economic goods are concerned, for these are always destined for ultimate consumption.

  The special suitability for facilitating indirect exchanges possessed by absolutely secure and immediately payable claims to money, which we may briefly refer to as money substitutes, is further increased by their standing in law and commerce.

  Technically, and in some countries legally as well, the transfer of a banknote scarcely differs from that of a coin. The similarity of outward appearance is such that those who are engaged in commercial dealings are usually unable to distinguish between those objects that actually perform the function of money and those that are merely employed as substitutes for them. The businessman does not worry about the economic problems involved in this; he is only concerned with the commercial and legal characteristics of coins, notes, checks, and the like. To him, the facts that banknotes are transferable without documentary evidence, that they circulate like coins in round denominations, that no fight of recovery lies against their previous holders, that the law recognizes no difference between them and money as an instrument of debt settlement, seem good enough reason for including them within the definition of the term money, and for drawing a fundamental distinction between them and cash deposits, which can be transferred only by a procedure that is much more complex technically and is also regarded in law as of a different kind. This is the origin of the popular conception of money by which everyday life is governed. No doubt it serves the purposes of the bank official, and it may even be quite useful in the business world at large, but its introduction into the scientific terminology of economics is most undesirable.

  The controversy about the concept of money is not exactly one of the most satisfactory chapters in the history of our science. It is chiefly remarkable for the smother of juristic and commercial technicalities in which it is enveloped and for the quite undeserved significance that has been attached to what is after all merely a question of terminology. The solution of the question has been re garded as an end in itself and it seems to have been completely forgotten that the real aim should have been simply to facilitate further investigation. Such a discussion could not fail to be fruitless.

  In attempting to draw a line of division between money and those objects that outwardly resemble it, we only need to bear in mind the goal of our investigation. The present discussion aims at tracing the laws that determine the exchange ratio between money and other economic goods. This and nothing else is the task of the economic theory of money. Now our terminology must be suited to our problem. If a particular group of objects is to be singled out from among all those that fulfill a monetary function in commerce and, under the special name of money (which is to be reserved to this group alone), sharply contrasted with the rest (to which this name is denied), then this distinction must be made in a way that will facilitate the further progress of the investigation.

  It is considerations such as these that have led the present writer to give the name of money substitutes and not that of money to those objects that are employed like money in commerce but consist in perfectly secure and immediately convertible claims to money.

  Claims are not goods;20 they are means of obtaining disposal over goods. This determines their whole nature and economic significance. They themselves are not valued directly, but indirectly; their value is derived from that of the economic goods to which they refer. Two elements are involved in the valuation of a claim: first, the value of the goods to whose possession it gives a right; and, second, the greater or less probability that possession of the goods in question will actually be obtained. Furthermore, if the claim is to come into force only after a period of time, then consideration of this circumstance will constitute a third factor in its valuation. The value on January 1 of a right to receive ten sacks of coal on December 31 of the same year will be based not directly on the value of ten sacks of coal, but on the value of ten sacks of coal to be delivered in a year’s time. This sort of calculation is a matter of common experience, as also is the fact that in reckoning the value of claims their soundness or security is taken into account.

  Claims to money are, of course, no exception. Those which are payable on demand, if there is no doubt about their soundness and no expense connected with their settlement, are valued just as highly as cash and tendered and accepted in the same way as money.21 Only claims of this sort—that is, claims that are payable on demand, absolutely safe as far as human foresight goes, and perfectly liquid in the legal sense—are for business purposes exact substitutes for the money to which they refer. Other claims, of course, such as notes issued by banks of doubtful credit or bills that are not yet mature, also enter into financial transactions and may just as well be employed as general media of exchange. This, according to our terminology, means that they are money. But then they are valued independently; they are reckoned equivalent neither to the sums of money to which they refer nor even to the worth of the rights that they embody. What the further special factors are that help to determine their exchange value, we shall discover in the course of our argument.

  Of course it would be in no way incorrect if we attempted to include in our concept of money those absolutely secure and immediately convertible claims to money that we have preferred to call money substitutes. But what must be entirely condemned is the widespread practice of giving the name of money to certain classes of money substitutes, usually banknotes, token money, and the like, and contrasting them sharply with the remaining kinds, such as cash deposits.22 This is to make a distinction without any adequate difference; for banknotes, say, and cash deposits differ only in mere externals, important perhaps from the business and legal points of view, but quite insignificant from the point of view of economics.

  On the other hand, arguments of considerable weight may be urged in favor of including all money substitutes without exception in the single concept of money. It may be pointed out, for instance, that the significance of perfectly secure and liquid claims to money is quite different from that of claims to other economic goods; that whereas a claim on a commodity must sooner or later be liquidated, this is not necessarily true of claims to money. Such claims may pass from hand to hand for indefinite periods and so take the place of money without any attempt being made to liquidate them. It may be pointed out that those who require money will be quite satisfied with such claims as these, and that those who wish to spend money will find that these claims answer their purpose just as well; and that consequently the supply of money substitutes must be reckoned in with that of money, and the demand for them with the demand for money. It may further be pointed out that whereas it is impossible to satisfy an increase in the demand, say, for bread by issuing more breadtickets without adding to the actual supply of bread itself, it is perfectly possible to satisfy an increased demand for money by just such a process as this. It may be argued, in brief, that money substitutes have certain peculiarities of which account is best taken by including them in the concept of money.

  Without wishing to question the weight of such arguments as these, we shall on grounds of convenience prefer to adopt the narrower formulation of the concept of money, supplementing it with a separate concept of money substitutes. Whether this is the most advisable course to pursue, whether perhaps some other procedure might not lead to a better understanding of our subject matter, must be left to the judgment of the reader To the author it appears that the way chosen is the only way in which the difficult problems of the theory of money can be solved.

  2

  The Peculiarities of Money Substitutes

  Economic discussion about money must be based solely on economic considerations and may take legal distinctions into account only insofar as they are significant from the economic point of view also. Such discussion consequently must proceed from a concept of money based, not on legal definitions and discriminations, but on the economic nature of things. It follows that our decision not to regard drafts and other claims to money as constituting money itself must not be interpreted merely in accordance with the narrow juristic concept of a claim to money. Besides strictly legal claims to money, we must also take into account such relationships as are not claims in the juristic sense, but are nevertheless treated as such in commercial practice because some concern or other deals with them as if they actually did constitute claims against itself.23

  There can be no doubt that the German token coins minted in accordance with the Coinage Act of July 9, 1873, did not in law constitute claims to money. Perhaps there are some superficial critics who would be inclined to classify these coins actually as money because they consisted of stamped silver or nickel or copper discs that had every appearance of being money. But despite this, from the point of view of economics these token coins merely constituted drafts on the national Treasury. The second paragraph of section nine of the Coinage Act (in its form of June 1, 1909) obliged the Bundesrat to specify those centers that would pay out gold coins on demand in return for not less than 200 marks’ worth of silver coins or fifty marks’ worth of nickel and copper coins. Certain branches of the Reichsbank were entrusted with this function. Another section of the Coinage Act (sec. 8) provided that the Reich would always be in a position actually to maintain this convertibility. According to this section, the total value of the silver coins minted was never to exceed twenty marks per head of the population, nor that of the nickel and copper coins two and one-half marks per head. In the opinion of the legislature, these sums represented the demand for small coins, and there was consequently no danger that the total issue of token coinage would exceed the public demand for it. Admittedly, there was no statutory recognition of any right to conversion on the part of holders of token coins, and the limitation of legal tender (sec. 9, par 1) was only an inadequate substitute for this. Nevertheless, it is a matter of general knowledge that the token coins were in fact cashed without any demur at the branches of the Reichsbank specified by the chancellor

  Exactly the same sort of significance was enjoyed by the Reich Treasury notes, of which not more than 120 million marks’ worth were allowed to be in circulation. These also (sec. 5 of the act of April 30, 1874) were always cashed for gold by the Reichsbank on behalf of the Treasury. It is beside the point that the Treasury notes were not legal tender in private transactions while everybody was obliged to accept silver coins in amounts up to twenty marks and nickel and copper coins in amounts up to one mark; for, although they were not legally bound to accept them in settlement of debts, people in fact accepted them readily.

  Another example is afforded by the German thaler of the period from the introduction of the gold standard until the withdrawal of the thaler from circulation on October 1, 1907. During the whole of this period the thaler was undoubtedly legal tender But if we seek to go behind this expression, whose juristic derivation makes it useless for our present purpose, and ask if the thaler was money during this period, the answer must be that it was not. It is true that it was employed in commerce as a medium of exchange; but it could be used in this way solely because it was a claim to something that really was money, that is, to the common medium of exchange. For although neither the Reichsbank nor the Reich nor its separate constituent kingdoms and duchies nor anybody else was obliged to cash them, the Reichsbank, acting on behalf of the government, always took pains to ensure that no more thalers were in circulation than were demanded by the public. It achieved this result by refusing to press thalers on its customers when paying out. This, together with the circumstance that thalers were legal tender both to the bank and to the Reich, was sufficient to turn them in effect into drafts that could always be converted into money, with the result that they circulated at home as perfectly satisfactory substitutes for money. It was repeatedly suggested to the directors of the Reichsbank that they should cash their own notes not in gold but in thalers (which would have been well within the letter of the law) and pay out gold only at a premium, with the object of hindering the export of it. But the bank steadily refused to adopt this or any proposal of a similar nature.

  The exact nature of the token coinage in other countries has not always been so easy to understand as that of Germany, whose banking and currency system was fashioned under the influence of such men as Bamberger, Michaelis, and Soetbeer. In some legislation, the theoretical basis of modern token-coinage policy may not be so easy to discover or to demonstrate as in the examples already dealt with. Nevertheless, all such policy has ultimately the same intent. The universal legal peculiarity of token coinage is the limitation of its power of payment to a specified maximum sum; and as a rule this provision is supplemented by legislative restriction of the amount that may be minted.

  There is no such thing as an economic concept of token coinage. All that economics can distinguish is a particular subgroup within the group of claims to money that are employed as substitutes for money, the members of this subgroup being intended for use in transactions where the amounts involved are small. The fact that the issue and circulation of token coins are subjected to special legal rules and regulations is to be explained by the special nature of the purpose that they serve. The general recognition of the right of the holder of a banknote to receive money in exchange for it while the conversion of token coins is in many countries left to administrative discretion is a result of the different lines of development that notes and token coinage have followed respectively. Token coins have arisen from the need for facilitating the exchange of small quantities of goods of little value. The historical details of their development have not yet been brought to light and, almost without exception, all that has been written on the subject is of purely numismatical or metrological importance.24 Nevertheless, one thing can safely be asserted: token coinage is always the result of attempts to remedy deficiencies in the existing monetary system. It is those technical difficulties, that hinder the subdivision of the monetary unit into small coins, that have led, after all sorts of unsuccessful attempts, to the solution of the problem that we adopt nowadays. In many countries, while this development has been going on, a kind of fiat money25 has sometimes been used in small transactions, with the very inconvenient consequence of having two independent kinds of money performing side by side the function of a common medium of exchange. To avoid the inconveniences of such a situation the small coins were brought into a fixed legal ratio with those used in larger transactions and the necessary precautions were taken to prevent the quantity of small coins from exceeding the requirements of commerce. The most important means to this end has always been the restriction of the quantity minted to that which seems likely to be needed for making small payments, whether this is fixed by law or strictly adhered to without such compulsion. Along with this has gone the limitation of legal tender in private dealings to a certain relatively small amount. The danger that these regulations would prove inadequate has never seemed very great, and consequently legislative provision for conversion of the token coins has been either entirely neglected or left incomplete by omission of a clear statement of the holder’s right to change them for money. But everywhere nowadays those token coins that are rejected from circulation are accepted without demur by the state, or some other body such as the central bank, and thus their nature as claims to money is established. Where this policy has been discontinued for a time and the attempt made by suspending effectual conversion of the token coins to force more of them into circulation than was required, they have become credit money, or even commodity money. Then they have no longer been regarded as claims to money, payable on demand, and therefore equivalent to money, but have been valued independently.

  The banknote has followed quite a different line of development. It has always been regarded as a claim, even from the juristic point of view. The fact has never been lost sight of that if its value was to be kept equal to that of money, steps would have to be taken to ensure its permanent convertibility into money. That a cessation of cash payments would alter the economic character of banknotes could hardly escape notice; in the case of the quantitatively less important coins used in small transactions it could more easily be forgotten. Furthermore, the smaller quantitative importance of token coins means that it is possible to maintain their permanent convertibility without establishing special funds for the purpose. The absence of such special funds may also have helped to disguise the real nature of token coinage.26

  Consideration of the monetary system of Austria-Hungary is particularly instructive. The currency reform that was inaugurated in 1892 was never formally completed, and until the disruption of the Hapsburg monarchy the standard remained legally what is usually called a paper standard, since the Austro-Hungarian Bank was not obliged to redeem its own notes, which were legal tender to any amount. Nevertheless, from 1900 to 1914 Austria-Hungary really possessed a gold standard or gold-exchange standard, for the bank did in fact readily provide gold for commercial requirements. Although according to the letter of the law it was not obliged to cash its notes, it offered bills of exchange and other claims payable abroad in gold (checks, notes, and the like), at a price below the upper theoretical gold point. Under such conditions, those who wanted gold for export naturally preferred to buy claims of this sort, which enabled them to achieve their purpose more cheaply than by the actual export of gold.

  For internal commerce as well, in which the use of gold was exceptional since the population had many years before gone over to banknotes and token coins,27 the bank cashed its notes for gold without being legally bound to do so. And this policy was pursued, not accidentally or occasionally or without full recognition of its significance, but deliberately and systematically, with the object of permitting Austria and Hungary to enjoy the economic advantages of the gold standard. Both the Austrian and the Hungarian governments, to whose initiative this policy of the bank was due, cooperated as far as they were able. But in the first place it was the bank itself which had to ensure, by following an appropriate discount policy, that it would always be in a position to carry out with promptitude its voluntary undertaking to redeem its notes. The measures that it took with this purpose in view did not differ fundamentally in any way from those adopted by the banks-of-issue in other gold-standard countries.28 Thus the notes of the Austro-Hungarian Bank were in fact nothing but money substitutes. The money of the country, as of other European countries, was gold.

  3

  Commodity Money, Credit Money, and Fiat Money

  The economic theory of money is generally expressed in a terminology that is not economic but juristic. This terminology has been built up by writers, statesmen, merchants, judges, and others whose chief interests have been in the legal characteristics of the different kinds of money and their substitutes. It is useful for dealing with those aspects of the monetary system that are of importance from the legal point of view; but for purposes of economic investigation it is practically valueless. Sufficient attention has scarcely been devoted to this shortcoming, despite the fact that confusion of the respective provinces of the sciences of law and economics has nowhere been so frequent and so fraught with mischievous consequences as in this very sphere of monetary theory. It is a mistake to deal with economic problems according to legal criteria. The juristic phraseology, like the results of juristic research into monetary problems, must be regarded by economics as one of the objects of its investigations. It is not the task of economics to criticize it, although it is entitled to exploit it for its own purposes. There is nothing to be said against using juristic technical terms in economic argument where this leads to no undesirable consequences. But for its own special purposes, economics must construct its own special terminology.

  There are two sorts of thing that may be used as money: on the one hand, physical commodities as such, like the metal gold or the metal silver; and, on the other hand, objects that do not differ technologically from other objects that are not money, the factor that decides whether they are money being not a physical but a legal characteristic. A piece of paper that is specially characterized as money by the imprint of some authority is in no way different, technologically considered, from another piece of paper that has received a similar imprint from an unauthorized person, just as a genuine five-franc piece does not differ technologically from a “genuine replica.” The only difference lies in the law that regulates the manufacture of such coins and makes it impossible without authority. (In order to avoid every possible misunderstanding, let it be expressly stated that all that the law can do is to regulate the issue of the coins and that it is beyond the power of the state to ensure in addition that they actually shall become money; that is, that they actually shall be employed as a common medium of exchange. All that the state can do by means of its official stamp is to single out certain pieces of metal or paper from all the other things of the same kind so that they can be subjected to a process of valuation independent of that of the rest. Thus it permits those objects possessing the special legal qualification to be used as a common medium of exchange while the other commodities of the same sort remain mere commodities. It can also take various steps with the object of encouraging the actual employment of the qualified commodities as common media of exchange. But these commodities can never become money just because the state commands it; money can be created only by the usage of those who take part in commercial transactions.)

  We may give the name commodity money to that sort of money that is at the same time a commercial commodity; and the name fiat money to money that comprises things with a special legal qualification. A third category may be called credit money, this being that sort of money which constitutes a claim against any physical or legal person. But these claims must not be both payable on demand and absolutely secure; if they were, there could be no difference between their value and that of the sum of money to which they referred, and they could not be subjected to an independent process of val uation on the part of those who dealt with them. In some way or other the maturity of these claims must be postponed to some future time. It can hardly be contested that fiat money in the strict sense of the word is theoretically conceivable. The theory of value proves the possibility of its existence. Whether fiat money has ever actually existed is, of course, another question, and one that cannot offhand be answered affirmatively. It can hardly be doubted that most of those kinds of money that are not commodity money must be classified as credit money. But only detailed historical investigation could clear this matter up.

  Our terminology should prove more useful than that which is generally employed. It should express more clearly the peculiarities of the processes by which the different types of money are valued. It is certainly more correct than the usual distinction between metallic money and paper money. Metallic money comprises not only standard money but also token coins and such coins as the German thaler of the period 1873-1907; and paper money, as a rule, comprises not merely such fiat money and credit money as happen to be made of paper, but also convertible notes issued by banks or the state. This terminology is derived from popular usage. Previously, when more often than nowadays “metallic” money really was money and not a money substitute, perhaps the nomenclature was a little less in-appropriate than it is now. Furthermore, it corresponded—perhaps still corresponds—to the naive and confused popular conception of value that sees in the precious metals something “intrinsically” valuable and in paper credit money something necessarily anomalous. Scientifically, this terminology is perfectly useless and a source of endless misunderstanding and misrepresentation. The greatest mistake that can be made in economic investigation is to fix attention on mere appearances, and so to fail to perceive the fundamental difference between things whose externals alone are similar, or to discriminate between fundamentally similar things whose externals alone are different.

  Admittedly, for the numismatist and the technologist and the historian of art there is very little difference between the five-franc piece before and after the cessation of free coinage of silver, while the Austrian silver gulden even of the period 1879 to 1892 appears to be fundamentally different from the paper gulden. But it is regrettable that such superficial distinctions as this should still play a part in economic discussion.

  Our threefold classification is not a matter of mere terminological gymnastics; the theoretical discussion of the rest of this book should demonstrate the utility of the concepts that it involves.

  The decisive characteristic of commodity money is the employment for monetary purposes of a commodity in the technological sense. For the present investigation, it is a matter of complete indifference what particular commodity this is; the important thing is that it is the commodity in question that constitutes the money, and that the money is merely this commodity. The case of fiat money is quite different. Here the deciding factor is the stamp, and it is not the material bearing the stamp that constitutes the money, but the stamp itself. The nature of the material that bears the stamp is a matter of quite minor importance. Credit money, finally, is a claim falling due in the future that is used as a general medium of exchange.

  4

  The Commodity Money of the Past and of the Present

  Even when the differentiation of commodity money, credit money, and fiat money is accepted as correct in principle and only its utility disputed, the statement that the freely mintable currency of the present day and the metallic money of previous centuries are examples of commodity money is totally rejected by many authorities and by still more of the public at large. It is true that as a rule nobody denies that the older forms of money were commodity money. It is further generally admitted that in earlier times coins circulated by weight and not by tale. Nevertheless, it is asserted, money changed its nature long ago. The money of Germany and England in 1914, it is said, was not gold, but the mark and the pound. Money nowadays consists of “specified units with a definite significance in terms of value, that is assigned to them by law” (Knapp). “By ’the standard’ we mean the units of value (florins, francs, marks, etc.) that have been adopted as measures of value, and by ’money’ we mean the tokens (coins and notes) that represent the units that function as a measure of value. The controversy as to whether silver or gold or both together should function as a standard and as currency is an idle one, because neither silver nor gold ever has performed these functions or ever could have done so” (Hammer).29

  Before we proceed to test the truth of these remarkable assertions, let us make one brief observation on their genesis—although it would really be more correct to say renascence than to say genesis, since the doctrines involved exhibit a very close relationship with the oldest and most primitive theories of money. Just as these were, so the nominalistic monetary theories of the present day are, characterized by their inability to contribute a single word toward the solution of the chief problem of monetary theory—one might in fact simply call it the problem of monetary theory—namely that of explaining the exchange ratios between money and other economic goods. For their authors, the economic problem of value and prices simply does not exist. They have never thought it necessary to consider how market ratios are established or what they signify. Their attention is accidentally drawn to the fact that a German thaler (since 1873), or an Austrian silver florin (since 1879), is essentially different from a quantity of silver of the same weight and fineness that has not been stamped at the government mint. They notice a similar state of affairs with regard to “paper money.” They do not understand this, and endeavor to find an answer to the riddle. But at this point, just because of their lack of acquaintance with the theory of value and prices, their inquiry takes a peculiarly unlucky turn. They do not inquire how the exchange ratios between money and other economic goods are established. This obviously seems to them quite a self-evident matter. They formulate their problem in another way: How does it come about that three twenty-mark pieces are equivalent to twenty thalers despite the fact that the silver contained in the thalers has a lower market value than the gold contained in the marks? And their answer runs: Because the value of money is determined by the state, by statute, by the legal system. Thus, ignoring the most important facts of monetary history, they weave an artificial network of fallacies; a theoretical construction that collapses immediately the question is put: What exactly are we to understand by a unit of value? But such impertinent questions can only occur to those who are acquainted with at least the elements of the theory of prices. Others are able to content themselves with references to the “nominality” of the unit of value. No wonder, then, that these theories should have achieved such popularity with the man in the street, especially since their kinship with inflationism was bound to commend them strongly to all “cheap-money” enthusiasts.

  It may be stated as an assured result of investigation into monetary history that at all times and among all peoples the principal coins have been tendered and accepted, not by tale without consideration of their quantity and quality, but only as pieces of metal of specific degrees of weight and fineness. Where coins have been accepted by tale, this has always been in the definite belief that the stamp showed them to be of the usual fineness of their kind and of the correct weight. Where there were no grounds for this assumption, weighing and testing were resorted to again.

  Fiscal considerations have led to the promulgation of a theory that attributes to the minting authority the right to regulate the purchasing power of the coinage as it thinks fit. For just as long as the minting of coins has been a government function, governments have tried to fix the weight and content of the coins as they wished. Philip VI of France expressly claimed the right “to mint such money and give it such currency and at such rate as we desire and seems good to us”30 and all medieval rulers thought and did as he in this matter. Obliging jurists supported them by attempts to discover a philosophical basis for the divine right of kings to debase the coinage and to prove that the true value of the coins was that assigned to them by the ruler of the country.

  Nevertheless, in defiance of all official regulations and prohibitions and fixing of prices and threats of punishment, commercial practice has always insisted that what has to be considered in valuing coins is not their face value but their value as metal. The value of a coin has always been determined, not by the image and superscription it bears nor by the proclamation of the mint and market authorities, but by its metal content. Not every kind of money has been accepted at sight, but only those kinds with a good reputation for weight and fineness. In loan contracts, repayment in specific kinds of money has been stipulated for, and in the case of a change in the coinage, fulfillment in terms of metal required.31 In spite of all fiscal influences, the opinion gradually gained general acceptance, even among the jurists, that it was the metal value—the bonitas intrinseca as they called it—that was to be considered when repaying money debts.32

  Debasement of the coinage was unable to force commercial practice to attribute to the new and lighter coins the same purchasing power as the old and heavier coins.33 The value of the coinage fell in proportion to the diminution of its weight and quality. Even price regulations took into account the diminished purchasing power of money due to its debasement. Thus the Schöffen or assessors of Schweidnitz in Silesia used to have the newly minted pfennigs submitted to them, assess their value, and then in consultation with the city council and elders fix the prices of commodities accordingly. There has been handed down to us from thirteenth-century Vienna a forma institutionis que fit per civium arbitrium annuatim tempore quo denarii renovantur pro rerum venalium qualibet emptione in which the prices of commodities and services are regulated in connection with the introduction of a new coinage in the years 1460 to 1474. Similar measures were taken on similar occasions in other cities.34

  Wherever disorganization of the coinage had advanced so far that the presence of a stamp on a piece of metal was no longer any help in determining its actual content, commerce ceased entirely to rely on the official monetary system and created its own system of measuring the precious metals. In large transactions, ingots and trade tokens were used. Thus, the German merchants visiting the fair at Geneva took ingots of refined gold with them and made their purchases with these, employing the weights used at the Paris market, instead of using money. This was the origin of the Markenskudo or scutus marcharum, which was nothing but the merchants’ usual term for 3.765 grams of refined gold. At the beginning of the fifteenth century, when the Geneva trade was gradually being transferred to Lyons, the gold mark had become such a customary unit of account among the merchants that bills of exchange expressed in terms of it were carried to and from the market. The old Venetian lire di grossi had a similar origin.35 In the giro banks that sprang up in all big commercial centers at the beginning of the modern era we see a further attempt to free the monetary system from the authorities’ abuse of the privilege of minting. The clearinghouse business of these banks was based either on coins of a specific fineness or on ingots. This bank money was commodity money in its most perfect form.

  The nominalists assert that the monetary unit, in modern countries at any rate, is not a concrete commodity unit that can be defined in suitable technical terms, but a nominal quantity of value about which nothing can be said except that it is created by law. Without touching upon the vague and nebulous nature of this phraseology, which will not sustain a moment’s criticism from the point of view of the theory of value, let us simply ask: What, then, were the mark, the franc, and the pound before 1914? Obviously, they were nothing but certain weights of gold. Is it not mere quibbling to assert that Germany had not a gold standard but a mark standard? According to the letter of the law, Germany was on a gold standard, and the mark was simply the unit of account, the designation of 1/2790 kg. of refined gold. This is in no way affected by the fact that nobody was bound in private dealings to accept gold ingots or foreign gold coins, for the whole aim and intent of state intervention in the monetary sphere is simply to release individuals from the necessity of testing the weight and fineness of the gold they receive, a task which can only be undertaken by experts and which involves very elaborate precautionary measures. The narrowness of the limits within which the weight and fineness of the coins are legally allowed to vary at the time of minting, and the establishment of a further limit to the permissible loss by wear of those in circulation, are much better means of securing the integrity of the coinage than the use of scales and nitric acid on the part of all who have commercial dealings. Again, the right of free coinage, one of the basic principles of modern monetary law, is a protection in the opposite direction against the emergence of a difference in value between the coined and uncoined metal. In large-scale international trade, where differences that are negligible as far as single coins are concerned have a cumulative importance, coins are valued, not according to their number, but according to their weight; that is, they are treated not as coins but as pieces of metal. It is easy to see why this does not occur in domestic trade. Large payments within a country never involve the actual transfer of the amounts of money concerned, but merely the assignment of claims, which ultimately refer to the stock of precious metal of the central bank.

  The role played by ingots in the gold reserves of the banks is a proof that the monetary standard consists in the precious metal, and not in the proclamation of the authorities.

  Even for present-day coins, so far as they are not money substitutes, credit money, or fiat money, the statement is true that they are nothing but ingots whose weight and fineness are officially guaranteed.36 The money of those modern countries where metal coins with no mint restrictions are used is commodity money just as much as that of ancient and medieval nations.

  CHAPTER 4

  Money and the State

  1

  The Position of the State in the Market

  The position of the state in the market differs in no way from that of any other parties to commercial transactions. Like these others, the state exchanges commodities and money on terms which are governed by the laws of price. It exercises its sovereign rights over its subjects to levy compulsory contributions from them; but in all other respects it adapts itself like everybody else to the commercial organization of society. As a buyer or seller the state has to conform to the conditions of the market. If it wishes to alter any of the exchange ratios established in the market, it can only do this through the market’s own mechanism. As a rule it will be able to act more effectively than anyone else, thanks to the resources at its command outside the market. It is responsible for the most pronounced disturbances of the market because it is able to exercise the strongest influence on demand and supply. But it is nonetheless subject to the rules of the market and cannot set aside the laws of the pricing process. In an economic system based on private ownership of the means of production, no government regulation can alter the terms of exchange except by altering the factors that determine them.

  Kings and republics have repeatedly refused to recognize this. Diocletian’s edict de pretiis rerum venalium, the price regulations of the Middle Ages, and the maximum prices of the French Revolution are the most well-known examples of the failure of authoritative interference with the market. These attempts at intervention were not frustrated by the fact that they were valid only within the state boundaries and ignored elsewhere. It is a mistake to imagine that similar regulations would have led to the desired result even in an isolated state. It was the functional, not the geographical, limitations of the government that rendered them abortive. They could have achieved their aim only in a socialistic state with a centralized organization of production and distribution. In a state that leaves production and distribution to individual enterprise, such measures must necessarily fail of their effect.

  The concept of money as a creature of law and the state is clearly untenable. It is not justified by a single phenomenon of the market. To ascribe to the state the power of dictating the laws of exchange, is to ignore the fundamental principles of money-using society.

  2

  The Legal Concept of Money

  When both parties to an exchange fulfill their obligations immediately and surrender a commodity for ready cash, there is usually no motive for the judicial intervention of the state. But when the exchange is one of present goods against future goods it may happen that one party fails to fulfill his obligations although the other has carried out his share of the contract. Then the judiciary may be invoked. If the case is one of lending or purchase on credit, to name only the most important examples, the court has to decide how a debt contracted in terms of money can be liquidated. Its task thus becomes that of determining, in accordance with the intent of the contracting parties, what is to be understood by money in commercial transactions. From the legal point of view, money is not the common medium of exchange, but the common medium of payment or debt settlement. But money only becomes a medium of payment by virtue of being a medium of exchange. And it is only because it is a medium of exchange that the law also makes it the medium for fulfilling obligations not contracted in terms of money, but whose literal fulfillment is for some reason or other impossible.

  The fact that the law regards money only as a means of canceling outstanding obligations has important consequences for the legal definition of money. What the law understands by money is in fact not the common medium of exchange but the legal medium of payment. It does not come within the scope of the legislator or jurist to define the economic concept of money.

  In determining how monetary debts may be effectively paid off there is no reason for being too exclusive. It is customary in business to tender and accept in payment certain money substitutes instead of money itself. If the law refused to recognize the validity of money substitutes that are sanctioned by commercial usage, it would only open the door to all sorts of fraud and deceit. This would offend against the principle malitiis non est indulgendum. Besides this, the payment of small sums would, for technical reasons, hardly be possible without the use of token money. Even ascribing the power of debt settlement to banknotes does not injure creditors or other recipients in any way, so long as the notes are regarded by the businessman as equivalent to money.

  But the state may ascribe the power of debt settlement to other objects as well. The law may declare anything it likes to be a medium of payment, and this ruling will be binding on all courts and on all those who enforce the decisions of the courts. But bestowing the property of legal tender on a thing does not suffice to make it money in the economic sense. Goods can become common media of exchange only through the practice of those who take part in commercial transactions; and it is the valuations of these persons alone that determine the exchange ratios of the market. Quite possibly, commerce may take into use those things to which the state has ascribed the power of payment; but it need not do so. It may, if it likes, reject them.

  Three situations are possible when the state has declared an object to be a legal means of fulfilling an outstanding obligation. First, the legal means of payment may be identical with the medium of exchange that the contracting parties had in mind when entering into their agreement; or, if not identical, it may yet be of equal value with this medium at the time of payment. For example, the state may proclaim gold as a legal medium for settling obligations contracted in terms of gold, or, at a time when the relative values of gold and silver are as 1 to 15½, it may declare that liabilities in terms of gold may be settled by payment of 15½ times the quantity of silver. Such an arrangement is merely the legal formulation of the presumable intent of the agreement. It damages the interests of neither party. It is economically neutral.

  The case is otherwise when the state proclaims as medium of payment something that has a higher or lower value than the contractual medium. The first possibility may be disregarded; but the second, of which numerous historical examples could be cited, is important. From the legal point of view, in which the fundamental principle is the protection of vested rights, such a procedure on the part of the state can never be justified, although it might sometimes be vindicated on social or fiscal grounds. But it always means, not the fulfillment of obligations, but their complete or partial cancellation. When notes that are appraised commercially at only half their face value are proclaimed legal tender, this amounts fundamentally to the same thing as granting debtors legal relief from half of their liabilities.

  State declarations of legal tender affect only those monetary obligations that have already been contracted. But commerce is free to choose between retaining its old medium of exchange or creating a new one for itself, and when it adopts a new medium, so far as the legal power of the contracting parties reaches, it will attempt to make it into a standard of deferred payments also, in order to deprive of its validity, at least for the future, the standard to which the state has ascribed complete powers of debt settlement. When, during the last decade of the nineteenth century, the bimetallist party in Germany gained so much power that the possibility of experiment with its inflationist proposals had to be reckoned with, gold clauses began to make their appearance in long-term contracts. The recent period of currency depreciation has had a similar effect. If the state does not wish to render all credit transactions impossible, it must recognize such devices as these and instruct the courts to acknowledge them. And, similarly, when the state itself enters into ordinary business dealings, when it buys or sells, guarantees loans or borrows, makes payments or receives them, it must recognize the common business medium of exchange as money. The legal standard, the particular group of things that are endued with the property of unlimited legal tender, is in fact valid only for the settlement of existing debts, unless business usage itself adopts it as a general medium of exchange.

  3

  The Influence of the State on the Monetary System

  State activity in the monetary sphere was originally restricted to the manufacture of coins. To supply ingots of the greatest possible degree of similarity in appearance, weight, and fineness, and provide them with a stamp that was not too easy to imitate and that could be recognized by everybody as the sign of the state coinage, was and still is the premier task of state monetary activity. Beginning with this, the influence of the state in the monetary sphere has gradually extended.

  Progress in monetary technique has been slow. At first, the impression on a coin was merely a proof of the genuineness of its material, including its degree of fineness, while the weight had to be separately checked at each payment. (In the present state of knowledge this cannot be stated dogmatically; and in any case the development is not likely to have followed the same lines everywhere.) Later, different kinds of coins were distinguished, all the separate coins of any particular kind being regarded as interchangeable. The next step after the innovation of classified money. was the development of the parallel standard. This consisted in the juxtaposition of two monetary systems, one based on gold commodity money, and one on silver. The coins belonging to each separate system constituted a self-contained group. Their weights bore a definite relation to each other, and the state gave them a legal relation also, in the same proportion, by sanctioning the commercial practice which had gradually been established of regarding different coins of the same metal as interchangeable. This stage was reached without further state influence. All that the state had done till then in the monetary sphere was to provide the coins for commercial use. As controller of the mint, it supplied in handy form pieces of metal of specific weight and fineness, stamped in such a way that everybody could recognize without difficulty what their metallic content was and whence they originated. As legislator, the state attributed legal tender to these coins—the significance of this has just been expounded—and as judge it applied this legal provision. But the matter did not end at this stage. For about the last two hundred years the influence of the state on the monetary system has been greater than this. One thing, however, must be made clear; even now the state has not the power of directly making anything into money, that is to say into a common medium of exchange. Even nowadays, it is only the practice of the individuals who take part in business that can make a commodity into a medium of exchange. But the state’s influence on commercial usage, both potential and actual, has increased. It has increased, first, because the state’s own importance as an economic agent has increased; because it occupies a greater place as buyer and seller as payer of wages and levier of taxes, than in past centuries. In this there is nothing that is remarkable or that needs special emphasis. It is obvious that the influence of an economic agent on the choice of a monetary commodity will be the greater in proportion to its share in the dealings of the market; and there is no reason to suppose that there should be any difference in the case of the one particular economic agent, the state.

  But, besides this, the state exercises a special influence on the choice of the monetary commodity, which is due not to its commercial position nor to its authority as legislator and judge, but to its official standing as controller of the mint and to its power to change the character of the money substitutes in circulation.

  The influence of the state on the monetary system is usually that ascribed to its legislative and judicial authority. It is assumed that the law, which can authoritatively alter the tenor of existing debt relations and force new contracts of indebtedness in a particular direction, enables the state to exercise a deciding influence in the choice of the commercial medium of exchange.

  Nowadays the most extreme form of this argument is to be found in Knapp’s State Theory of Money;37 but very few German writers are completely free from it. Helfferich may be mentioned as an example. It is true that this writer declares, with regard to the origin of money, that it is perhaps doubtful whether it was not the function of common medium of exchange alone that sufficed to make a thing money and to make money the standard of deferred payments of every kind. Nevertheless, he constantly regards it as quite beyond any sort of doubt that for our present economic organization certain kinds of money in some countries, and the whole monetary system in other countries, are money, and function as a medium of exchange, only because compulsory payments and obligations contracted in terms of money must or may be fulfilled in terms of these particular objects.38

  It would be difficult to agree with views of this nature. They fail to recognize the meaning of state intervention in the monetary sphere. By declaring an object to be fitted in the juristic sense for the liquidation of liabilities expressed in terms of money, the state cannot influence the choice of a medium of exchange, which belongs to those engaged in business. History shows that those states that have wanted their subjects to accept a new monetary system have regularly chosen other means than this of achieving their ends.

  The establishment of a legal ratio for the discharge of obligations incurred under the regime of the superseded kind of money constitutes a merely secondary measure which is significant only in connection with the change of standard which is achieved by other means. The provision that taxes are in future to be paid in the new kind of money, and that other liabilities imposed in terms of money will be fulfilled only in the new money, is a consequence of the transition to the new standard. It proves effective only when the new kind of money has become a common medium of exchange in commerce generally. A monetary policy can never be carried out merely by legislative means, by an alteration in the legal definitions of the content of contracts of indebtedness and of the system of public expenditure; it must be based on the executive authority of the state as controller of the mint and as issuer of claims to money, payable on demand, that can take the place of money in commerce. The necessary measures must not merely be passively recorded in the protocols of legislative assemblies and official gazettes, but—often at great financial sacrifice—must be actually put into operation.

  A country that wishes to persuade its subjects to go over from one precious-metal standard to another cannot rest content with expressing this aspiration in appropriate provisions of the civil and fiscal law. It must make the new money take the commercial place of the old. Exactly the same is true of the transition from a credit-money or fiat-money standard to commodity money. No statesman faced with the task of such a change has ever had even a momentary doubt about the matter. It is not the enactment of a legal ratio and the order that taxes are to be paid in the new money that are the decisive steps, but the provision of the necessary quantity of the new money and the withdrawal of the old.

  This may be confirmed by a few historical examples. First, the impossibility of modifying the monetary system merely by the exercise of authority may be illustrated by the ill success of bimetallistic legislation. This was once thought to offer a simple solution of a big problem. For thousands of years, gold and silver had been employed side by side as commodity money; but the continuance of this practice had constantly grown more burdensome, for the parallel standard, or simultaneous employment as currency of two kinds of commodity, has many disadvantages. Since no spontaneous assistance was to be expected from the individuals engaged in business, the state decided to intervene in the hope of cutting the Gordian knot. Just as it had previously removed certain obvious difficulties by declaring that debts contracted in terms of thalers might be discharged by payment of twice as many half-thalers or four times as many quarter-thalers, so it now proceeded to establish a fixed ratio between the two different precious metals. Debts payable in silver, for instance, could be discharged by payment of 1 : 15½ times the same weight of gold. It was thought that this had solved the problem, while in fact the difficulties that it involved had not even been suspected; as events were to prove. All the results followed that are attributed by Gresham’s law to the legislative equating of coins of unequal value. In all debt settlements and similar payments, only that money was used which the law rated more highly than the market. When the law had happened to hit upon the existing market ratio as its par, then this effect was delayed a little until the next movement in the prices of the precious metals. But it was bound to occur as soon as a difference arose between the legislative and the market ratios of the two kinds of money. The parallel standard was thus turned, not into a double standard, as the legislators had intended, but into an alternative standard.

  The primary result of this was a decision, for a little while at least, between the two precious metals. Not that this was what the state had intended. On the contrary, the state had no thought whatever of deciding in favor of the use of one or the other metal; it had hoped to secure the circulation of both. But the official regulation, which in declaring the reciprocal substitutability of gold and silver money overestimated the market ratio of the one in terms of the other, merely succeeded in differentiating the utility of the two for monetary purposes. The consequence was the increased employment of one of the metals and the disappearance of the other. The legislative and judicial intervention of the state had completely failed. It had been demonstrated, in striking fashion, that the state alone could not make a commodity into a common medium of exchange, that is, into money, but that this could be done only by the common action of all the individuals engaged in business.

  But what the state fails to achieve through legislative means may be to a certain degree within its power as controller of the mint. It was in the latter capacity that the state intervened when the alternative standard was replaced by permanent monometallism. This happened in various ways. The transition was quite simple and easy when the action of the state consisted in preventing a return to the temporarily undervalued metal in one of the alternating monometallic periods by rescinding the fight of free coinage. The matter was even simpler in those countries where one or the other metal had gained the upper hand before the state had reached the stage necessary for the modern type of regulation, so that all that remained for the law to do was to sanction a situation that was already established.

  The problem was much more difficult when the state attempted to persuade businessmen to abandon the metal that was being used and adopt the other. In this case, the state had to manufacture the necessary quantity of the new metal, exchange it for the old currency, and either turn the metal thus withdrawn from circulation into token coinage or sell it for nonmonetary use or for recoinage abroad. The reform of the German monetary system after the foundation of the Reich in 1871 may be regarded as a perfect example of the transition from one metallic commodity standard to another. The difficulties that this involved, and that were overcome by the help of the French war indemnity, are well known. They were involved in the performance of two tasks—the provision of the gold and the disposal of the silver. This and nothing else was the essence of the problem that had to be solved when the decision was taken to change the standard. The Reich completed the transition to gold by giving gold and claims to gold in exchange for the silver money and claims to silver money held by its citizens. The corresponding alterations in the law were mere accompaniments of the change.39

  The change of standard occurred in just the same way in Austria-Hungary, Russia, and the other countries that reformed their monetary systems in the succeeding years. Here also the problem was merely that of providing the requisite quantities of gold and setting them in circulation among those engaged in business in place of the media previously employed. This process was extraordinarily facilitated and, what was even more to the point, the amount of gold necessary for the changeover was considerably decreased, by the device of permitting the coins constituting the old fiat money or credit money to remain wholly or partly in circulation, while fundamentally changing their economic character by transforming them into claims that were always convertible into the new kind of money. This gave a different outward appearance to the transaction, but it remained in essence the same. It is scarcely open to question that the steps taken by those countries that adopted this kind of monetary policy consisted essentially in the provision of quantities of metal.

  The exaggeration of the importance in monetary policy of the power at the disposal of the state in its legislative capacity can only be attributed to superficial observation of the processes involved in the transition from commodity money to credit money. This transition has normally been achieved by means of a state declaration that inconvertible claims to money were as good means of payment as money itself. As a rule, it has not been the object of such a declaration to carry out a change of standard and substitute credit money for commodity money. In the great majority of cases, the state has taken such measures merely with certain fiscal ends in view. It has aimed to increase its own resources by the creation of credit money. In the pursuit of such a plan as this, the diminution of the money’s purchasing power could hardly seem desirable. And yet it has always been this depreciation in value which, through the coming into play of Gresham’s law, has caused the change of monetary standard. It would be quite out of harmony with the facts to assert that cash payments had ever been stopped; that is, that the permanent convertibility of the notes had been suspended, with the intention of effecting a transition to a credit standard. This result has always come to pass against the will of the state, not in accordance with it.

  Business usage alone can transform a commodity into a common medium of exchange. It is not the state, but the common practice of all those who have dealings in the market, that creates money. It follows that state regulation attributing general power of debt liquidation to a commodity is unable of itself to make that commodity into money. If the state creates credit money—and this is naturally true in a still greater degree of fiat money—it can do so only by taking things that are already in circulation as money substitutes (that is, as perfectly secure and immediately convertible claims to money) and isolating them for purposes of valuation by depriving them of their essential characteristic of permanent convertibility. Commerce would always protect itself against any other method of introducing a government credit currency. The attempt to put credit money into circulation has never been successful, except when the coins or notes in question have already been in circulation as money substitutes.40

  This is the limit of the constantly overestimated influence of the state on the monetary system. What the state can do in certain circumstances, by means of its position as controller of the mint, by means of its power of altering the character of money substitutes and depriving them of their standing as claims to money that are payable on demand, and above all by means of those financial resources which permit it to bear the cost of a change of currency, is to persuade commerce to abandon one sort of money and adopt another. That is all.

  CHAPTER 5

  Money as an Economic Good

  1

  Money Neither a Production Good nor a Consumption Good

  It is usual to divide economic goods into the two classes of those which satisfy human needs directly and those which only satisfy them indirectly: that is, consumption goods, or goods of the first order; and production goods, or goods of higher orders.41 The attempt to include money in either of these groups meets with insuperable difficulties. It is unnecessary to demonstrate that money is not a consumption good. It seems equally incorrect to call it a production good.

  Of course, if we regard the twofold division of economic goods as exhaustive we shall have to rest content with putting money in one group or the other. This has been the position of most economists; and since it has seemed altogether impossible to call money a consumption good, there has been no alternative but to call it a production good.

  This apparently arbitrary procedure has usually been given only a very cursory vindication. Roscher, for example, thought it sufficient to mention that money is “the chief instrument of every transfer” (vornehmstes Werkzeug jeden Verkehrs).42

  In opposition to Roscher, Knies made room for money in the classification of goods by replacing the twofold division into production goods and consumption goods by a threefold division into means of production, objects of consumption, and media of exchange.43 His arguments on this point, which are unfortunately scanty, have hardly attracted any serious attention and have been often misunderstood. Thus Helfferich attempts to confute Knies’s proposition, that a sale-and-purchase transaction is not in itself an act of production but an act of (interpersonal) transfer, by asserting that the same sort of objection might be made to the inclusion of means of transport among instruments of production on the grounds that transport is not in itself an act of production but an act of (interlocal) transfer and that the nature of goods is no more altered by transport than by a change of ownership.44

  Obviously, it is the ambiguity of the German word Verkehr that has obscured the deeper issues here involved. On the one hand, Verkehr bears a meaning that may be roughly translated by the word commerce; that is, the exchange of goods and services on the part of individuals. But it also means the transfer through space of persons, goods, and information. These two groups of things denoted by the German word Verkehr have nothing in common but their name. It is therefore impossible to countenance the suggestion of a relationship between the two meanings of the word that is involved in the practice of speaking of “Verkehr in the broader sense,” by which is meant the transfer of goods from one person’s possession to that of another, and “Verkehr in the narrower sense,” by which is meant the transfer of goods from one point in space to another.45 Even popular usage recognizes two distinct meanings here, not a narrower and a broader version of the same meaning.

  The common nomenclature of the two meanings, as also their incidental confusion, may well be attributable to the fact that exchange transactions often, but by no means always, go hand in hand with acts of transport, through space and vice versa.46 But obviously this is no reason why science should impute an intrinsic similarity to these essentially different processes.

  It should never have been called in question that the transportation of persons, goods, and information is to be reckoned part of production, so far as it does not constitute an act of consumption, as do pleasure trips for example. All the same, two things have hindered recognition of this fact. The first is the widespread misconception of the nature of production. There is a naive view of production that regards it as the bringing into being of matter that did not previously exist, as creation in the true sense of the word. From this it is easy to derive a contrast between the creative work of production and the mere transportation of goods. This way of regarding the matter is entirely inadequate. In fact, the role played by man in production always consists solely in combining his personal forces with the forces of Nature in such a way that the cooperation leads to some particular desired arrangement of material. No human act of production amounts to more than altering the position of things in space and leaving the rest to Nature.47 This disposes of one of the objections to regarding transportation as a productive process.

  The second objection arises from insufficient insight into the nature of goods. It is often overlooked that, among other natural qualities, the position of a thing in space has important bearings on its capacity for satisfying human wants. Things that are of perfectly identical technological composition must yet be regarded as specimens of different kinds of goods if they are not in the same place and in the same state of readiness for consumption or further production. Till now the position of a good in space has been recognized only as a factor determining its economic or noneconomic nature. It is hardly possible to ignore the fact that drinking water in the desert and drinking water in a well-watered mountain district, despite their chemical and physical similarity and their equal thirst-quenching properties, have nevertheless a totally different significance for the satisfaction of human wants. The only water that can quench the thirst of the traveler in the desert is the water that is on the spot, ready for consumption.

  Within the group of economic goods itself, however, the factor of situation has been taken into consideration only for goods of certain kinds—those whose position has been fixed, whether by man or nature; and even among these, attention has seldom been given to any but the most outstanding example, land. As far as movable goods are concerned, the factor of situation has been treated as negligible.

  This attitude is in consonance with commercial technology. The microscope fails to reveal any difference between two lots of beet sugar, of which one is warehoused in Prague and the other in London. But for the purposes of economics it is better to regard the two lots of sugar as goods of different kinds. Strictly speaking, only those goods should be called goods of the first order which are already where they can immediately be consumed. All other economic goods, even if they are ready for consumption in the technological sense, must be regarded as goods of higher orders which can be transmuted into goods of the first order only by combination with the complementary good, “means of transport.” Regarded in this light, means of transport are obviously production goods. “Production,” says Wieser, “is the utilization of the more advantageous among remote conditions of welfare.”48 There is nothing to prevent us from interpreting the word remote in its literal sense for once, and not just figuratively.

  We have seen that transfer through space is one sort of production; and means of transport, therefore, so far as they are not consumption goods such as pleasure yachts and the like, must be included among production goods. Is this true of money as well? Are the economic services that money renders comparable with those rendered by means of transport? Not in the least. Production is quite possible without money. There is no need for money either in the isolated household or in the socialized community. Nowhere can we discover a good of the first order of which we could say that the use of money was a necessary condition of its production.

  It is true that the majority of economists reckon money among production goods. Nevertheless, arguments from authority are invalid; the proof of a theory is in its reasoning, not in its sponsorship; and with all due respect for the masters, it must be said that they have not justified their position very thoroughly in this matter. This is most remarkable in Böhm-Bawerk. As has been said, Knies recommends the substitution of a threefold classification of economic goods into objects of consumption, means of production, and media of exchange, for the customary twofold division into consumption goods and production goods. In general, Böhm-Bawerk treats Knies with the greatest respect and, whenever he feels obliged to differ from him, criticizes his arguments most carefully. But in the present case he simply disregards them. He unhesitatingly includes money in his concept of social capital, and incidentally specifies it as a product destined to assist further production. He refers briefly to the objection that money is an instrument, not of production, but of exchange; but instead of answering this objection, he embarks on an extended criticism of those doctrines that treat stocks of good in the hands of producers and middlemen as goods ready for consumption instead of as intermediate products.

  Böhm-Bawerk’s argument proves conclusively that production is not completed until the goods have been brought to the place where they are wanted, and that it is illegitimate to speak of goods being ready for consumption until the final process of transport is completed. But it contributes nothing to our present discussion; for the chain of reasoning gives way just at the critical link. After having proved that the horse and wagon with which the farmer brings home his corn and wood must be reckoned as means of production and as capital, Böhm-Bawerk adds that “logically all the objects and apparatus of ’bringing home’ in the broader economic sense, the things that have to be transported, the roads, railways, and ships, and the commercial tool money, must be included in the concept of capital.”49

  This is the same jump that Roscher makes. It leaves out of consideration the difference between transport, which consists in an alteration of the utility of things, and exchange, which constitutes a separate economic category altogether. It is illegitimate to compare the part played by money in production with that played by ships and railways. Money is obviously not a “commercial tool” in the same sense as account books, exchange lists, the stock exchange, or the credit system.

  Böhm-Bawerk’s argument in its turn has not remained uncontradicted. Jacoby objects that while it treats money and the stocks of commodities in the hands of producers and middlemen as social capital, it nevertheless maintains the view that social capital is a pure economic category and independent of all legal definitions, although money and the “commodity” aspect of consumption goods are peculiar to a “commercial” type of economic organization.50

  The invalidity of this criticism, so far as it is an objection to regarding commodities as production goods, is implied by what has been said above. There is no doubt that Böhm-Bawerk is in the right here, and not his critic. It is otherwise with the second point, the question of the inclusion of money. Admittedly, Jacoby’s own discussion of the capital concept is not beyond criticism, and Böhm-Bawerk’s refusal to accept it is probably justified.51 But that does not concern us at present. We are only concerned with the problem of the concept of goods. On this point as well Böhm-Bawerk disagrees with Jacoby. In the third edition of volume two of his masterpiece, Capital and Interest, he argues that even a complex socialistic organization could hardly do without undifferentiated orders or certificates of some sort, “like money,” which refer to the product awaiting distribution.52 This particular argument of his was not directly aimed at our present problem. Nevertheless, it is desirable to inquire whether the opinion expressed in it does not contain something that may be useful for our purpose as well.

  Every sort of economic organization needs not only a mechanism for production but also a mechanism for distributing what is produced. It will scarcely be questioned that the distribution of goods among individual consumers constitutes a part of production, and that in consequence we should include among the means of production not only the physical instruments of commerce such as stock exchanges, account books, documents, and the like, but also everything that serves to maintain the legal system which is the foundation of commerce, as, for example, fences, railings, walls, locks, safes, the paraphernalia of the law courts, and the equipment of the organs of government entrusted with the protection of property. In a socialist state, this category might include among other things Böhm-Bawerk’s “undifferentiated certificates” (to which, however, we cannot allow the description “like money”; for since money is not a certificate, it will not do to say of a certificate that it is like money. Money is always an economic good, and to say of a claim, which is what a certificate is, that it is like money, is only to drop back into the old practice of regarding rights and business connections as goods. Here we can invoke Böhm-Bawerk’s own authority against himself).53

  What prevents us nevertheless from reckoning money among these “distribution goods” and so among production goods (and incidentally the same objection applies to its inclusion among consumption goods) is the following consideration. The loss of a consumption good or production good results in a loss of human satisfaction; it makes mankind poorer The gain of such a good results in an improvement of the human economic position; it makes mankind richer The same cannot be said of the loss or gain of money. Both changes in the available quantity of production goods or consumption goods and changes in the available quantity of money involve changes in values; but whereas the changes in the value of the production goods and consumption goods do not mitigate the loss or reduce the gain of satisfaction resulting from the changes in their quantity, the changes in the value of money are accommodated in such a way to the demand for it that, despite increases or decreases in its quantity, the economic position of mankind remains the same. An increase in the quantity of money can no more increase the welfare of the members of a community, than a diminution of it can decrease their welfare. Regarded from this point of view, those goods that are employed as money are indeed what Adam Smith called them, “dead stock, which ... produces nothing.”54

  We have shown that, under certain conditions, indirect exchange is a necessary phenomenon of the market. The circumstance that goods are desired and acquired in exchange not for their own sakes but only in order to be disposed of in further exchange can never disappear from our type of market dealing, because the conditions that make it inevitable are present in the overwhelming majority of all exchange transactions. Now the economic development of indirect exchange leads to the employment of a common medium of exchange, to the establishment and elaboration of the institution of money. Money, in fact, is indispensable in our economic order But as an economic good it is not a physical component of the social distributive apparatus in the way that account books, prisons, or firearms are. No part of the total result of production is dependent on the collaboration of money, even though the use of money may be one of the fundamental principles on which the economic order is based.

  Production goods derive their value from that of their products. Not so money; for no increase in the welfare of the members of a society can result from the availability of an additional quantity of money. The laws which govern the value of money are different from those which govern the value of production goods and from those which govern the value of consumption goods. All that these have in common is their general underlying principle, the fundamental economic law of value. This is a complete justification of the suggestion put forward by Knies that economic goods should be divided into means of production, objects of consumption, and media of exchange; for, after all, the primary object of economic terminology is to facilitate investigation into the theory of value.

  2

  Money as Part of Private Capital

  We have not undertaken this investigation into the relationship between money and production goods merely for its terminological interest. What is of importance for its own sake is not our ultimate conclusion, but the incidental light shed by our argument upon those peculiarities of money that distinguish it from other economic goods. These special characteristics of the common medium of exchange will receive closer attention when we turn to consider the laws that regulate the value of money and its variations.

  But the result of our reasoning, too, the conclusion that money is not a production good, is not entirely without significance. It will help us to answer the question whether money is capital or not. This question in its turn is not an end in itself, but it provides a check upon the answer to a further problem concerning the relations between the equilibrium rate of interest and the money rate of interest, which will be dealt with in the third part of this book. If each conclusion confirms the other, then we may assume with a considerable degree of assurance that our arguments have not led us into error.

  The first grave difficulty in the way of any investigation into the relation between money and capital arises from the difference of opinion that exists about the definition of the concept of capital. The views of scholars on the definition of capital are more divergent than their views on any other point of economics. None of the many definitions that have been suggested has secured general recognition; nowadays, in fact, the controversy about the theory of capital rages more fiercely than ever. If from among the large number of conflicting concepts we select that of Böhm-Bawerk to guide us in our investigation into the relation of money to capital, we could justify our procedure merely by reference to the fact that Böhm-Bawerk is the best guide for any serious attempt to study the problem of interest, even if such a study leads eventually (and by no means entirely without indebtedness to the labor that Böhm-Bawerk bestowed on this problem) to conclusions that differ widely from those which he himself arrived at. Furthermore, all those weighty argu ments with which Böhm-Bawerk established his concept and defended it against his critics support such a choice. But quite apart from these, a reason that appears to be quite decisive is provided by the fact that no other concept of capital has been developed with equal clarity.55 This last point is particularly important. It is not the object of the present discussion to arrive at any kind of conclusion respecting terminology or to provide any criticism of concepts, but merely to shed some light on one or two points that are of importance for the problem of the relations between the equilibrium and the money rates of interest. Hence it is less important for us to classify things correctly than to avoid vague ideas about their nature. Various opinions may be held as to whether money should be included in the concept of capital or not. The delimitation of concepts of this nature is merely a question of expediency, in connection with which it is quite easy for differences of opinion to arise. But the economic function of money is a matter about which it should be possible to arrive at perfect agreement.

  Of the two concepts of capital that Böhm-Bawerk distinguishes, following the traditional economic terminology, that of what is called private or acquisitive capital is both the older and the wider. This was the original root idea from which the narrower concept of social or productive capital was afterward separated. It is therefore logical to begin our investigation by inquiring into the connection between private capital and money.

  Böhm-Bawerk defines private capital as the aggregate of the products that serve as a means to the acquisition of goods.56 It has never been questioned that money must be included in this category. In fact, the development of the scientific concept of capital starts from the notion of an interest-bearing sum of money. This concept of capital has been broadened little by little until at last it has taken the form which it bears in modern scientific discussion, on the whole in approximate coincidence with popular usage.

  The gradual evolution of the concept of capital has meant at the same time an increasing understanding of the function of money as capital. Early in history the lay mind discovered an explanation of the fact that money on loan bears interest—that money, in fact, “works.” But such an explanation as this could not long satisfy scientific requirements. Science therefore countered it with the fact that money itself is barren. Even in ancient times general recognition must have been accorded to the view which later in the shape of the maxim pecunia pecuniam parere non potest was to be the basis of all discussion of the problem of interest for hundreds and even thousands of years, and Aristotle undoubtedly did not state it in the famous passage in his Politics as a new doctrine but as a generally accepted commonplace.57 Despite its obviousness, this perception of the physical unfruitfulness of money was a necessary step on the way to full realization of the problem of capital and interest. If sums of money on loan do bear “fruit,” and it is not possible to explain this phenomenon by the physical productivity of the money, then other explanations must be sought.

  The next step toward an explanation was provided by the observation that after a loan is made the borrower as a rule exchanges the money for other economic goods, and that those owners of money who wish to obtain a profit from their money without lending it do the same. This was the starting point for the extension of the concept of capital referred to above, and for the development of the problem of the money rate of interest into the problem of the “natural” rate of interest.

  It is true that centuries passed before these further steps were accomplished. At first there was a complete halt in the development of the theory of capital. Further progress was in fact not desired; what was already attained sufficed perfectly; for the aim of science then was not to explain reality but to vindicate ideals. And public opinion disapproved of the taking of interest. Even later, when the taking of interest was recognized in Greek and Roman law, it was still not considered respectable, and all the writers of classical times strove to outdo one another in condemning it. When the church adopted this proscription of interest, and attempted to support its attitude by quotations from the Bible, it cut the ground away from beneath all unauthorized attempts to deal with the matter. Every theorist who turned his attention to the problem was already convinced that the taking of interest was harmful, unnatural, and uncharitable, and found his principal task in the search for new objections to it. It was not for him to explain how interest came to exist, but to sustain the thesis that it was reprehensible. In such circumstances it was easy for the doctrine of the sterility of money to be taken over uncritically by one writer from another as an extraordinarily powerful argument against the payment of interest, and thus, not for the sake of its content but for the sake of the conclusion it supported, to become an obstacle in the way of the development of interest theory. It became a help and no longer a hindrance to this development, when a move was made toward the construction of a new theory of capital after the downfall of the old canonist theory of interest. Its first effect, then, was to necessitate an extension of the concept of capital, and consequently of the problem of interest. In popular usage and in the terminology of scholars, capital was no longer “sums of money on loan” but “accumulated stocks of goods.”58

  The doctrine of the unfruitfulness of money has another significance for our problem. It sheds light on the position of money within the class of things constituting private capital. Why do we include money in capital? Why is interest paid for sums of money on loan? How is it possible to use sums of money, even without lending them, so that they yield an income? There can be no doubt about the answers to these questions. Money is an acquisitive instrument only when it is exchanged for some other economic good. In this respect money may be compared with those consumption goods that form part of private capital only because they are not consumed by their owners themselves but are used for the acquisition of other goods or services by means of exchange. Money is no more acquisitive capital than these consumption goods are; the real acquisitive capital consists in the goods for which the money or the consumption goods are exchanged. Money that is lying “idle,” that is, money that is not exchanged for other goods, is not a part of capital; it produces no fruit. Money is part of the private capital of an individual only if and so far as it constitutes a means by which the individual in question can obtain other capital goods.

  3

  Money Not a Part of Social Capital

  By social or productive capital Böhm-Bawerk means the aggregate of the products intended for employment in further production.59 If we accept the views expounded above, according to which money cannot be included among productive goods, then neither can it be included in social capital. It is true that Böhm-Bawerk includes it in social capital, as the majority of the economists that preceded him had done. This attitude follows logically from regarding money as a productive good; this is its only justification, and in endeavoring to show that money is not a productive good we have implied how baseless a justification it is.

  In any case, perhaps we may suggest that those writers who include money among productive goods and consequently among capital goods are not very consistent. They usually reckon money as a part of social capital in that division of their systems where they deal with the concepts of money and capital, but certain obvious further conclusions are not drawn from this. On the contrary, where the doctrine of the nature of money as capital should logically be applied it appears to have been suddenly forgotten. In reviewing the determinants of the rate of interest, writers emphasize over and over again that it is not the greater or smaller quantity of money that is of importance, but the greater or smaller quantity of other economic goods. To reconcile this assertion, which is indubitably a correct summary of the matter, with the other assertion that money is a productive good, is simply impossible.

  CHAPTER 6

  The Enemies of Money

  1

  Money in the Socialist Community

  It has been shown that under certain conditions, which occur the more frequently as division of labor and the differentiation of wants are extended, indirect exchange becomes inevitable; and that the evolution of indirect exchange gradually leads to the employment of a few particular commodities, or even one commodity only, as a common medium of exchange. When there is no exchange of any sort, and hence no indirect exchange, the use of media of exchange naturally remains unknown. This was the situation when the isolated household was the typical economic unit, and this, according to socialist aspirations, is what it will be again one day in that purely socialistic order where production and distribution are to be systematically regulated by a central body. This vision of the future socialistic system has not been described in detail by its prophets; and, in fact, it is not the same vision which they all see. There are some among them who allow a certain scope for exchange of economic goods and services, and so far as this is the case the continued use of money remains possible.

  On the other hand, the certificates or orders that the organized society would distribute to its members cannot be regarded as money. Supposing that a receipt was given, say, to each laborer for each hour’s labor, and that the social income, so far as it was not employed for the satisfaction of collective needs or the support of those not able to work, was distributed in proportion to the number of receipts in the possession of each individual, so that each receipt represented a claim to an aliquot part of the total amount of goods to be distributed. Then the significance of any particular receipt as a means of satisfying the wants of an individual, in other words its value, would vary in proportion to the size of the total dividend. If, with the same number of hours of labor, the income of the society in a given year was only half as big as in the previous year, then the value of each receipt would likewise be halved.

  The case of money is different. A decrease of fifty percent in the real social income would certainly involve a reduction in the purchasing power of money. But this reduction in the value of money need not bear any direct relation to the decrease in the size of the income. It might accidentally happen that the purchasing power of money was exactly halved also; but it need not happen so. This difference is of fundamental importance.

  In fact, the exchange value of money is determined in a totally different way from that of a certificate or warrant. Titles like these are not susceptible of an independent process of valuation at all. If it is certain that a warrant or order will always be honored on demand, then its value will be equal to that of the goods to which it refers. If this certainty is not absolute, the value of the warrant will be correspondingly less.

  If we suppose that a system of exchange might be developed even in a socialist society—not merely the exchange of labor certificates but, say, the exchange of consumption goods between individuals—then we may conceive of a place for the function of money even within the framework of such a society. This money would not be so frequently and variously employed as in an economic order based on private ownership of the means of production, but its use would be governed by the same fundamental principles.

  These considerations dictate the attitude toward money that must be assumed by any attempt to construct an imaginary social order, if self-contradiction is to be avoided. So long as such a scheme completely excludes the free exchange of goods and services, then it follows logically that it has no need for money; but so far as any sort of exchange at all is allowed, it seems that indirect exchange achieved by means of a common medium of exchange must be permitted also.

  2

  Money Cranks

  Superficial critics of the capitalistic economic system are in the habit of directing their attacks principally against money. They are willing to permit the continuance of private ownership of the means of production and consequently, given the present stage of division of labor, of free exchange of goods also; and yet they want this exchange to be achieved without any medium, or at least without a common medium, or money. They obviously regard the use of money as harmful and hope to overcome all social evils by eliminating it. Their doctrine is derived from notions that have always been extraordinarily popular in lay circles during periods in which the use of money has been increasing.

  All the processes of our economic life appear in a monetary guise; and those who do not see beneath the surface of things are only aware of monetary phenomena and remain unconscious of deeper relationships. Money is regarded as the cause of theft and murder, of deception and betrayal. Money is blamed when the prostitute sells her body and when the bribed judge perverts the law. It is money against which the moralist declaims when he wishes to oppose excessive materialism. Significantly enough avarice is called the love of money; and all evil is attributed to it.60

  The confused and vague nature of such notions as these is obvious. It is not so clear whether it is thought that a return to direct exchange by itself will be able to overcome all the disadvantages of the use of money, or whether it is thought that other reforms will be necessary as well. The world makers and world improvers responsible for these notions feel no obligation to follow up their ideas inexorably to their final consequences. They prefer to call a halt at the point where the difficulties of the problem are just beginning. And this, incidentally, accounts for the longevity of their doctrines; so long as they remain nebulous, they offer nothing for criticism to seize upon.

  Even less worthy of serious attention are those schemes of social reform which, while not condemning the use of money in general, object to the use of gold and silver In fact, such hostility to the precious metals has something very childish in it. When Thomas More, for example, endows the criminals in his utopia with golden chains and the ordinary citizens with gold and silver chamber pots,61 it is in something of the spirit that leads primitive mankind to wreak vengeance on lifeless images and symbols.

  It is hardly worthwhile to devote even a moment to such fantastic suggestions, which have never been taken seriously. All the criticism of them that was necessary has been completed long ago.62 But one point, which usually escapes notice, must be emphasized.

  Among the many confused enemies of money there is one group that fights with other theoretical weapons than those used by its usual associates. These enemies of money take their arguments from the prevailing theory of banking and propose to cure all human ills by means of an “elastic credit system, automatically adapted to the need for currency.” It will surprise no one acquainted with the unsatisfactory state of banking theory to find that scientific criticism has not dealt with such proposals as it should have done, and that it has in fact been incapable of doing so. The rejection of schemes such as Ernest Solvay’s “social comptabilism”63 is to be attributed solely to the practical man’s timidity and not to any strict proof of the weaknesses of the schemes, which has indeed not been forthcoming. All the banking theorists whose views are derived from the system of Tooke and Fullarton (and this includes nearly all present-day writers) are helpless with regard to Solvay’s theory and others of the same kind. They would like to condemn them, since their own feelings as well as the trustworthy judgments of practical men warn them against the airy speculations of reformers of this type; but they have no arguments against a system which, in the last analysis, involves nothing but the consistent application of their own theories.

  The third part of this book is devoted exclusively to problems of the banking system. There the theory of the elasticity of credit is subjected to a detailed investigation, the results of which perhaps render any further discussion of this kind of doctrine unnecessary.

  [1. ]See Wicksell, Über Wert, Kapital und Rente (Jena, 1893; London, 1933), pp. 50 f.

  [2. ]The conclusion that indirect exchange is necessary in the majority of cases is extremely obvious. As we should expect, it is among the earliest discoveries of economics. We find it clearly expressed in the famous fragment of the Pandects of Paulus: “Quia non semper nec facile concurrebat, ut, cum tu haberas, quod ego desiderarem, invicem haberem, quod tu accipere velles” (Paulus, lib. 33 ad edictum 1.I pr. D. de contr. empt. 18, I).
  
  Schumpeter is surely mistaken in thinking that the necessity for money can be proved solely from the assumption of indirect exchange (see his Wesen und Hauptinhalt der theoretischen Nationalökonomie [Leipzig, 1908], pp. 273 ff.). On this point, cf. Weiss, Die moderne Tendenz in der Lehre vom Geldwert, Zeitschrift für Volkswirtschaft, Sozialpolitik und Verwaltung, vol. 19, pp. 518 ff.

  [3. ]See Menger, Untersuchungen über die Methode der Sozialwissenschaften und der politischen Okonomie insbesondere (Leipzig, 1883), pp. 172 ff.; Grundsätze der Volkswirtschaftslehre, 2d ed. (Vienna, 1923), pp. 247 ff.

  [4. ]See Menger, Grundsätze, pp. 278 ff.

  [5. ]See Nicholson, A Treatise on Money and Essays on Present Monetary Problems (Edinburgh, 1888), pp. 22 ff.; Laughlin, The Principles of Money (London, 1903), pp. 22 f.

  [6. ]Cf. Menger, Grundsätze, pp. 284 ff.

  [7. ]That is, apart from the exceptional propensity to hoard gold, silver, and foreign bills, encouraged by inflation and the laws enacted to further it.

  [8. ]Knies in particular (Geld und Kredit, 2d ed. [Berlin, 1885], vol. 1, pp. 233 ff.) has laid stress upon the function of money as interlocal transmitter of value.

  [9. ]Cf. Menger, Grundsätze, pp. 282 f.

  [10. ]See Simmel, Philosophie des Geldes, 2d ed. (Leipzig, 1907), p. 35; Schumpeter, Wesen und Hauptinhalt der theoretischen Nationalökonomie (Leipzig, 1908), p. 50.

  [11. ]Cf. Böhm-Bawerk, “Grundzüge der Theorie des wirtschaftlichen Güterwertes,” Jahrbücher für Nationalökonomie und Statistik (1886), New Series, vol. 13, p. 48.

  [12. ]See Cuhel, Zur Lehre von den Bedürfnissen (Innsbruck, 1906), pp. 186 ff.; Weiss, Die moderne Tendenz in der Lehre vom Geldwert, Zeitschrift für Volkswirtschaft, Sozialpolitik und Verwaltung, vol. 19, pp. 532 ff. In the last edition of his masterpiece Capital and Interest, revised by himself, Böhm-Bawerk endeavored to refute Cuhel’s criticism, but did not succeed in putting forward any new considerations that could help toward a solution of the problem (see Kapital und Kapitalzins, 3d ed. [Innsbruck, 1909-12], pp. 331 ff. Exkurse, pp. 280 ff.).

  [13. ]See Fisher,Mathematical Investigations in the Theory of Value and Prices, Transactions of the Connecticut Academy (New Haven, 1892), vol. 9, pp. 14 ff.

  [14. ]See also Weiss, op. cit., p. 538.

  [15. ]Cf. Schumpeter,op. cit., p. 290.

  [16. ]Cf. further Weiss,op. cit., pp. 534 ff.

  [17. ]See also Clark, Essentials of Economic Theory (New York, 1907), p. 41. In the first German edition of the present work, the above argument contained two further sentences that summarized in an inadequate fashion the results of investigation into the problem of total value. In deference to certain criticisms of C. A. Verrijn Stuart (Die Grundlagen der Volkswirtschaft [Jena, 1923], p. 115), they were omitted from the second edition.

  [18. ]On the indispensability of money for economic calculation, see my book Die Gemeinwirtschaft: Untersuchungen über den Sozialismus(Jena, 1922), pp. 100 ff.

  [19. ][This chapter deals with technical matters which may present difficulty to readers unacquainted with general economic theory. It may be omitted on a first reading, but it is essential to complete understanding of certain issues, such as the index-number problem, which are dealt with later.—Editor.]

  [20. ]See Böhm-Bawerk, Rechte und Verhältnisse (Innsbruck, 1881), pp. 120 ff.

  [21. ]Wagner, Beiträge zur Lehre von den Banken (Leipzig, 1857), pp. 34 ff.

  [22. ]For instance, Helfferich, Das Geld, 6th ed. (Leipzig, 1923), pp. 267 ff.; English trans., Money (London, 1927), pp. 284 ff.

  [23. ]See Laughlin, The Principles of Money (London, 1903), pp. 516 ff.

  [24. ]See Kalkmann, Englands Übergang zur Goldwährung im 18. Jahrhundert (Strassburg, 1895), pp. 64 ff.; Schmoller, “Über die Ausbildung einer richtigen Scheidemünzpolitik vom 14. bis zum 19. Jahrhundert,” Jahrbuch für Gesetzgebung, Verwaltung und Volkswirtschaft im Deutschen Reich 24 (1900): 1247-74; Helfferich, Studien über Geld und Bankwessen (Berlin, 1900), pp. 1-37.

  [25. ]On the concepts of commodity money, credit money, and fiat money, see sec. 3 of this chap.

  [26. ]On the nature of token coinage, see Say, Cours complet d’économie politique pratique, 3d ed. (Paris, 1852), vol, 1, p. 408; and Wagner, Theoretische Sozialökonomik (Leipzig, 1909), Part II pp. 504 ff. Very instructive discussions are to be found in the memoranda and debates that preceded the Belgian Token Coinage Act of 1860. In the memorandum of Pirmez, the nature of modern convertible token coins is characterized as follows: “With this property (of convertibility) the coins are no longer merely coins; they become claims, promises to pay. The holder no longer has a mere property right to the coin itself [jus in re]; he has a claim against the state to the amount of the nominal value of the coin [jus ad rem], a right which he can exercise at any moment by demanding its conversion. Token coins cease to be money and become a credit instrument [une institution de crédit], banknotes inscribed on pieces of metal ...” (see Loi décrétant la fabrication d’une monnaie d’appoint ... précédée des notes sur la monnaie de billon en Belgique ainsi que la discussion de la loi à la Chambre des Représentants [Brussels, 1860], p. 50).

  [27. ]The silver gulden in Austria-Hungary held the same position as the silver thaler in Germany from 1873 to 1907. It was legal tender, but economically a claim to money, since the bank-of-issue in fact always cashed it on demand.

  [28. ]See my articles “Das Problem gesetzlicher Aufnahme der Barzahlungen in Österreich-Ungarn,” Jahrbuch für Gesetzgebung, Verwaltung und Volkswirtschaft im Deutschen Reich 33 (1909): 985-1037; “Zum Problem gesetzlicher Aufnahme der Barzahlungen in Österreich-Ungarn,” ibid. 34 (1910): 1877-84; “The Foreign Exchange Policy of the Austro-Hungarian Bank,” Economic Journal 19 (1909): 202-11; “Das vierte Privilegium der Österreichisch-Ungarischen Bank,” Zeitschrift für Volkswirtschaft, Sozialpolitik und Verwaltung 21 (1922): 611-24.

  [29. ]See esp. Hammer, Die Hauptprinzipien des Geld-und Währungswesens und die Lösung der Valutafrage (Vienna, 1891), pp. 7 ff.; Gesell, Die Anpassung des Geldes und seiner Verwaltung an die Bedürfnisse des modernen Verkehres (Buenos Aires, 1897), pp. 21 ff.; Knapp, Staatliche Theorie des Geldes, 3d ed. (Munich, 1921), pp. 20 ff.

  [30. ]See Luschin, Allgemeine Münzkunde und Geldgeschichte des Mittelalters und der neureren Zeit (Munich, 1904), P. 215; Babelon, La théorie féodale de la monnaie (Extrait des mémoires de l’Académie des Inscriptions et Belles-Lettres, vol. 38, Part I [Paris, 1908], p. 35).

  [31. ]For important references, see Babelon, op. cit., p. 35.

  [32. ]See Seidler, “Die Schwankungen des Geldwertes und die juristische Lehre von dem Inhalt der Geldschulden,” Jahrbücher für Nationalökonomie und Statistik (1894), 3d. Series, vol. 7, p. 688.

  [33. ]For earlier conditions in Russia, see Gelesnoff, Grundzüge der Volkswirtschaftslehre, trans. into German by Altschul (Leipzig, 1918), p. 357.

  [34. ]See Luschin, op. cit., pp. 221 f.

  [35. ]Ibid., p. 155; Endemann, Studien in der romanisch-kanonistischen Wirtschafts-und Rechtslehre bis gegen Ende des 17. Jahrhunderts (Berlin, 1874), vol. 1, pp. 180 ff.

  [36. ]Chevalier, Cours d’économie politique, III., La monnaie (Paris, 1850), pp. 21 ff; Goldschmidt, Handbuch des Handelsrechts (Erlangen, 1868), vol. 1, Part II, pp. 1073 ff.

  [37. ]Knapp, Staatliche Theorie des Geldes (3d. ed., 1921); trans. into English by H. M. Lucas and J. Bonar as The State Théory of Money (London, 1924).

  [38. ]See Helfferich, Das Geld, 6th ed. (Leipzig, 1923), p. 294; English trans., Money (London, 1927), p. 312.

  [39. ]See Helfferich, Die Reform des deutschen Geldwesens nach der Gründung des Reiches (Leipzig, 1898), vol. 1, pp. 307 ff; Lotz, Geschichte und Kritik des deutschen Bankgesetzes vom 14. März 1875 (Leipzig, 1888), pp. 137 ff.

  [40. ]See Subercaseaux, Essai sur la nature du papier monnaie (Paris, 1909), pp. 5 ff.

  [41. ]See Menger, Grundsätze der Volkswirtschaftslehre, 2d ed. (Vienna, 1923), pp. 20 ff.; Wieser, Über den Ursprung und die Hauptgesetze des wirtschaftlichen Wertes (Vienna, 1884), pp. 42 ff.

  [42. ]Roscher, System der Volkswirtschaft, ed. Pöhlmann, 24th ed. (Stuttgart, 1906), vol. 1, p. 123.

  [43. ]See Knies, Geld und Kredit, 2d ed. (Berlin, 1885), vol. 1, pp. 20 ff.

  [44. ]See Helfferich, Das Geld, 6th ed. (Leipzig, 1923), pp. 264 f.; Money (London, 1924),

  [45. ]E.g. Philippovich, Grundriss der politischen Ökonomie 1st-3d eds. (Tübingen, 1907), vol. 2; Wagner, Theoretische Sozialökonomik (Leipzig, 1909), vol. 2, Part 2 p. 1.

  [46. ]The older meaning, at least the only earlier meaning in literature, appears to have been that relating to the sale of goods. It is remarkable that even Grimm’s Dictionary, vol. 12, published in 1891, contains no mention of the meaning relating to transportation.

  [47. ]See J. S. Mill, Principles of Political Economy (London, 1867), p. 16; Böhm-Bawerk, Kapital und Kapitalzins, pp. 10 ff.

  [48. ]Wieser, Über den Ursprung und die Hauptgesetze des wirtschaftlichen Wertes, p. 47. See also Böhm-Bawerk, op. cit., pp. 131 f.; Clark, The Distribution of Wealth (New York, 1908), p. 11.

  [49. ]Böhm-Bawerk, op. cit., Part II pp. 131 ff. See also, on the historical aspect, Jacoby, Der Streit um den Kapitalsbegriff (Jena, 1908), pp. 90 ff; Spiethoff, “Die Lehre vom Kapital,” Schmoller-Festschrift Die Entwicklung der deutschen Volkswirtschaftslehre im 19. Jahrhundert (Leipzig, 1908), vol. 4, p. 26.

  [50. ]See Jacoby, op. cit., pp. 59 f.

  [51. ]See Böhm-Bawerk, op. cit., p. 125 n.

  [52. ]Ibid., p. 132 n.

  [53. ]Böhm-Bawerk, Rechte und Verhältnisse, pp. 36 ff.

  [54. ]Smith, The Wealth of Nations, Cannan’s ed. (London, 1930).

  [55. ]This is true even bearing in mind the discussions of Menger and Clark. But in any case, an investigation, both of this matter and of the problems dealt with in part 3, chap. 19, which started from Menger’s or Clark’s capital concept would lead eventually to the same result as one based on Böhm-Bawerk’s definition.

  [56. ]See Böhm-Bawerk, Kapital und Kapitalzins, pp. 54 f.

  [57. ]I, 3, 23.

  [58. ]See Böhm-Bawerk, Kapital und Kapitalzins, Part I, pp. 16 ff., Part II, pp. 23 ff.

  [59. ]Ibid., Part II pp. 54 f., 130 ff.

  [60. ]On the history of such ideas, see Hildebrand, Die Nationalökonomie der Gegenwart und Zunkunft (Frankfurt, 1848), pp. 118 ff.; Roscher, System der Volkswirtschaft, ed. Pöhlmann, 24th ed. (Stuttgart, 1906), vol. 1, pp. 345 f.; Marx, Das Kapital, 7th ed. (Hamburg, 1914), vol. 1, pp. 95 f. n.

  [61. ]More, Utopia.

  [62. ]See Marx, Zur Kritik der politischen Ökonomie, ed. Kautsky (Stuttgart, 1897), pp. 70 if.; Knies, Geld und Kredit, 2d ed. (Berlin, 1885), vol. 1, pp. 239 ff.; Aucuy, Les systèmes socialistes d’Éxchange (Paris, 1908), pp. 114 ff.

  [63. ]See the three memoranda published in 1889 in Brussels by Solvay under the title La monnaie et le Compte, and also his Gesellschaftlicher Comptabilismus (Brussels, 1897). Solvay’s theories also contain various other fundamental errors.

• Back to Top

  2: “The Economics of an Isolated Socialist Community” in Socialism: An Economic and Sociological Analysis [1922/1981]

  Ludwig von Mises, Socialism: An Economic and Sociological Analysis, trans. J. Kahane, Foreword by F.A. Hayek (Indianapolis: Liberty Fund, 1981). Chapter: Section I.: The Economics of an Isolated Socialist Community

  Accessed from oll.libertyfund.org/title/1060/103829 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  Section I.

  The Economics of an Isolated Socialist Community

  CHAPTER 5

  The Nature of Economic Activity

  1

  A Contribution to the Critique of the Concept “Economic Activity”

  Economic Science originated in discussion of the money price of goods and services. Its first beginnings are to be found in inquiries about coinage, which developed into investigations of price movements. Money, money prices, and everything concerned with calculation in terms of money—these form the problems in the discussion of which the science of Economics emerged. Those attempts at economic inquiry, which are discernible in works on household management and the organization of production—particularly agricultural—did not develop further in this direction. They became merely the starting point for various departments of technology and natural science. And this was no accident. Only through the rationalization inherent in economic calculation based on the use of money could the human mind come to understand and trace the laws of its action.

  The earlier economists did not ask themselves what the “economic” and “economic activity” really were. They had enough to do with the great tasks presented by the particular problems with which they were then concerned. They were not concerned with methodology. It was quite late before they began to grapple with the methods and ultimate aims of economics, and its place in the general system of knowledge. And then an obstacle was encountered which seemed to be insurmountable—the problem of defining the subject matter of economic activity.

  All theoretical inquiries—those of the classical economists, equally with those of the moderns—start from the economic principle. Yet, as was necessarily soon perceived, this provides no basis for clearly defining the subject matter of economics. The economic principle is a general principle of rational action, and not a specific principle of such action as forms the subject of economic inquiry.1 The economic principle directs all rational action, all action capable of becoming the subject matter of a science. It seemed absolutely unserviceable for separating the “economic” from the “non-economic,” so far as the traditional economic problems were concerned.2

  But, on the other hand, it was equally impossible to divide up rational actions according to the immediate end to which they were directed, and to regard as the subject matter of economics only those actions which were directed to providing mankind with the commodities of the external world. Against such a procedure it is a decisive objection that, in the last analysis, the provision of material goods serves not only those ends which are usually termed economic, but also many other ends.

  Such a division of the motives of rational action involves a dual conception of action—action from economic motives, on the one side, action from non-economic motives, on the other—which is absolutely irreconcilable with the necessary unit of will and action. A theory of rational action must conceive such action as unitary.

  2

  Rational Action

  Action based on reason, action therefore which is only to be understood by reason, knows only one end, the greatest pleasure of the acting individual. The attainment of pleasure, the avoidance of pain—these are its intentions. By this, of course, we do not mean “pleasure” and “pain” in the sense in which these terms used to be used. In the terminology of the modern economist, pleasure is to be understood as embracing all those things which men hold to be desirable, all that they want and strive for. There can therefore be no longer any contrast between the “noble” ethics of duty and the vulgar hedonistic ethics. The modern concept of pleasure, happiness, utility, satisfaction and the like includes all human ends, regardless of whether the motives of action are moral or immoral, noble or ignoble, altruistic or egotistical.3

  In general men act only because they are not completely satisfied. Were they always to enjoy complete happiness, they would be without will, without desire, without action. In the land of the lotus-eaters there is no action. Action arises only from need, from dissatisfaction. It is purposeful striving towards something. Its ultimate end is always to get rid of a condition which is conceived to be deficient—to fulfil a need, to achieve satisfaction, to increase happiness. If men had all the external resources of nature so abundantly at their disposal that they were able to obtain complete satisfaction by action, then they could use them heedlessly. They would only have to consider their own powers and the limited time at their disposal. For, compared with the sum of their needs, they would still have only a limited strength and a limited life-time available. They would still have to economize time and labour. But to economy of materials they would be indifferent. In fact, however, materials are also limited, so that they too have to be used in such a way that the most urgent needs are satisfied first, with the least possible expenditure of materials for each satisfaction.

  The spheres of rational action and economic action are therefore co-incident. All rational action is economic. All economic activity is rational action. All rational action is in the first place individual action. Only the individual thinks. Only the individual reasons. Only the individual acts. How society arises from the action of individuals will be shown in a later part of our discussion.

  3

  Economic Calculation

  All human action, so far as it is rational, appears as the exchange of one condition for another. Men apply economic goods and personal time and labour in the direction which, under the given circumstances, promises the highest degree of satisfaction, and they forgo the satisfaction of lesser needs so as to satisfy the more urgent needs. This is the essence of economic activity—the carrying out of acts of exchange.4

  Every man who, in the course of economic activity, chooses between the satisfaction of two needs, only one of which can be satisfied, makes judgments of value.5 Such judgments concern firstly and directly the satisfactions themselves; it is only from these that they are reflected back upon goods. As a rule anyone in possession of his senses is able at once to evaluate goods which are ready for consumption. Under very simple conditions he should also have little difficulty in forming a judgment upon the relative significance to him of the factors of production. When, however, conditions are at all complicated, and the connection between things is harder to detect, we have to make more delicate computations if we are to evaluate such instruments. Isolated man can easily decide whether to extend his hunting or his cultivation. The processes of production he has to take into account are relatively short. The expenditure they demand and the product they afford can easily be perceived as a whole. But to choose whether we shall use a waterfall to produce electricity or extend coal-mining and better utilize the energy contained in coal, is quite another matter. Here the processes of production are so many and so long, the conditions necessary to the success of the undertaking so multitudinous, that we can never be content with vague ideas. To decide whether an undertaking is sound we must calculate carefully.

  But computation demands units. And there can be no unit of the subjective use-value of commodities. Marginal utility provides no unit of value. The worth of two units of a given commodity is not twice as great as one—although it is necessarily greater or smaller than one. Judgments of value do not measure: they arrange, they grade.6 If he relies only on subjective valuation, even isolated man cannot arrive at a decision based on more or less exact computations in cases where the solution is not immediately evident. To aid his calculations he must assume substitution relations between commodities. As a rule he will not be able to reduce all to a common unit. But he may succeed in reducing all elements in the computation to such commodities as he can evaluate immediately, that is to say, to goods ready for consumption and the disutility of labour and then he is able to base his decision upon this evidence. It is obvious that even this is possible only in very simple cases. For complicated and long processes of production it would be quite out of the question.

  In an exchange economy, the objective exchange value of commodities becomes the unit of calculation. This involves a threefold advantage. In the first place we are able to take as the basis of calculation the valuation of all individuals participating in trade. The subjective valuation of one individual is not directly comparable with the subjective valuation of others. It only becomes so as an exchange value arising from the interplay of the subjective valuations of all who take part in buying and selling. Secondly, calculations of this sort provide a control upon the appropriate use of the means of production. They enable those who desire to calculate the cost of complicated processes of production to see at once whether they are working as economically as others. If, under prevailing market prices, they cannot carry through the process at a profit, it is a clear proof that others are better able to turn to good account the instrumental goods in question. Finally, calculations based upon exchange values enable us to reduce values to a common unit. And since the higgling of the market establishes substitution relations between commodities, any commodity desired can be chosen for this purpose. In a money economy, money is the commodity chosen.

  Money calculations have their limits. Money is neither a yardstick of value nor of prices. Money does not measure value. Nor are prices measured in money: they are amounts of money. And, although those who describe money as a “standard of deferred payments” naively assume it to be so, as a commodity it is not stable in value. The relation between money and goods perpetually fluctuates not only on the “goods side,” but on the “money side” also. As a rule, indeed, these fluctuations are not too violent. They do not too much impair the economic calculus, because under a state of continuous change of all economic conditions, this calculus takes in view only comparatively short periods, in which “sound money” at least does not change its purchasing power to any very great extent.

  The deficiencies of money calculations arise for the most part, not because they are made in terms of a general medium of exchange, money, but because they are based on exchange values rather than on subjective use-values. For this reason all elements of value which are not the subject of exchange elude such computations. If, for example, we are considering whether a hydraulic power-works would be profitable we cannot include in the computation the damage which will be done to the beauty of the waterfalls unless the fall in values due to a fall in tourist traffic is taken into account. Yet we must certainly take such considerations into account when deciding whether the undertaking shall be carried out.

  Considerations such as these are often termed “non-economic.” And we may permit the expression for disputes about terminology gain nothing. But not all such considerations should be called irrational. The beauty of a place or of a building, the health of the race, the honour of individuals or nations, even if (because they are not dealt with on the market) they do not enter into exchange relations, are just as much motives of rational action, provided people think them significant, as those normally called economic. That they cannot enter into money calculations arises from the very nature of these calculations. But this does not in the least lessen the value of money calculations in ordinary economic matters. For all such moral goods are goods of the first order. We can value them directly; and therefore have no difficulty in taking them into account, even though they lie outside the sphere of money computations. That they elude such computations does not make it any more difficult to bear them in mind. If we know precisely how much we have to pay for beauty, health, honour, pride, and the like, nothing need hinder us from giving them due consideration. Sensitive people may be pained to have to choose between the ideal and the material. But that is not the fault of a money economy. It is in the nature of things. For even where we can make judgments of value without money computations we cannot avoid this choice. Both isolated man and socialist communities would have to do likewise, and truly sensitive natures will never find it painful. Called upon to choose between bread and honour, they will never be at a loss how to act. If honour cannot be eaten, eating can at least be forgone for honour. Only such as fear the agony of choice because they secretly know that they could not forgo the material, will regard the necessity of choice as a profanation.

  Money computations are only significant for purposes of economic calculation. Here they are used in order that the disposal of commodities may conform to the criterion of economy. And such calculations take account of commodities only in the proportions in which, under given conditions, they exchange for money. Every extension of the sphere of money calculation is misleading. It is misleading when in historical researches, it is employed as a measure of past commodity values. It is misleading when it is employed to evaluate the capital or national income of nations. It is misleading when it is employed to estimate the value of things which are not exchangeable as, for instance, when people attempt to estimate the loss due to emigration or war.7 All these are dilettantisms—even when they are undertaken by the most competent economists.

  But within these limits—and in practical life they are not overstepped—money calculation does all that we are entitled to ask of it. It provides a guide amid the bewildering throng of economic possibilities. It enables us to extend judgments of value which apply directly only to consumption goods—or at best to production goods of the lowest order—to all goods of higher orders. Without it, all production by lengthy and roundabout processes would be so many steps in the dark.

  Two things are necessary if computations of value in terms of money are to take place. First, not only goods ready for consumption but also goods of higher orders must be exchangeable. If this were not so, a system of exchange relationships could not emerge. It is true that if an isolated man is “exchanging” labour and flour for bread within his own house, the considerations he has to take into account are not different from those which would govern his actions if he were to exchange bread for clothes on the market. And it is, therefore, quite correct to regard all economic activity, even the economic activity of isolated man, as exchange. But no single man, be he the greatest genius ever born, has an intellect capable of deciding the relative importance of each one of an infinite number of goods of higher orders. No individual could so discriminate between the infinite number of alternative methods of production that he could make direct judgments of their relative value without auxiliary calculations. In societies based on the division of labour, the distribution of property rights effects a kind of mental division of labour, without which neither economy nor systematic production would be possible.

  In the second place, there must be a general medium of exchange, a money, in use. And this must serve as an intermediary in the exchange of production goods equally with the rest. If this were not so, it would be impossible to reduce all exchange relationships to a common denominator.

  Only under very simple conditions is it possible to dispense with money calculations. In the narrow circle of a closed household, where the father is able to supervise everything, he may be able to evaluate alterations in methods of production without having recourse to money reckoning. For, in such circumstances, production is carried on with relatively little capital. Few roundabout methods of production are employed. As a rule production is concerned with consumption goods, or goods of higher orders not too far removed from consumption goods. Division of labour is still in its earliest stages. The labourer carries through the production of a commodity from beginning to end. In an advanced society all this is changed. It is impossible to argue from the experience of primitive societies that under modern conditions we can dispense with money.

  In the simple conditions of a closed household, it is possible to survey the whole process of production from beginning to end. It is possible to judge whether one particular process gives more consumption goods than another. But, in the incomparably more complicated conditions of our own day, this is no longer possible. True, a socialistic society could see that 1000 litres of wine were better than 800 litres. It could decide whether or not 1000 litres of wine were to be preferred to 500 litres of oil. Such a decision would involve no calculation. The will of some man would decide. But the real business of economic administration, the adaptation of means to ends only begins when such a decision is taken. And only economic calculation makes this adaptation possible. Without such assistance, in the bewildering chaos of alternative materials and processes the human mind would be at a complete loss. Whenever we had to decide between different processes or different centres of production, we would be entirely at sea.8

  To suppose that a socialist community could substitute calculations in kind for calculations in terms of money is an illusion. In a community that does not practice exchange, calculations in kind can never cover more than consumption goods. They break down completely where goods of higher order are concerned. Once society abandons free pricing of production goods rational production becomes impossible. Every step that leads away from private ownership of the means of production and the use of money is a step away from rational economic activity.

  It was possible to overlook all this because such Socialism as we know at first hand exists only, one might say, in socialistic oases in what, for the rest, is a system based upon free exchange and the use of money. To this extent, indeed, we may agree with the otherwise untenable socialist contention—it is only employed for propagandist purposes—that nationalized and municipalized undertakings within an otherwise capitalist system are not Socialism. For the existence of a surrounding system of free pricing supports such concerns in their business affairs to such an extent that in them the essential peculiarity of economic activity under Socialism does not come to light. In State and municipal undertakings it is still possible to carry out technical improvements, because it is possible to observe the effects of similar improvements in similar private undertakings at home and abroad. In such concerns it is still possible to ascertain the advantages of reorganization because they are surrounded by a society which is still based upon private ownership in the means of production and the use of money. It is still possible for them to keep books and make calculations which for similar concerns in a purely socialist environment would be entirely out of the question.

  Without calculation, economic activity is impossible. Since under Socialism economic calculation is impossible, under Socialism there can be no economic activity in our sense of the word. In small and insignificant things rational action might still persist. But, for the most part, it would no longer be possible to speak of rational production. In the absence of criteria of rationality, production could not be consciously economical.

  For some time possibly the accumulated tradition of thousands of years of economic freedom would preserve the art of economic administration from complete disintegration. Men would preserve the old processes, not because they were rational, but because they were sanctified by tradition. In the meantime, however, changing conditions would make them irrational. They would become uneconomical as the result of changes brought about by the general decline of economic thought. It is true that production would no longer be “anarchical.” The command of a supreme authority would govern the business of supply. Instead of the economy of “anarchical” production the senseless order of an irrational machine would be supreme. The wheels would go round, but to no effect.

  Let us try to imagine the position of a socialist community. There will be hundreds and thousands of establishments in which work is going on. A minority of these will produce goods ready for use. The majority will produce capital goods and semi-manufactures. All these establishments will be closely connected. Each commodity produced will pass through a whole series of such establishments before it is ready for consumption. Yet in the incessant press of all these processes the economic administration will have no real sense of direction. It will have no means of ascertaining whether a given piece of work is really necessary, whether labour and material are not being wasted in completing it. How would it discover which of two processes was the more satisfactory? At best, it could compare the quantity of ultimate products. But only rarely could it compare the expenditure incurred in their production. It would know exactly—or it would imagine it knew—what it wanted to produce. It ought therefore to set about obtaining the desired results with the smallest possible expenditure. But to do this it would have to be able to make calculations. And such calculations must be calculations of value. They could not be merely “technical,” they could not be calculations of the objective use-value of goods and services; this is so obvious that it needs no further demonstration.

  Under a system based upon private ownership in the means of production, the scale of values is the outcome of the actions of every independent member of society. Everyone plays a two-fold part in its establishment first as a consumer, secondly as producer. As consumer, he establishes the valuation of goods ready for consumption. As producer, he guides production-goods into those uses in which they yield the highest product. In this way all goods of higher orders also are graded in the way appropriate to them under the existing conditions of production and the demands of society. The interplay of these two processes ensures that the economic principle is observed in both consumption and production. And, in this way, arises the exactly graded system of prices which enables everyone to frame his demand on economic lines.

  Under Socialism, all this must necessarily be lacking. The economic administration may indeed know exactly what commodities are needed most urgently. But this is only half the problem. The other half, the valuation of the means of production, it cannot solve. It can ascertain the value of the totality of such instruments. That is obviously equal to the value of the satisfactions they afford. If it calculates the loss that would be incurred by withdrawing them, it can also ascertain the value of single instruments of production. But it cannot assimilate them to a common price denominator, as can be done under a system of economic freedom and money prices.

  It is not necessary that Socialism should dispense altogether with money. It is possible to conceive arrangements permitting the use of money for the exchange of consumers goods. But since the prices of the various factors of production (including labour) could not be expressed in money, money could play no part in economic calculations.9

  Suppose, for instance, that the socialist commonwealth was contemplating a new railway line. Would a new railway line be a good thing? If so, which of many possible routes should it cover? Under a system of private ownership we could use money calculations to decide these questions. The new line would cheapen the transportation of certain articles, and, on this basis, we could estimate whether the reduction in transport charges would be great enough to counterweigh the expenditure which the building and running of the line would involve. Such a calculation could be made only in money. We could not do it by comparing various classes of expenditure and savings in kind. If it is out of the question to reduce to a common unit the quantities of various kinds of skilled and unskilled labour, iron, coal, building materials of different kinds, machinery and the other things which the building and upkeep of railways necessitate, then it is impossible to make them the subject of economic calculation. We can make systematic economic plans only when all the commodities which we have to take into account can be assimilated to money. True, money calculations are incomplete. True, they have profound deficiencies. But we have nothing better to put in their place. And under sound monetary conditions they suffice for practical purposes. If we abandon them, economic calculation becomes absolutely impossible.

  This is not to say that the socialist community would be entirely at a loss. It would decide for or against the proposed undertaking and issue an edict. But, at best, such a decision would be based on vague valuations. It could not be based on exact calculations of value.

  A stationary society could, indeed, dispense with these calculations. For there, economic operations merely repeat themselves. So that, if we assume that the socialist system of production were based upon the last state of the system of economic freedom which it superseded, and that no changes were to take place in the future, we could indeed conceive a rational and economic Socialism. But only in theory. A stationary economic system can never exist. Things are continually changing, and the stationary state, although necessary as an aid to speculation, is a theoretical assumption to which there is no counterpart in reality. And, quite apart from this, the maintenance of such a connection with the last state of the exchange economy would be out of the question, since the transition to Socialism with its equalization of incomes would necessarily transform the whole “set” of consumption and production. And then we have a socialist community which must cross the whole ocean of possible and imaginable economic permutations without the compass of economic calculation.

  All economic change, therefore, would involve operations the value of which could neither be predicted beforehand nor ascertained after they had taken place. Everything would be a leap in the dark. Socialism is the renunciation of rational economy.

  4

  The Capitalist Economy

  The terms “Capitalism” and “Capitalistic Production” are political catchwords. They were invented by socialists, not to extend knowledge, but to carp, to criticize, to condemn. Today, they have only to be uttered to conjure up a picture of the relentless exploitation of wage-slaves by the pitiless rich. They are scarcely ever used save to imply a disease in the body-politic. From a scientific point of view, they are so obscure and ambiguous that they have no value whatever. Their users agree only in this, that they indicate the characteristics of the modern economic system. But wherein these characteristics consist is always a matter of dispute. Their use, therefore, is entirely pernicious, and the proposal to extrude them altogether from economic terminology, and to leave them to the matadors of popular agitation, deserves serious consideration.10

  If, nevertheless, we do desire to discover for them a precise application, we should start from the idea of capital calculations. And since we are concerned only with the analysis of actual economic phenomena, and not with economic theory—where “capital” is often used in a sense specially extended for particular purposes—we must first ask what significance is attached to the term in business practice. There we find it used only for purposes of economic calculation. It serves to bring the original properties of a concern under one denomination, whether they consisted of money or were only expressed in money.11 The object of its computations is to enable us to ascertain how much the value of this property has altered in the course of business operations. The concept of capital is derived from economic calculation. Its true home is accountancy—the chief instrument of commercial rationality. Calculation in terms of money is an essential element of the concept of capital.12

  If the term capitalism is used to designate an economic system in which production is governed by capital calculations, it acquires a special significance for defining economic activity. Understood thus, it is by no means misleading to speak of Capitalism and capitalistic methods of production, and expressions such as the capitalistic spirit and the anti-capitalistic disposition acquire a rigidly circumscribed connotation. Capitalism is better suited to be the antithesis of Socialism than Individualism, which is often used in this way. As a rule those who contrast Socialism with Individualism proceed on the tacit assumption that there is a contradiction between the interests of the individual and the interest of society, and that, while Socialism takes the public welfare as its object, individualism serves the interests of particular people. And since this is one of the gravest sociological fallacies we must avoid carefully any form of expression which might allow it secretly to creep in.

  According to Passow, where the term Capitalism is used correctly, the association it is intended to convey is usually bound up with the development and spread of large scale undertakings.13 We may admit this—even if it is rather difficult to reconcile with the fact that people customarily speak of “Grosskapital” and “Grosskapitalist” and then of “Kleinkapitalisten.” But, if we recollect that only capital calculation made the growth of giant enterprise and undertakings possible, this does not in any way invalidate the definitions we propose.

  5

  The Narrower Concept of the “Economic”

  The common habit of economists of distinguishing between “economic” or “purely economic” and “non-economic” action is just as unsatisfactory as the old distinction between ideal and material goods. For willing and acting are unitary. All ends conflict among themselves and it is this conflict which ranges them in one scale. Not only the satisfaction of wishes, desires and impulses that can be attained through interaction with the external world, but the satisfaction also of ideal needs must be judged by one criterion. In life we have to choose between the “ideal” and the “material.” It is, therefore, just as essential to make the former subject to a unitary criterion of values as the latter. In choosing between bread and honour, faith and wealth, love and money, we submit both alternatives to one test.

  It is, therefore, illegitimate to regard the “economic” as a definite sphere of human action which can be sharply delimited from other spheres of action. Economic activity is rational activity. And since complete satisfaction is impossible, the sphere of economic activity is coterminous with the sphere of rational action. It consists firstly in valuation of ends, and then in the valuation of the means leading to these ends. All economic activity depends, therefore, upon the existence of ends. Ends dominate economy and alone give it meaning.

  Since the economic principle applies to all human action, it is necessary to be very careful when distinguishing, within its sphere, between “purely economic” and other kinds of action. Such a division is indeed indispensable for many scientifc purposes. It singles out one particular end and contrasts it with all others. This end—at this point we need not discuss whether it is ultimate or not—is the attainment of the greatest possible product measured in money. It is, therefore, impossible to assign it a specially delimited sphere of action. It is true that for each individual it has such a delimited sphere, but this varies in extent according to the general outlook of the individual concerned. It is one thing for the man to whom honour is dear. It is another for him who sells his friend for gold. Neither the nature of the end nor the peculiarity of the means is what justifies the distinction, but merely the special nature of the methods employed. Only the fact that it uses exact calculation distinguishes “purely economic” from other action.

  The sphere of the “purely economic” is nothing more and nothing less than the sphere of money calculation. The fact that in a certain field of action it enables us to compare means with minute exactitude down to the smallest detail means so much both for thought and action that we tend to invest this kind of action with special importance. It is easy to overlook the fact that such a distinction is only a distinction in the technique of thought and action and in no way a distinction in the ultimate end of action—which is unitary. The failure of all attempts to exhibit the “economic” as a special department of the rational and within that to discover still another sharply defined department, the “purely economic,” is no fault of the analytical apparatus employed. There can be no doubt that great subtlety of analysis has been concentrated on this problem, and the fact that it has not been solved clearly indicates that the question is one to which no satisfactory answer can be given. The sphere of the “economic” is plainly the same as the sphere of the rational: and the sphere of the “purely economic” is nothing but the sphere in which money calculation is possible.

  In the last resort the individual can acknowledge one end, and one end only: the attainment of the greatest satisfaction. This expression includes the satisfying of all kinds of human wants and desires, regardless of whether they are “material” or immaterial (moral). In the place of the word “satisfaction” we could employ the word “happiness,” had we not to fear the misunderstandings, for which the controversy on Hedonism and Eudaemonism was responsible.

  Satisfaction is subjective. Modern social philosophy has emphasized this so sharply in contrast to former theories that there is a tendency to forget that the physiological structure of mankind and the unity of outlook and emotion arising from tradition create a far-reaching similarity of views regarding wants and the means to satisfy them. It is precisely this similarity of views which makes society possible. Because they have common aims, men are able to live together. Against this fact that the majority of ends (and those the most important) are common to the great mass of mankind, the fact that some ends are only entertained by a few is of subordinate importance.

  The customary division between economic and non-economic motives is, therefore, invalidated by the fact that on the one hand, the end of economic activity lies outside the range of economics, and on the other, that all rational activity is economic. Nevertheless, there is good justification for separating “purely economic” activities (that is to say, activity susceptible of valuation in money) from all other forms of activity. For, as we have already seen, outside the sphere of money calculation there remain only intermediate ends which are capable of evaluation by immediate inspection: and once this sphere is left, it is necessary to have recourse to such judgments. It is the recognition of this necessity which provides the occasion for the distinction we have been discussing.

  If, for example, a nation desires to make war, it is illegitimate to regard the desire as necessarily irrational because the motive for making war lies outside those customarily considered as “economic”—as might be the case, e.g. with wars of religion. If the nation decides on the war with complete knowledge of all the facts because it judges that the end in view is more important than the sacrifice involved, and because it regards war as the most suitable means of obtaining it, then war cannot be regarded as irrational. It is not necessary at this point to decide whether this supposition is ever true or if it ever can be true. It is precisely this which has to be examined when one comes to choose between war and peace. And it is precisely with a view to introducing clarity into such an examination that the distinction we have been discussing has been introduced.

  CHAPTER 6

  The Organization of Production Under Socialism

  1

  The Socialization of the Means of Production

  Under Socialism all the means of production are the property of the community. The community alone disposes of them and decides how to use them in production. The community produces, the products accrue to the community, and the community decides how those products are to be used.

  Modern socialists, espcially those of the Marxian persuasion, lay great emphasis on designating the socialist community as Society, and therefore on describing the transfer of the means of production to the control of the community as the “Socialization of the means of production.” In itself the expression is unobjectionable but in the connection in which it is used it is particularly designed to obscure one of the most important problems of Socialism.

  The word “society,” with its corresponding adjective “social,” has three separate meanings. It implies, first, the abstract idea of social interrelationships, and secondly, the concrete conception of a union of the individuals themselves. Between these two sharply different meanings, a third has been interposed in ordinary speech: the abstract society is conceived as personified in such expressions as “human society,” “civil society.”

  Now Marx uses the term with all these meanings. This would not matter as long as he made the distinction quite clear. But he does just the opposite. He interchanges them with a conjurer’s skill whenever it appears to suit him. When he talks of the social character of capitalistic production he is using social in its abstract sense. When he speaks of the society which suffers during crises he means the personified society of mankind. But when he speaks of the society which is to expropriate the expropriators and socialize the means of production he means an actual social union. And all the meanings are interchanged in the links of his argument whenever he has to prove the unprovable. The reason for all this is in order to avoid using the term State or its equivalent, since this word has an unpleasant sound to all those lovers of freedom and democracy, whose support the Marxian does not wish to alienate at the outset. A programme which would give the State the general responsibility and direction of all production has no prospect of acceptance in these circles. It follows that the Marxist must continually find a phraseology which disguises the essence of the programme, which succeeds in concealing the unbridgeable abyss dividing democracy and Socialism. It does not say much for the perception of men who lived in the decades immediately preceding the World War that they did not see through this sophistry.

  The modern doctrine of the state understands by the word “State” an authoritative unit, an apparatus of compulsion characterized not by its aims but by its form. But Marxism has arbitrarily limited the meaning of the word State, so that it does not include the Socialistic State. Only those states and forms of state organization are called the State which arouse the dislike of the socialist writers. For the future organization to which they aspire the term is rejected indignantly as dishonourable and degrading. It is called “Society.” In this way the Marxian social democracy could at one and the same time contemplate the destruction of the existing State machine, fiercely combat all anarchistic movements, and pursue a policy which led directly to an all powerful state.14

  Now it does not matter in the least what particular name is given to the coercive apparatus of the socialistic community. If we use the word “State” we have a term in common use, except in the quite uncritical Marxian literature, an expression which is generally understood and which evokes the idea it is intended to evoke. But there is no disadvantage in avoiding this term if we wish, since it arouses mixed feelings in many people, and in substituting the expression “community.” The choice of terminology is purely a matter of style, and has no practical importance.

  What is important is the problem of the organization of this socialistic State or community. When dealing with the concrete expression of the will of the State, the English language provides a more subtle distinction by permitting us to use the term government instead of the term state. Nothing is better designed to avoid the mysticism which in this connection has been fostered by Marxian usages to the highest degree. For the Marxists talk glibly about expressing the will of society, without giving the slightest hint how ’society’ can proceed to will and act. Yet of course the community can only act through organs which it has created.

  Now it follows from the very conception of the socialistic community that the organ of control must be unitary. A socialist community can have only one ultimate organ of control which combines all economic and other governmental functions. Of course this organ can be subdivided and there can be subordinate offices to which definite instructions are transmitted. But the unitary expression of the common will, which is the essential object of the socialization of the means of production and of production, necessarily implies that all offices entrusted with the supervision of different affairs shall be subordinate to one office. This office must have supreme authority to resolve all variations from the common purpose and unify the executive aim. How it is constituted, and how the general will succeeds in expressing itself in and by it, is of minor importance in the investigation of our particular problem. It does not matter whether this organ is an absolute prince or an assembly of all citizens organized as a direct or indirect democracy. It does not matter how this organ conceives its will and expresses it. For our purpose we must consider this as accomplished and we need not spend any time over the question how it can be accomplished, whether it can be accomplished or whether Socialism is already doomed because it cannot be accomplished.

  At the outset of our inquiry we must postulate that the socialistic community is without foreign relations. It embraces the whole world and its inhabitants. If we conceive it as limited, so that it comprises only a part of the world and the inhabitants therein, we must assume that it has no economic relations with the territories and peoples outside its boundaries. We are to discuss the problem of the isolated socialistic community. The implications of the contemporaneous existence of several socialistic communities will be dealt with when we have surveyed the problem in complete generality.

  2

  Economic Calculation in the Socialist Community

  The theory of economic calculation shows that in the socialistic community economic calculation would be impossible.

  In any large undertaking the individual works or departments are partly independent in their accounts. They can reckon the cost of materials and labour, and it is possible at any time for an individual group to strike a separate balance and to sum up the results of its activity in figures. In this way it is possible to ascertain with what success each separate branch has been operated and thereby to make decisions concerning the reorganization, limitations or extension of existing branches or the establishment of new ones. Some mistakes are of course unavoidable in these calculations. They arise partly from the difficulty of allocating overhead costs. Other mistakes again arise from the necessity of calculating from insufficiently determined data, as, e.g. when in calculating the profitability of a certain process, depreciation of the machinery employed is determined by assuming a certain working life for the machine. But all such errors can be confined within certain narrow limits which do not upset the total result of the calculation. Whatever uncertainty remains is attributed to the uncertainty of future conditions inevitable in any imaginable state of affairs.

  It seems natural then to ask why individual branches of production in a socialistic community should not make separate accounts in the same manner. But this is impossible. Separate accounts for a single branch of one and the same undertaking are possible only when prices for all kinds of goods and services are established in the market and furnish a basis of reckoning. Where there is no market there is no price system, and where there is no price system there can be no economic calculation.

  Some may think that it is possible to permit exchange between the different groups of undertakings so as to establish a system of exchange relations (prices) and in this way create a basis for economic calculation in the socialistic community. Thus within a framework of a unitary economic system which does not recognize private property in the means of production, individual branches of industry with separate administration could be set up, subject of course, to the supreme economic authority, but able to transfer to each other goods and services for a consideration reckoned in a common medium of exchange. This, roughly, is how people conceive the productive organization of socialistic industry when they speak nowadays of complete socialization and the like. But here again the decisive point is evaded. Exchange relations in productive goods can only be established on the basis of private property in the means of production. If the Coal Syndicate delivers coal to the Iron Syndicate a price can be fixed only if both syndicates own the means of production in the industry. But that would not be Socialism but Syndicalism.

  For those socialist writers who accept the labour theory of value the problem is, of course, quite simple.

  “As soon,” says Engels, “as Society has taken possession of the means of production and applies them to direct social production the labour of everyone, however different its specific use may be, will immediately become direct social labour. The amount of social labour inherent in any product does not require to be ascertained in any roundabout way: everyday experience will show how much of it on the average is necessary. Society can easily reckon how many hours of labour inhere in a steam engine, in a hectolitre of wheat of the last harvest, in a hundred square metres of cloth of a certain quality. Of course society will have to find out how much work is required for the manufacture of every article of consumption. It will have to base its plans on a consideration of the means of production at its disposal—and of course the labour force falls into this category. The utility of the different objects of consumption weighed against one another and against the labour necessary for their production will finally determine the plan. The people will decide everything quite easily without the intervention of the much-vaunted value.”15

  It is not part of our business here to restate the critical arguments against the labour theory of value. They interest us at this point only in so far as they enable us to judge the possibility of making labour the basis of economic calculation in a socialistic community.

  At first sight it would appear that calculations based on labour take into account the natural conditions of production, as well as conditions arising from the human element. The Marxian concept of the socially necessary labour time takes the law of diminishing returns into consideration in so far as it results from different natural conditions of production. If the demand for a commodity increases and less favourable natural conditions have to be exploited, then the average socially necessary time for the production of a unit also increases. If more favourable conditions of production are discovered then the necessary quantum of social labour declines.16 But this is not enough. Computation of changes in marginal labour costs only take account of natural conditions in so far as they influence labour costs. Beyond that, the “labour” calculation breaks down. It leaves, for instance, the consumption of material factors of production entirely out of account. Suppose the socially necessary labour time for producing two commodities P and Q is ten hours, and that the production of a unit both of P and of Q requires material A, one unit of which is produced by one hour of socially necessary labour, and that the production of P involves two units of A and eight hours of labour, and of Q one unit of A and nine hours of labour. In a calculation based on labour time P and Q are equivalent, but in a calculation based on value P must be worth more than Q. The former calculation is false. Only the latter corresponds to the essence and object of economic calculation. It is true that this surplus by which the value of P exceeds that of Q, this material substratum, “is furnished by nature without the help of man,”17 but provided it is present only in such quantities that it becomes an economic factor it must also in some form enter into economic calculation.

  The second deficiency of the labour calculation theory is that it disregards differences in the quality of labour. For Marx all human labour is economically homogeneous, because it is always the “productive expenditure of human brain, muscles, nerves, hands, etc.” “Skilled labour is only intensified, or rather multiplied simple labour, so that a small quantity of skilled labour equals a larger quantity of simple labour. Experience shows that this resolution of skilled into simple constantly happens. A commodity may be the product of highly skilled labour, but its value equates it to the product of simple labour and represents only a certain quantity of simple labour.”18 Böhm-Bawerk was justified in describing this argument as a masterpiece of astounding naivety.19 In criticizing it one may conveniently leave undecided whether one can discover a unitary physiological measure of all human labour, physical as well as “mental.” For it is certain that between men themselves there are differences of capability and skill which result in differing qualities of the goods and services produced. What is ultimately decisive for the solution of the problem of the feasibility of using labour as a basis of economic calculation is the question whether one can assimilate different kinds of work to a common denominator without a valuation of the products by the consumer. It is clear that the argument which Marx brings to bear on this point has failed. Experience does indeed show that commodities enter into exchange regardless of the question whether they are the products of skilled or simple labour. But this would only prove that a definite quantity of simple labour is equal to a definite quantity of skilled labour if it were proved that labour is the source of exchange value. But not only is this unproven; it is exactly what Marx originally set out to prove. The fact that in exchange a substitute relation between simple and skilled labour has arisen in the form of wage rates—a point to which Marx does not here allude—is not in the least a proof of this homogeneity. This process of equating is a result of the working of the market, not its presupposition. Calculations based on labour cost rather than on monetary values would have to establish a purely arbitrary relation by which to resolve skilled into simple labour, and this would make them useless as an instrument for the economic organization of resources.

  It was long thought that the labour theory of value provided a necessary ethical basis for the demand to socialize the means of production. We know now that this was an error. Although the majority of socialists have adopted this view and although even Marx with his professedly non-ethical standpoint could not shake it off, it is clear that, on the one hand, the political demands for the introduction of the socialistic method of production neither need nor receive support from the labour theory of value, and, on the other hand, that those who hold different views on the nature and cause of value can also have socialistic tendencies. But from another point of view, the labour theory of value is still an essential dogma for the advocates of the socialistic method of production. For socialistic production in a society based on division of labour seems practicable only if there is an objective recognizable unit of value which would enable economic calculations to be made in an exchangeless and moneyless community and labour seems the only thing to serve this purpose.

  3

  Recent Socialist Doctrines and the Problems of Economic Calculation

  The problem of economic calculation is the fundamental problem of Socialism. That for decades people could write and talk about Socialism without touching this problem only shows how devastating were the effects of the Marxian prohibition on scientific scrutiny of the nature and working of a socialist economy.20

  To prove that economic calculation would be impossible in the socialist community is to prove also that Socialism is impracticable. Everything brought forward in favour of Socialism during the last hundred years, in thousands of writings and speeches, all the blood which has been spilt by the supporters of Socialism, cannot make socialism workable. The masses may long for it ever so ardently, innumerable revolutions and wars may be fought for it, still it will never be realised. Every attempt to carry it out will lead to syndicalism or, by some other route, to chaos, which will quickly dissolve the society, based upon the division of labour, into tiny autarkous groups.

  The discovery of this fact is clearly most inconvenient for the socialist parties, and socialists of all kinds have poured out attempts to refute my arguments and to invent a system of economic calculation for Socialism. They have not been successful. They have not produced a single new argument which I have not already taken account of.21 Nothing has shaken the proof that under Socialism economic calculation is impossible.22

  The attempt of the Russian Bolsheviks to transfer Socialism from a party programme into real life has not encountered the problem of economic calculation under Socialism, for the Soviet Republics exist within a world which forms money prices for all means of production. The rulers of the Soviet Republics base the calculations on which they make their decisions on these prices. Without the help of these prices their actions would be aimless and planless. Only so far as they refer to this price system, are they able to calculate and keep books and prepare their plans. Their position is the same as the position of the state and municipal Socialism of other countries: the problem of socialist economic calculation has not yet arisen for them. State and municipal enterprises calculate with those prices of the means of production and of consumption goods which are formed on the market. Therefore it would be precipitate to conclude from the fact that municipal and state enterprises exist, that socialist economic calculation is possible.

  We know indeed that socialist enterprises in single branches of production are practicable only because of the help they get from their non-socialist environment. State and municipality can carry on their own enterprises because the taxes which capitalist enterprises pay, cover their losses. In a similar manner Russia, which left to herself would long ago have collapsed, has been supported by finance from capitalist countries. But incomparably more important than this material assistance, which the capitalist economy gives to socialist enterprises, is the mental assistance. Without the basis for calculation which Capitalism places at the disposal of Socialism, in the shape of market prices, socialist enterprises would never be carried on, even within single branches of production or individual countries.

  Socialist writers may continue to publish books about the decay of Capitalism and the coming of the socialist millennium: they may paint the evils of Capitalism in lurid colours and contrast with them an enticing picture of the blessings of a socialist society; their writings may continue to impress the thoughtless—but all this cannot alter the fate of the socialist idea.23 The attempt to reform the world socialistically might destroy civilization. It would never set up a successful socialist community.

  4

  The Artificial Market as the Solution of the Problem of Economic Calculation

  Some of the younger socialists believe that the socialist community could solve the problem of economic calculation by the creation of an artificial market for the means of production. They admit that it was an error on the part of the older socialists to have sought to realize Socialism through the suspension of the market and the abolition of pricing for goods of higher orders; they hold that it was an error to have seen in the suppression of the market and of the price system the essence of the socialistic ideal. And they contend that if it is not to degenerate into a meaningless chaos in which the whole of our civilization would disappear, the socialist community equally with the capitalistic community, must create a market in which all goods and services may be priced. On the basis of such arrangements, they think, the socialist community will be able to make its calculations as easily as the capitalist entrepreneurs.

  Unfortunately the supporters of such proposals do not see (or perhaps will not see) that it is not possible to divorce the market and its functions in regard to the formation of prices from the working of a society which is based on private property in the means of production and in which, subject to the rules of such a society, the landlords, capitalists and entrepreneurs can dispose of their property as they think fit. For the motive force of the whole process which gives rise to market prices for the factors of production is the ceaseless search on the part of the capitalists and the entrepreneurs to maximize their profits by serving the consumers’ wishes. Without the striving of the entrepreneurs (including the shareholders) for profit, of the landlords for rent, of the capitalists for interest and the labourers for wages, the successful functioning of the whole mechanism is not to be thought of. It is only the prospect of profit which directs production into those channels in which the demands of the consumer are best satisfied at least cost. If the prospect of profit disappears the mechanism of the market loses its mainspring, for it is only this prospect which sets it in motion and maintains it in operation. The market is thus the focal point of the capitalist order of society; it is the essence of Capitalism. Only under Capitalism, therefore, is it possible; it cannot be “artificially” imitated under Socialism.

  The advocates of the artificial market, however, are of the opinion that an artificial market can be created by instructing the controllers of the different industrial units to act as if they were entrepreneurs in a capitalistic state. They argue that even under Capitalism the managers of joint stock companies work not for themselves but for the companies, that is to say, for the shareholders. Under Socialism, therefore, it would be possible for them to act in exactly the same way as before, with the same circumspection and devotion to duty. The only difference would be that under socialism the product of the manager’s labours would go to the community rather than to the shareholders. In such a way, in contrast to all socialists who have written on the subject hitherto, especially the Marxians, they think it would be possible to construct a decentralized, as opposed to a centralized, Socialism.

  In order to judge properly such proposals, it is necessary in the first place to realize that these controllers of individual industrial units would have to be appointed. Under Capitalism the managers of the joint stock companies are appointed either directly or indirectly by the shareholders. In so far as the shareholders give to the managers power to produce by the means of the company’s (i.e. the shareholders’) stock they are risking their own property or a part of their own property. The speculation (for it is necessarily a speculation) may succeed and bring profit; it may, however, misfire and bring about the loss of the whole or a part of the capital concerned. This committing of one’s own capital to a business whose outcome is uncertain and to men whose future ability is still a matter of conjecture whatever one may know of their past, is the essence of joint stock company enterprise.

  Now it is a complete fallacy to suppose that the problem of economic calculation in a socialist community relates solely to matters which fall into the sphere of the daily business routine of managers of joint stock companies. It is clear that such a belief can only arise from exclusive concentration on the idea of a stationary economic system—a conception which no doubt is useful for the solution of many theoretical problems but which has no counterpart in fact and which, if exclusively regarded, can even be positively misleading. It is clear that under stationary conditions the problem of economic calculation does not really arise. When we think of the stationary society, we think of an economy in which all the factors of production are already used in such a way as, under the given conditions, to provide the maximum of the things which are demanded by consumers. That is to say, under stationary conditions there no longer exists a problem for economic calculation to solve. The essential function of economic calculation has by hypothesis already been performed. There is no need for an apparatus of calculation. To use a popular but not altogether satisfactory terminology we can say that the problem of economic calculation is of economic dynamics: it is no problem of economic statics.

  The problem of economic calculation is a problem which arises in an economy which is perpetually subject to change, an economy which every day is confronted with new problems which have to be solved. Now in order to solve such problems it is above all necessary that capital should be withdrawn from particular lines of production, from particular undertakings and concerns and should be applied in other lines of production, in other undertakings and concerns. This is not a matter for the managers of joint stock companies, it is essentially a matter for the capitalists—the capitalists who buy and sell stocks and shares, who make loans and recover them, who make deposits in the banks and draw them out of the banks again, who speculate in all kinds of commodities. It is these operations of speculative capitalists which create those conditions of the money market, the stock exchanges and the wholesale markets which have to be taken for granted by the manager of the joint stock company, who, according to the socialist writers we are considering, is to be conceived as nothing but the reliable and conscientious servant of the company. It is the speculative capitalists who create the data to which he has to adjust his business and which therefore gives direction to his trading operations.

  It follows therefore that it is a fundamental deficiency of all these socialistic constructions which invoke the “artificial market” and artificial competition as a way out of the problem of economic calculation, that they rest on the belief that the market for factors of production is affected only by producers buying and selling commodities. It is not possible to eliminate from such markets the influence of the supply of capital from the capitalists and the demand for capital by the entrepreneurs, without destroying the mechanism itself.

  Faced with this difficulty, the socialist is likely to propose that the socialist state as owner of all capital and all means of production should simply direct capital to those undertakings which promise the highest return. The available capital, he will contend, should go to those undertakings which offer the highest rate of profit. But such a state of affairs would simply mean that those managers who were less cautious and more optimistic would receive capital to enlarge their undertakings while more cautious and more skeptical managers would go away empty-handed. Under Capitalism, the capitalist decides to whom he will entrust his own capital. The beliefs of the managers of joint stock companies regarding the future prospects of their undertakings and the hopes of project-makers regarding the profitability of their plans are not in any way decisive. The mechanism of the money market and the capital market decides. This indeed is its main task: to serve the economic system as a whole, to judge the profitability of alternative openings and not blindly to follow what the managers of particular concerns, limited by the narrow horizon of their own undertakings, are tempted to propose.

  To understand this completely, it is essential to realise that the capitalist does not just invest his capital in those undertakings which offer high interest or high profit; he attempts rather to strike a balance between his desire for profit and his estimate of the risk of loss. He must exercise foresight. If he does not do so then he suffers losses—losses that bring it about that his disposition over the factors of production is transferred to the hands of others who know better how to weigh the risks and the prospects of business speculation.

  Now if it is to remain socialistic, the socialist State cannot leave to other hands that disposition over capital which permits the enlargement of existing undertakings, the contraction of others and the bringing into being of undertakings that are completely new. And it is scarcely to be assumed that socialists of whatever persuasion would seriously propose that this function should be made over to some group of people who would “simply” have the business of doing what capitalists and speculators do under capitalistic conditions, the only difference being that the product of their foresight should not belong to them but to the community. Proposals of this sort may well be made concerning the managers of joint stock companies. They can never be extended to capitalists and speculators, for no socialist would dispute that the function which capitalists and speculators perform under Capitalism, namely directing the use of capital goods into that direction in which they best serve the demands of the consumer, is only performed because they are under the incentive to preserve their property and to make profits which increase it or at least allow them to live without diminishing their capital.

  It follows therefore that the socialist community can do nothing but place the disposition over capital in the hands of the State or to be exact in the hands of the men who, as the governing authority, carry out the business of the State. And that signifies elimination of the market, which indeed is the fundamental aim of Socialism, for the guidance of economic activity by the market implies organization of production and a distribution of the product according to that disposition of the spending power of individual members of society which makes itself felt on the market; that is to say, it implies precisely that which it is the goal of Socialism to eliminate.

  If the socialists attempt to belittle the significance of the problem of economic calculation in the Socialist community, on the ground that the forces of the market do not lead to ethically justifiable arrangements, they simply show that they do not understand the real nature of the problem. It is not a question of whether there shall be produced cannons or clothes, dwelling houses or churches, luxuries or subsistence. In any social order, even under Socialism, it can very easily be decided which kind and what number of consumption goods should be produced. No one has ever denied that. But once this decision has been made, there still remains the problem of ascertaining how the existing means of production can be used most effectively to produce these goods in question. In order to solve this problem it is necessary that there should be economic calculation. And economic calculation can only take place by means of money prices established in the market for production goods in a society resting on private property in the means of production. That is to say, there must exist money prices of land, raw materials, semimanufactures; that is to say, there must be money wages and interest rates.

  Thus the alternative is still either Socialism or a market economy.

  5

  Profitability and Productivity

  The economic activity of the socialist community is subject to the same external conditions as govern an economic system based on private property in the means of production or indeed any conceivable economic system. The economic principle applies to it in the same way as to any and to all economic systems: that is to say it recognizes an hierarchy of ends, and must therefore strive to achieve the more important before the less important. This is the essence of economic activity.

  lt is obvious that the production activities of the socialist community will involve not only labour but also material instruments of production. According to a very widespread custom, these material instruments of production are called capital. Capitalist production is that which adopts wise roundabout methods in contrast with a non-capitalistic production which goes directly to its end in a hand to mouth manner.24 If we adhere to this terminology, we must admit that the socialist community must also work with capital and will therefore produce capitalistically. Capital conceived as the intermediate products, which arise at the different stages of production by indirect methods, would not, at any rate at first25 be abolished by Socialism. It would merely be transferred from individual to common possession.

  But if, as we have suggested above, we wish to understand by capitalistic production that economic system in which money-calculation is employed, so that we can summarize under the term capital a set of goods devoted to production and evaluated in terms of money, and can attempt to estimate the results of economic activity by the variations in the value of capital, then it is clear that socialist methods of production cannot be termed capitalistic. In quite another sense than the Marxians we can distinguish between socialistic and capitalistic methods of production, and between Socialism and Capitalism.

  The characteristic feature of the capitalistic method of production, as it appears to socialists, is that the producer works to obtain a profit. Capitalistic production is production for profit, socialist production will be production for the satisfaction of needs. That capitalistic production aims at profit is quite true. But to achieve a profit, that is a result greater in value than the costs, must also be the aim of the socialist community. If economic activity is rationally directed, that is if it satisfies more urgent before less urgent needs, it has already achieved profits, since the cost, i.e. the value of the most important of the unsatisfied needs, is less than the result attained. In the capitalistic system profits can only be obtained if production meets a comparatively urgent demand. Whoever produces without attending to the relation between supply and demand fails to achieve the result at which he is aiming. To direct production towards profit simply means to direct it to satisfy other people’s demand: in this sense it may be contrasted with isolated man’s production for personal needs. But he also is working for profit in the sense used above. Between production for profit and production for needs there is no contrast.26

  The contrasting of production for profit and production for needs is closely connected with the common practice of contrasting productivity and profitability or the “social” and “private” economic point of view. An economic action is said to be profitable if in the capitalist system it yields an excess of receipts over costs. An economic action is said to be productive when, seen from the point of view of a hypothetical socialist community, the yield exceeds the cost involved. Now in some cases productivity and profitability do not coincide. Some economic acts which are profitable are not productive and, vice versa, some are productive but not profitable. For those naively biased in favour of Socialism, as is the case even with most economists, this fact is sufficient to condemn the capitalistic order of society. Whatever a socialist community would do seems to them undisputably good and reasonable: that anything different can happen in a capitalistic society is, in their opinion, an abuse which cannot be tolerated. But an examination of the cases in which profitability and productivity are alleged not to coincide will show that this judgment is purely subjective, and that the scientific cloak with which it is invested is a sham.27

  In the majority of cases in which it is usually assumed that there is a contrast between profitability and productivity no such contrast exists. This is true, for example, of profits from speculation. Speculation in the capitalist system performs a function which must be performed in any economic system however organized: it provides for the adjustment of supply and demand over time and space. The source of the profit of speculation is enhanced value which is independent of any particular form of economic organization. When the speculator purchases at a low price products which come on the market in comparatively large quantities and sells them at a higher price when the demand has again increased, his gains represent, from a business and from the economic point of view, an increase of value. That in a socialist order the community and not the individual would get this much grudged and maligned profit we do not deny. But that is not the significance of the problem in which we are interested. The point which concerns us here is that the alleged contrast between profitability and productivity does not exist in this case. Speculation performs an economic service which cannot conceivably be eliminated from any economic system. If it is eliminated, as socialists intend to do, then some other organization must take over its functions: the community itself must become a speculator. Without speculation there can be no economic activity reaching beyond the immediate present.

  A contrast between profitability and productivity is sometimes supposed to be discovered by picking out a particular process and considering it by itself. People may perhaps characterize as unproductive certain features peculiar to the constitution of the capitalistic organization of industry, e.g. selling expenses, advertising costs and the like are characterized as unproductive. This is not legitimate. We must consider the result of the complete process, not the individual stages. We must not consider the constituent expenses without setting against them the result to which they contribute.28

  6

  Gross and Net Product

  The most ambitious attempt to contrast productivity and profitability derives from the examination of the relationship between gross product and net product. It is clear that every entrepreneur in the capitalist system aims at achieving the largest net product. But it is asserted that rightly considered the object of economic activity should be to achieve not the largest net product but the largest gross product.

  This belief, however, is a fallacy based upon primitive speculations regarding valuation. But judged by its widespread acceptance even today it is a very popular fallacy. It is implicit when people say that a certain line of production is to be recommended because it employs a large number of workers, or when a particular improvement in production is opposed because it may deprive people of a living.

  If the advocates of such views were logical they would have to admit that the gross product principle applies not only to labour but also to the material instruments of production. The entrepreneur carries production up to the point where it ceases to yield a net product. Let us assume that production beyond this point requires material instruments only and not labour. Is it in the interest of society that the entrepreneur should extend production so as to obtain a larger gross product? Would society do so if it had the control of production? Both questions must be answered with a decided no. The fact that further production does not pay shows that the instruments of production could be applied to a more urgent purpose in the economic system. If, nevertheless, they are applied to the unprofitable line then they will be lacking in places where they are more urgently needed. This is true under both Capitalism and Socialism. Even a socialist community, supposing it acted rationally, would not push certain lines of production indefinitely and neglect others. Even a socialist community would discontinue a particular line of production when further production would not cover the expense, that is to say, at the point where further production would mean failure to satisfy a more urgent need elsewhere.

  But what is true of the increased use of material instruments is true exactly in the same way of the increased use of labour. If labour is devoted to a particular line of production to the point where it only increases the gross product while the net product declines, it is being withheld from some other line where it could perform more valuable service. And here, again, the only result of neglecting the principle of net product is that more urgent wants remain unsatisfied whilst less urgent ones are met. It is this fact, and no other which is made evident in the mechanism of the capitalist system by the decline in the net product. In a socialist community it would be the duty of the economic administration to see that similar misapplications of economic activity did not occur. Here, therefore, is no discrepancy between profitability and productivity. Even from the socialist standpoint, the largest possible net product and not the largest possible gross product must be the aim of economic activity.

  Nevertheless, people continue to maintain the contrary, sometimes of production in general, sometimes of labour alone and sometimes of agricultural production. That capitalist activity is directed solely toward the attainment of the largest net product is adversely criticized and State intervention is called for to redress the alleged abuse.

  This discussion has a lengthy ancestry. Adam Smith maintained that different lines of production should be regarded as more or less productive according to the greater or smaller amount of labour which they set in motion.29 For this he was adversely criticized by Ricardo who pointed out that welfare of the people increased only through an enlargement of the net product and not of the gross product.30 For this Ricardo was severely attacked. Even J. B. Say misunderstood him and accused him of an utter disregard for the welfare of so many human beings.31 While Sismondi, who was fond of meeting economic arguments by sentimental declamations, thought he could dispose of the problem by witticism: he said that a king who could produce net product by pressing a button would, according to Ricardo, make the nation superfluous.32 Bernhardi followed Sismondi on this point.33 Proudhon went as far as to epitomize the contrast between socialistic and private enterprise in the formula: that although society must strive for the largest gross product the aim of the entrepreneur is the largest net product.34 Marx avoids committing himself on this point, but he fills two chapters of the first book of Das Kapital with a sentimental exposition in which the transition from intensive to extensive agricultural methods is depicted in the darkest colour as, in the words of Sir Thomas More, a system “where sheep eat up men,” and manages in the course of this discussion to confuse the large expropriations achieved by the political power of the nobility, which characterized European agrarian history in the first centuries of modern times, with the changes in the methods of cultivation initiated later on by the landowners.35

  Since then declamations on this scheme have formed the stock equipment of the controversial writings and speeches of the socialists. A German agricultural economist, Freiherr von der Goltz, has tried to prove that the attainment of the largest possible gross product is not only productive from the social point of view but is also profitable from the individual point of view. He thinks that a large gross product naturally presupposes a large net product, and to that extent the interests of the individuals whose main object is to achieve a large net product coincide with those of the State which desires a large gross product.36 But he can offer no proof of this.

  Much more logical than these efforts to overcome the apparent contrast between social and private interests by ignoring obvious facts of agricultural accountancy, is the position taken up by followers of the romantic school of economic thought, particularly the German etatists, viz. that the agriculturist has the status of a civil servant, and is therefore obliged to work in the public interest. Since this is said to require the largest possible gross product it follows that the farmer, uninfluenced by commercial spirit, ideas or interests, and regardless of the disadvantages, which may be entailed, must devote himself to the attainment of this end.37 All these writers take it for granted that the interests of the community are served by the largest gross product. But they do not go out of their way to prove it. When they do try, they only argue from the point of view of Machtpolitik (power politics) or Nationalpolitik (national policy). The State has an interest in a strong agricultural population since the agricultural population is conservative; agriculture supplies the largest number of soldiers; provision must be made for feeding the population in time of war and so on.

  In contrast to this an attempt to justify the gross product principle by economic reasoning has been made by Landry. He will only admit that the effort to attain the greatest net product is socially advantageous in so far as the costs which no longer yield a profit arise from the use of material instruments of production. When the application of labour is involved he thinks quite otherwise. Then, from the economic point of view the application of labour costs nothing: social welfare is not thereby diminished. Wage economies which result in a diminution of the gross product are harmful.38 He arrives at this conclusion by assuming that the labour force thus released could find no employment elsewhere. But this is absolutely wrong. The need of society for labour is never satisfied as long as labour is not a “free good.” The released workers find other employment where they have to supply work more urgent from the economic point of view. If Landry were right it would have been better if all the labour-saving machinery had never existed, and the attitude of those workers who resist all technical innovations which economize labour and who destroy such machinery would be justified. There is no reason why there should be a distinction between the employment of material instruments and of labour. That, in view of the price of the material instruments and the price of their products, an increase of production in the same line is not profitable, is due to the fact that the material instruments are required in some other line to satisfy more urgent needs. But this is equally true of labour. Workers who are employed in unprofitably increasing the gross product are withheld from other lines of production in which they are more urgently required. That their wages are too high for an increase in production involving a larger gross product to be profitable, results indeed from the fact that the marginal productivity of labour in general is higher than in the particular line of production in question, where it is applied beyond the limits determined by the net product principle. There is no contrast whatever here between social and private interests: a socialist organization would not act differently from an entrepreneur in the capitalist organization.

  Of course there are plenty of other arguments which can be adduced to show that adherence to the net product principle may be harmful. They are common to all nationalist-militarist thinking, and are the well-known arguments used to support every protectionist policy. A nation must be populous because its political and military standing in the world depends upon numbers. It must aim at economic self-sufficiency or at least it must produce its food at home and so on. In the end Landry has to fall back on such arguments to support his theory.39 To examine such arguments would be out of place in a discussion of the isolated socialist community.

  But if the arguments we have examined are untrue it follows that the socialist community must adopt net product and not gross product as the guiding principle of economic activity. The socialist community equally with the capitalist society will also transform arable into grass land, if it is possible to put more productive land under the plough elsewhere. In spite of Sir Thomas More, “sheep will eat up men” even in Utopia, and the rulers of the socialist community will act no differently from the Duchess of Sutherland, that “economically instructed person,” as Marx once jeeringly called her.40

  The net product principle is true for every line of production. Agriculture is no exception. The dictum of Thaer, the German pioneer of modern agriculture, that the aim of the agriculturist must be a high net yield “even from the standpoint of the public welfare” still holds good.41

  CHAPTER 7

  The Distribution of Income

  1

  The Nature of Distribution Under Liberalism and Socialism

  On logical grounds, treatment of the problem of income should properly come at the end of any investigation into the life of the socialist community. Production must take place before distribution is possible, therefore, logically, the former should be discussed before the latter. But the problem of distribution is so prominent a feature of Socialism as to suggest the earliest possible discussion of the question. For fundamentally, Socialism is nothing but a theory of “just” distribution; the socialist movement is nothing but an attempt to achieve this ideal. All socialist schemes start from the problem of distribution and all come back to it. For Socialism the problem of distribution is the economic problem.

  The problem of distribution is moreover peculiar to socialism. It arises only in a socialist economy. It is true, we are in the habit of speaking of distribution in an economic society based on private property, and economic theory deals with the problem of income and the determination of the prices of the factors of production under the heading “Distribution.” This terminology is traditional, and it is so firmly established that the substitution of another would be unthinkable. Nevertheless, it is misleading and does not indicate the nature of the theory which it is meant to describe. Under Capitalism incomes emerge as a result of market transactions which are indissolubly linked up with production. We do not first produce things and afterwards distribute them. When products are supplied for use and consumption, incomes for the greater part have already been determined, since they arise during the process of production and are indeed derived from it. Workers, landowners, and capitalists and a large number of the entrepreneurs contributing to production have already received their share before the product is ready for consumption. The prices which are obtained for the final product on the market decide only the income which a section of entrepreneurs obtain from the process of production. (The influence which these prices have on the income of other classes has already been exerted via the anticipations of the entrepreneurs.) As thus in the capitalistic order of society the aggregation of individual incomes to form a total social income is only a theoretical conception, the concept of distribution is only figurative. The reason that this expression has been adopted, instead of the simple and more suitable term formation of income, is that the founders of scientific economics, the Physiocrats and the English classical school, only gradually learned to free themselves from the etatistic outlook of mercantilism. Although precisely this analysis of income formation as a result of market transactions was their principal achievement, they adopted the practice—fortunately without any harm to the content of their teachings—of grouping the chapters dealing with the different kinds of income under the heading “distribution.”42

  Only in the socialist community is there any distribution of consumable goods in the true sense of the word. If in considering capitalistic society we use the term distribution in any but a purely figurative sense then an analogy is being made between the determination of income in a socialist and in a capitalist community. The conception of any actual process of distribution of income must be kept out of any investigation of the mechanism of capitalist society.

  2

  The Social Dividend

  According to the fundamental idea of Socialism only goods which are ripe for consumption are eligible for distribution. Goods of a higher order remain the property of the community for purposes of further production; they must not be distributed. Goods of the first order, on the contrary, are without exception destined to be distributed: they constitute indeed the net social dividend. Since in considering the socialist society we cannot quite get rid of ideas which are only appropriate to the capitalist order, it is usual to say that the society will retain a part of the consumers’ goods for public consumption. We are really thinking of that part of consumption which in the capitalistic society is usually called public expenditure. Where the principle of private property is rigidly applied this public expenditure consists exclusively of the cost of maintaining the apparatus which assures the undisturbed course of things. The only task of the strictly Liberal state is to secure life and property against attacks both from external and internal foes. It is a producer of security, or, as Lassalle mockingly termed it, a night watchman’s state. In a socialist community there will be the corresponding task of securing the socialist order and the peaceful course of socialistic production. Whether the apparatus of coercion and violence which serves this purpose will still be known as the state or be called by some other name, and whether it will be legally given a separate status among the other functions incumbent upon the socialist community, is a matter of complete indifference to us. We have only to make it clear that all expenditure devoted to this end will appear in the socialist community as general costs of production. So far as they involve the use of labour for the purposes of distributing the social dividend, they must be reckoned in such a way that the workers employed get their share.

  But public expenditure includes other outlays. Most states and municipalities provide their citizens with certain utilities in kind, sometimes gratuitously, sometimes at a charge which covers only a part of the expense. As a rule this happens in the case of single services which are yielded by durable commodities. Thus parks, art galleries, public libraries, places of worship, are made available for those who wish to use them. Similarly, roads and streets are accessible to everyone. Moreover, direct distribution of consumption goods takes place, as for example, when medicine and diet are given to the sick and educational apparatus to pupils; personal service is also supplied when medical treatment is given. All this is not Socialism, it is not production on the basis of common ownership of the means of production. Distribution, indeed, occurs here, but what is distributed is first collected by taxation from the citizens. Only so far as this distribution deals with products of state or municipal production can it be described as a piece of Socialism within the framework of an otherwise liberal order of society. We need not stop to inquire how far this branch of state and municipal activity is due to views which have been influenced by the socialist critics of capitalist society and how far it is due to the special nature of certain particularly durable consumption goods which yield almost unlimited service. For us it is only important that in the case of this public expenditure, even in an otherwise capitalistic society, a distribution in the actual sense of the word takes place.

  Moreover, the socialist community will not make a physical distribution of all consumers’ goods. It is not likely to present a copy of every new book to every citizen, but rather to place the books in public reading rooms for the general use. It will do the same with its schools and teaching, its public gardens, playgrounds and assembly halls. The expenditure which all these arrangements necessitate is not deducted from the social dividend; on the contrary, it is a part of the social dividend.

  This part of the social dividend exhibits this one peculiarity, that without prejudice to the principles which determine the distribution of consumable consumers’ goods and part of durable goods, special principles of distribution can be applied to it corresponding to the special nature of the services involved. The way in which art collections and scientific publications are made available for general use is quite independent of the rules which are otherwise applied to the distribution of goods of the first order.

  3

  The Principles of Distribution

  The socialist community is characterized by the fact that in it there is no connection between production and distribution. The magnitude of the share which is assigned for the use of each citizen is quite independent of the value of the service he renders. It would be fundamentally impossible to base distribution on the imputation of value because it is an essential feature of socialistic methods of production that the shares of the different factors of production in the result cannot be ascertained; and any arithmetical test of the relations between effort and result is impossible.

  It would therefore not be possible to base even a part of distribution on an economic calculation of the contribution of the different factors, e.g. by first granting the worker the full product of his labour which under the capitalist system he would receive in the form of wages, and then applying a special form of distribution in the case of the shares which are attributed to the material factors of production and to the work of the entrepreneur. On the whole socialists lack any clear conception of this fact. But a faint suspicion of them pervades the Marxian doctrine that under Socialism the categories wages, profit, and rent would be unthinkable.

  There are four different principles upon which socialistic distribution can conceivably be based: equal distribution per head, distribution according to service rendered to the community, distribution according to needs, and distribution according to merit. These principles can be combined in different ways.

  The principle of equal distribution derives from the old doctrine of natural law of the equality of all human beings. Rigidly applied it would prove absurd. It would permit no distinction between adults and children, between the sick and the healthy, between the industrious and the lazy, or between good and bad. It could be applied only in combination with the other three principles of distribution. It would at least be necessary to take into account the principle of distribution according to needs, so that shares might be graded according to age, sex, health and special occupational needs; it would be necessary to take into account the principle of distribution according to services rendered, so that distinction could be made between industrious and less industrious, and between good and bad workers; and finally, some account would have to be taken of merit, so as to make reward or punishment effective. But even if the principle of equal distribution is modified in these ways the difficulties of socialistic distribution are not removed. In fact, these difficulties cannot be overcome at all.

  We have already shown the difficulties raised by applying the principle of distribution according to value of services rendered. In the capitalist system the economic subject receives an income corresponding to the value of his contribution to the general process of production. Services are rewarded according to their value. It is precisely this arrangement which Socialism wishes to change and to replace by one under which the shares attributed to the material factors of production and to the entrepreneur would be so distributed that no property owner and no entrepreneur would have a standing fundamentally different from that of the rest of the community. But this involves a complete divorce of distribution from economic imputation of value. It has nothing to do with the value of the individual’s service to the community. It could be brought into external relation with the service rendered only if the service of the individual were made the basis of distribution according to some external criteria. The most obvious criterion appears to be the number of hours worked. But the significance to the social dividend of any service rendered is not to be measured by the length of working time. For, in the first place, the value of the service differs according to its use in the economic scheme. The results will differ according to whether the service is used in the right place, that is to say, where it is most urgently required, or in the wrong place. In the socialist organization, however, the worker cannot be made ultimately responsible for this, but only those who assign him the work. Secondly, the value of the service varies according to the quality of the work and according to the particular capability of the worker; it varies according to his strength and his zeal. It is not difficult to find ethical reasons for equal payments to workers of unequal capabilities. Talent and genius are the gifts of God, and the individual is not responsible for them, as is often said. But this does not solve the problem whether it is expedient or practicable to pay all hours of labour the same price.

  The third principle of distribution is according to needs. The formula of each according to his needs is an old slogan of the unsophisticated communist. It is occasionally backed up by referring to the fact that the Early Christians shared all goods in common.43 Others again regard it as practicable because it is supposed to form the basis of distribution within the family. No doubt it could be made universal if the disposition of the mother, who hungers gladly rather than that her children should go without, could be made universal. The advocates of the principle of distribution according to needs overlook this. They overlook much more besides. They overlook the fact that so long as any kind of economic effort is necessary only a part of our needs can be satisfied, and a part must remain unsatisfied. The principle of “to each according to his needs” remains meaningless so long as it is not defined to what extent each individual is allowed to satisfy his needs. The formula is illusory since everyone has to forgo the complete satisfaction of all his needs.44 It could indeed be applied within narrow limits. The sick and suffering can be assigned special medicine, care, and attendance, better attention and special treatment for their special needs, without making this consideration for exceptional cases the general rule.

  Similarly it is quite impossible to make the merit of the individual the general principle of distribution. Who is to decide on merits? Those in power have often had very strange views on the merits or demerits of their contemporaries. And the voice of the people is not the voice of God. Who would the people choose today as the best of their contemporaries? It is not unlikely that the choice would fall on a film star, or perhaps on a prize-fighter. Today the English people would probably be inclined to call Shakespeare the greatest Englishman. Would his contemporaries have done so? And how would they esteem a second Shakespeare if he were among them today? Moreover, why should those be penalized in whose lap Nature has not placed the great gifts of talent and genius? Distribution according to the merits of the individual would open the door wide to mere caprice and leave the individual defenseless before the oppression of the majority. Conditions would be created which would make life unbearable.

  As far as the economics of the problem are concerned it is a matter of indifference which principle or which combination of different people is made a basis for distribution. Whatever principle is adopted the fact remains that each individual will receive an allocation from the community. The citizen will receive a bundle of claims which can be exchanged within a certain time for a definite amount of different goods. In this way he will procure his daily meals, fixed shelter, occasional pleasures, and from time to time new clothing. Whether the satisfaction of needs which he obtains in this way is great or small will depend upon the productivity of the efforts of the community.

  4

  The Process of Distribution

  It is not necessary that each individual should himself consume the whole share allotted to him. He can let some go to waste, give some away, or, as far as the commodity permits, put some aside for later consumption. Some, however, he can exchange. The beer drinker will readily forgo his share of non-alcoholic drink to obtain more beer. The abstainer will be prepared to forgo his claim to spirits if he can acquire other commodities instead. The aesthete will surrender a visit to the cinema for the sake of more opportunities to hear good music; the lowbrow will willingly exchange tickets to art galleries for more congenial pleasures. Everyone will be ready to exchange, but the exchange will be confined to consumers’ goods. Producers’ goods will be res extra commercium (things beyond commerce).

  Such exchange need not be confined to direct barter: it can also take place indirectly within certain narrow limits. The same reasons which have led to indirect exchange in other types of society will make it advantageous to those exchanging in the socialistic community. It follows that even here there will be opportunity for the use of a general medium of exchange—money.

  The role of money in the socialist economy will be fundamentally the same as in a free economic system—that of a general facilitator of exchange. But the significance of this role will be quite different. In a society based on the collective ownership of the means of production, the significance of the role of money will be incomparably narrower than in a society based on private property in the means of production. For in the socialist commonwealth, exchange itself has a much narrower significance, since it is confined to consumers’ goods only. There cannot be money prices of producers’ goods since these do not enter into exchange. The accounting function which money exercises in production in a free economic order will no longer exist in a socialist community. Money calculations of value will be impossible.

  Nevertheless the central administration of production and distribution cannot leave out of consideration the exchange relations which arise in this sort of traffic. Clearly it would have to take them into account if it desired to make different commodities mutually substitutable when assessing the distribution of the social dividend.

  Thus if in the process of exchange the relation of one cigar to five cigarettes was established, the administration could not arbitrarily lay it down that one cigar equalled three cigarettes, so that it might be able on this basis to give one individual only cigars and another only cigarettes. If the tobacco allowance has not been equally distributed, partly in cigars and partly in cigarettes, that is to say, if some—either according to their wishes or by order of the government—received only cigars and others only cigarettes, the exchange relations already established could not be ignored. Otherwise all those who received cigarettes would be unfairly treated, compared with those receiving cigars, since the person who had received a cigar could exchange it for five cigarettes whilst he had obtained it as the equivalent of three cigarettes.

  Alterations of exchange relationships in this traffic among the citizens would consequently compel the administration to make corresponding changes in the substitution ratios of the various commodities. Every such change will indicate that the relations between the various needs of the citizens and their satisfaction had altered, that people now wanted some commodities more than before, others less. The economic administration would presumably endeavor to adjust production to this change. It would endeavour to produce more of the more desired commodity and less of the less desired. But one thing, however, it would not be able to do: it would not be able to permit the individual citizens to redeem their tobacco tickets arbitrarily in cigars or cigarettes. If individuals were allowed free choice of cigars or cigarettes they might demand more cigars or more cigarettes than had been produced, or, on the other hand, cigars or cigarettes might be left on hand at the distributing centers because no one demanded them.

  The labour theory of value appears to offer a simple solution of this problem. For an hour of labour a citizen receives a token which entitles him to the product of one hour of labour, with a deduction to defray the general obligation of the community, e.g. support of the disabled, expenditure on cultural purposes. Allowing for this deduction to cover the expenditure borne by the community as a whole, every worker who has worked one hour will have the right to obtain products on which one hour of labour has been expended. Any one who is ready to pay by giving to the community his own working time corresponding to the working time used to produce them can draw from the supply centers consumers’ goods and services and apply them to his own use.

  But such a principle of distribution would not work, since labour is not uniform or homogeneous. There are qualitative differences between the different forms of labour which, taken in conjunction with variations in the supply and demand of the resulting products, lead to different values. Ceteris paribus the supply of pictures cannot be increased without the quality of the work suffering. The worker who has supplied an hour of simple labour cannot be granted the right to consume the product of an hour of work of a higher quality: and it would be impossible in a socialist community to establish any connection between the importance of work done for the community and the share in the yield of communal production given for the work. Payment for work would be quite arbitrary. For the methods of calculating value used in a free economic society based on private ownership of the means of production would be inaccessible to it since, as we have seen, such imputation is impossible in a socialistic society. Economic facts would clearly limit the power of society to reward the labourer arbitrarily; in the long run the wage total can in no circumstances exceed the income of society. Within this limit, however, the community is free to act. It can decide to pay all work equally, regardless of quality; it can just as easily make a distinction between the various hours of work, according to the quality of the work rendered. But in both cases it must reserve the right to decide the particular distribution of the products.

  Even if we abstract from differences in the quality of labour and its product and accept the possibility of determining how much labour inheres in any product, the community would never allow the individual who had rendered an hour of labour to consume the product of an hour’s labour. For all economic goods entail material costs apart from labour. A product for which more raw material is required must not be made equivalent to a product requiring less raw material.

  5

  The Costs of Distribution

  Socialistic criticism of the capitalist system devotes much space to complaints about the high costs of what can be called the apparatus of distribution. They include under this the cost of all national and political institutions, including expenditure on military purposes and war. They also include the expense to society arising from free competition. All the expenditure on advertisement and the activities of persons involved in the competitive struggle such as agents, commercial travellers, etc., and the costs entailed by the efforts of firms to remain independent instead of amalgamating into larger units or joining cartels which make possible specialization and thereby the cheapening of production, are debited to the distributive process of the capitalist system. The socialistic society will, so the critics think, save enormously by putting an end to this waste.

  The expectation that the socialist community will save that outlay which can properly be termed state expenditure is derived from the doctrine, peculiar to many anarchists and to Marxian socialists, that state compulsion would be superfluous in a society not based on private property in the means of production. They argue that in the socialist community “obedience to the simple fundamental rules governing any form of social life will very soon become of necessity a habit,” but this is backed up by a hint that “evasion of regulation and control enforced by the whole people will undoubtedly be enormously difficult,” and will incur “swift and severe punishment,” since “the armed workers” would not be “sentimental intellectuals” nor “let themselves be mocked.”45 All this is merely playing with words. Control, Arms, Punishment, are not these “a special repressive authority,” and thus according to Engels’ own words a “State”?46 Whether the compulsion is exercised by armed workers—who cannot work while they bear arms—or by the workers’ sons clad in police uniforms, will make no difference to the costs which the compulsion entails.

  But the State is a coercive apparatus not only to its own inhabitants: it applies coercion externally. Only a state comprising the whole universe would need to exert no external coercion and then only because in that event there would be no foreign land, no foreigners and no foreign states. Liberalism, with its fundamental antagonism to warfare, wants to give the whole world some state form of organization. If this can be achieved it is inconceivable without a coercive apparatus. If all the armies of the individual states were abolished we could not dispense with a world apparatus of coercion, a world police to ensure world peace. Whether Socialism unites all states into a single one or whether it leaves them independent of each other, in any case it too will not be able to do without a coercive apparatus.

  The socialist apparatus of coercion too will entail some expense. Whether this will be greater or less than the expense of the state apparatus of the capitalist society naturally we cannot say. We merely need to see that the social dividend will be reduced by the amount involved.

  As for the wastes of distribution under Capitalism, little need be said. Since in capitalist society there is no distribution in the real sense of the word there are no costs of distribution. Trading expenses and similar costs cannot be called distribution costs, not only because they are not the costs of a distribution, which is a special process in itself, but also because the effects of the services devoted to these purposes extend far beyond the mere distribution of goods. Competition is not confined to distribution: that is only a part of its service. It serves equally the process of production, indeed it is essential for any organization of production which is to ensure high productivity. It is not enough therefore to compare these costs with the costs incurred by the apparatus of distribution and management in a socialist community. If socialist methods of production reduce productivity—and we shall speak of this later—it matters little that it saves the work of commercial travellers, brokers and advertisers.

  CHAPTER 8

  The Socialist Community Under Stationary Conditions

  1

  Stationary Conditions

  To assume stationary economic conditions is a theoretical expedient and not an attempt to describe reality. We cannot dispense with this line of thought if we wish to understand the laws of economic change. In order to study movement we must first imagine a condition where it does not exist. The stationary condition is that point of equilibrium to which we conceive all forms of economic activity to be tending and which would actually be attained if new factors did not, in the meantime, create a new point of equilibrium. In the imaginary state of equilibrium all the units of the factors of production are employed in the most economic way, and there is no reason to contemplate any changes in their number or their disposition.

  Even if it is impossible to imagine a living—that is to say a changing—socialist economic order, because economic activity without economic calculation seems inconceivable, it is quite easy to postulate a socialist economic order under stationary conditions. We need only avoid asking how this stationary condition is achieved. If we do this there is no difficulty in examining the statics of a socialist community. All socialist theories and Utopias have always had only the stationary condition in mind.

  2

  The Disutilities and Satisfactions of Labour

  Socialist writers depict the socialist community as a land of heart’s desire. Fourier’s sickly fantasies go farthest in this direction. In Fourier’s state of the future all harmful beasts will have disappeared, and in their places will be animals which will assist man in his labours—or even do his work for him. An anti-beaver will see to the fishing; an anti-whale will move sailing ships in a calm; an anti-hippopotamus will tow the river boats. Instead of the lion there will be an anti-lion, a steed of wonderful swiftness, upon whose back the rider will sit as comfortably as in a well-sprung carriage. “It will be a pleasure to live in a world with such servants.”47 Godwin even thought that men might be immortal after property had been abolished.48 Kautsky tells us that under the socialist society “a new type of man will arise ... a superman ... an exalted man.”49 Trotsky provides even more detailed information: “Man will become incomparably stronger, wiser, finer. His body more harmonious, his movements more rhythmical, his voice more musical ... The human average will rise to the level of an Aristotle, a Goethe, a Marx. Above these other heights new peaks will arise.”50 And writers of this sort of stuff are continually being reprinted and translated into other tongues, and made the subject of exhaustive historical theses!

  Other socialist writers are more circumspect in their pronouncements but they proceed on essentially similar assumptions. Tacitly underlying Marxian theory is the nebulous idea that the natural factors of production are such that they need not be economized. Such a conclusion indeed follows inevitably from a system that reckons labor as the only element in costs, that does not accept the law of diminishing returns, rejects the Malthusian law of population and loses itself in obscure fantasies about the unlimited possibility of increasing productivity.51 We need not go further into these matters. It is sufficient to recognize that even in a socialist community the natural factors of production would be limited in quantity and would therefore have to be economized.

  The second element which would have to be economized is labour. Even if we ignore differences in quality it is obvious that labour is available only to a limited extent: the individual can only perform a certain amount of labour. Even if labour were a pure pleasure it would have to be used economically, since human life is limited in time, and human energy is not inexhaustible. Even the man who lives at his leisure, untrammelled by monetary considerations, has to dispose of his time, i.e. choose between different possible ways of spending it.

  It is clear, therefore, that in the world as we know it, human behaviour must be governed by economic considerations. For while our wants are unlimited, the goods of the first order bestowed by nature are scarce; and, with a given productivity of labour, goods of a higher order can serve to increase the satisfaction of needs only by increasing labour. Now, quite apart from the fact that labour cannot be increased beyond a certain point, an increase of labour is accompanied by increasing disutility.

  Fourier and his school regard the disutility of labour as a result of perverse social arrangements. These alone in their view are to blame for the fact that in accepted usage the words “labour” and “toil” are synonymous. Labour in itself is not unpleasant. On the contrary, all men need to be active. Inactivity entails intolerable boredom. If labour is to be made attractive it must be carried on in healthy, clean workplaces; the joy of labour must be aroused by a happy feeling of union among the workers and cheerful competition between them. The chief cause of the repugnance which labour arouses is its continuity. Even pleasures pall if they last too long. Therefore the workers must be allowed to interchange their occupations at will; work will then be a pleasure and no longer create aversion.52

  It is not difficult to expose the error contained in this argument, though it is accepted by socialists of all schools. Man feels the impulse to activity. Even if need did not drive him to work he would not always be content to roll in the grass and bask in the sun. Even young animals and children whose nourishment is provided by their parents kick their limbs, dance, jump and run so as to exercise powers yet unclaimed by labour. To be stirring is a physical and mental need. Thus, in general, purposeful labour gives satisfaction. Yet only up to a certain point; beyond this it is only toil. In the following diagram the line 0 x along which the product of labour is measured, marks the dividing line between the disutility of labour and the satisfaction the exercise of our powers affords, which may be called immediate satisfaction due to labour. The curve, a, b, c, p represents labour disutility and immediate labour satisfaction in relation to the product. When labour commences it is found disagreeable. After the first difficulties have been overcome and body and mind are better adapted, then the disagreeableness declines. At b neither disagreeableness nor satisfaction predominates. Between b and c direct satisfaction prevails. After c disagreeableness recommences. With other forms of labour the curve may run differently, as in 0 c₁p₁ or 0p₂. That depends on the nature of the work and the personality of the workers. It is different for ditchdiggers and for jockeys: it is different for dull and for energetic men.53

  

  Why is labour continued when the disutility which its continuance occasions exceeds the direct satisfaction deriving from it? Because something else beside direct labour satisfaction comes into account, namely the satisfaction afforded by the product of the labour; we call this indirect labour satisfaction. Labour will be continued so long as the dissatisfaction which it arouses is counterbalanced by the pleasure derived from its product. Labour will only be discontinued at the point at which its continuation would give rise to more disutility than utility.

  The methods by which Fourier wished to deprive labour of its unattractiveness were indeed based upon correct observations, but he greatly overrated the bearing of his argument. It is clear that the amount of work which affords direct labour satisfaction supplies such a small fraction of the needs which men consider imperative that they readily undergo the hardship of performing irksome work. But it is a mistake to assume that any significant change would take place if workers were allowed to change occupations at short intervals. For in the first place the product of labour would be reduced because of the diminished skill acquired by the individual as a result of diminished practice in each of his various occupations; also because every changeover would cause loss of time, and labour would be expended in the shuffling. And in the second place only a very slight part of the excess of labour disutility over direct labour satisfaction is due to weariness with the particular job in hand. Hence the capacity to derive direct satisfaction from another form of labour is not what it would have been if the first job had not been performed. Clearly the greater part of the disutility is due to general fatigue of the organism and to a desire to be released from any further constraint. The man who has worked for hours at a desk will prefer to chop wood for an hour rather than spend another hour at the desk. But what made his labour unpleasant was not only the need for change but rather the length of the work. If the product is not to be diminished the length of the working day can be reduced only by increased productivity. The widespread opinion that there is labour which only tires the body and labour which only tires the mind is incorrect, as everyone can prove for himself. All labour affects the whole organism. We deceive ourselves on this point because in observing other forms of occupation we see only the direct labour satisfaction. The clerk envies the coachman, because he would like a little recreation in driving: but his envy would last only as long as the satisfaction exceeded the pain. Similarly hunting and fishing, mountain climbing, riding and driving are undertaken for sport. But sport is not work in the economic sense. It is the hard fact that men cannot subsist on the small amount of labour yielding direct labour satisfaction which compels them to suffer the irksomeness of toil, not the bad organization of labour.

  It is obvious, that improvements in the conditions under which labour is performed may increase the product with unchanged irksomeness or lessen the irksomeness for the same product. But it would be impossible to improve these conditions more than actually occurs under capitalism without rising cost. That labour is less irksome when performed in company has been known from of old, and where it seems possible to let workers work together without reducing output, it is done.

  There are, of course, exceptional natures that rise above the common level. The great creative genius who perpetuates himself in immortal works and deeds does not when working distinguish the pain from the pleasure. For such men creation is at once the greatest joy and the bitterest torment, an inner necessity. What they create has no value to them as a product: they create for the sake of creation, not for the result. The product costs them nothing because, when working, they forgo nothing dearer to them than their work. And their product only costs society what they could have produced by other labour. In comparison to the value of the service this cost is nothing. Genius is truly a gift of God.

  Now the life history of great men is familiar to all. Thus the social reformer is easily tempted to regard what he has heard of them as common attributes. We continually find people inclined to regard the mode of life of the genius as the typical way of living of a simple citizen of a socialist community. But not every one is a Sophocles or a Shakespeare, and standing behind a lathe is not the same thing as writing Goethe’s poems or founding the Empire of Napoleon.

  It is therefore easy to see the nature of the illusions entertained by Marxians with regard to the satisfactions and toil of the inhabitants of the socialist community. Here, as in everything else it has to say about the socialist community, Marxism moves along the lines set out by the Utopians. With express reference to Fourier’s and Owen’s ideas of restoring to work “the attractiveness lost through division of labour,” by arranging for each form of work to be performed for a short time only, Engels sees in Socialism an organization of production “in which productive labour will be not a means for enslaving but for liberating mankind, which will give every individual the opportunity to develop and to exercise all his capabilities, bodily and mental, in all directions, and will transform a bane into a boon.”54 And Marx talks of “a higher phase of communist society after having done away with the slavish subjection of the individual under the division of labour, a society in which the contrast between mental and physical work has disappeared” and “labour has become not only a means of life but the first need of life itself.”55 Max Adler promises that the socialist society will “at the very least” not assign to anyone any work “which must cause him pain.”56 These statements distinguish themselves from the utterances of Fourier and his school only by the fact that there is nowhere any attempt to provide them with a basis of proof.

  Fourier and his school, however, had another device, apart from changes of occupation, for rendering work more attractive: competition. Men would be capable of the highest achievement if inspired by un sentiment de rivalité joyeuse ou de noble émulation (a feeling of joyous rivalry or noble emulation). Here for once they recognize the advantages of competition, which everywhere else they describe as pernicious. If the workers show a deficiency in achievement it will be sufficient to divide them into groups: immediately a fierce competition will blaze up between the groups, which will double the energy of the individual and suddenly arouse in all un acharnement passioné au travail (A passionate tenacity for work).57

  The observation that competition makes for greater accomplishment is of course correct enough, but it is superficial. Competition is not in itself a human passion. The efforts put forth by men in competition are not made for the sake of the competition but for the end attained thereby. The fight is waged not for its own sake, but for the prize which beckons the victor. But what prizes would spur to emulation the workers in a socialist community? Experience shows that titles and rewards of honour are not estimated too highly. Material goods to increase the satisfaction of wants could not be given as prizes since the principle of distribution would be independent of individual performance, and the increase per head through the increased effort of a single worker would be so insignificant that it would not count. The simple satisfaction from duty performed would not suffice: it is precisely because this incentive cannot be trusted that we seek others. And even if it were so, labour would still be irksome. It would not thereby become attractive in itself.

  The Fourier school, as we have seen, regards it as the main point of their solution of the social problem that work will be made a joy instead of a toil.58 But unfortunately the means which it provides for this are quite impracticable. If Fourier had really been able to show the way to make work attractive he would have deserved the divine honours bestowed on him by his followers.59 But his much lauded doctrines are nothing but the fantasies of a man who was incapable of seeing clearly the world as it really is.

  Even in a socialist community work will arouse feelings of pain and not of pleasure.60

  3

  The “Joy of Labour”

  If this is recognized, one of the main supports of socialist structure of thought collapses. It is therefore only too easy to understand why socialists try stubbornly to maintain that there is in man an innate impulse and striving to work, that work gives satisfaction per se and that only the unsatisfactory conditions under which work is performed in capitalist society could restrict this natural joy of labour and transform it into toil.61

  In proof of this assertion they assiduously collect statements made by workers in modern factories on the pleasurability of the labour. They ask the workers leading questions and are extraordinarily satisfied when the answers are of the kind they want to hear. But because of their prepossession they omit to notice that between the actions and replies of those whom they cross-examine there is a contradiction which demands solution. If work gives satisfaction per se why is the worker paid? Why does he not reward the employer for the pleasure which the employer gives him by allowing him to work? Nowhere else are people paid for the pleasure given to them, and the fact that pleasures are rewarded ought at least to give pause for reflection. By common definition, labour cannot give satisfaction directly. We define labour as just that activity which does not give any direct pleasurable sensations, which is performed only because the produce of the labour yields indirectly pleasurable sensations sufficient to counterbalance the primary sensations of pain.62

  The so-called “joy of labour” which is generally adduced in support of the view that labour awakens feelings of satisfaction, not of pain, is attributable to three quite separate sensations.

  There is first the pleasure which can be obtained from the perversion of work. When the public official abuses his office, often while performing his function in a manner which is formally quite correct, so as to satisfy the instincts of power, or to give free rein to sadistic impulses, or to pander to erotic lusts (and in this one need not always think merely of things condemned by law or morals), the pleasures that follow are undoubtedly not pleasures of work but pleasures derived from certain accompanying circumstances. Similar considerations apply also to other kinds of work. Psychoanalytic literature has repeatedly pointed out how extensively matters of this sort influence the choice of occupation. In so far as these pleasures counterbalance the pain of labour they are reflected also in the rates of pay; the larger supply of labour in the occupations offering the greatest scope for this kind of perversion tending to lower the rate of pay. The worker pays for the “pleasure” with an income lower than he otherwise could have earned.

  By “joy of labour” people mean also the satisfaction of completing a task. But this is pleasure in being free of work rather than pleasure in the work itself. Here we have a special kind of pleasure, which can be shown to exist everywhere, in having got rid of something difficult, unpleasant, painful, the pleasure of “I’ve done it.” Socialist Romanticism and romantic socialists praise the Middle Ages as a time when joy of labour was unrestricted. As a matter of fact we have no reliable information from medieval artisans, peasants, and their assistants about the “joy of labour,” but we may presume that their joy was in having performed their work and begun the hours of pleasure and repose. Medieval monks, who in the contemplative peace of their monasteries copied manuscripts, have bequeathed us remarks which are certainly more genuine and reliable than the assertions of our romantics. At the end of many a fine manuscript we read: Laus tibi sit Christe, quoniam liber explicit iste.63 (Praise be to you, O Christ, for this book is completed.) Not because the work itself has given pleasure.

  But we must not forget the third and most important source of the joy of labour—the satisfaction the worker feels because his work goes so well that through it he can earn a living for himself and his family. This joy of labour is clearly rooted in the pleasure of what we have called the indirect enjoyment of labour. The worker rejoices because in his ability to work and in his skill he sees the basis of his existence and of his social position. He rejoices because he has attained a position better than that of others. He rejoices because he sees in his ability to work the guarantee of future economic success. He is proud because he can do something “good,” that is, something society values and consequently pays for on the labour market. Nothing raises self-respect higher than this feeling, which indeed is often exaggerated to the ridiculous belief that one is indispensable. To the healthy man, however, it gives the strength to console himself for the unalterable fact that he is able to satisfy his wants only by toil and pain. As people say: he makes the best of a bad job.

  Of the three sources of that which we may call the “joy of labour” the first, arising from perversion of the true ends of the work, will undoubtedly exist in the socialist community. As under capitalist society it will naturally be restricted to a narrow circle. The other two sources of the joy of labour will presumably dry up completely. If the connection between the yield of labour and the income of the labourer is dissolved, as it must be in socialist society, the individual will always labour under the impression that proportionately too much work has been piled on him. The over-heated, neurasthenic dislike of work will develop which nowadays we can observe in practically all government offices and public enterprises. In such concerns where the pay depends upon rigid schedules, everyone thinks he is overburdened, that just he is being given too much to do and things which are too unpleasant—that his achievements are not duly appreciated and rewarded. Out of these feelings grows a sullen hate of work which stifles even the pleasure in completing it.

  The socialist community cannot count on the “joy of labour.”

  4

  The Stimulus to Labour

  It is the duty of the citizen of the socialist commonwealth to work for the community according to his powers and his ability: in return he has a claim against the community for a share in the social dividend. He who unjustifiably omits to perform his duty will be recalled to obedience by the usual methods of state coercion. The economic administration would exercise so great a power over individual citizens that it is inconceivable that anyone could permanently withstand it.

  It is not sufficient however that citizens should arrive at their tasks punctually and spend the prescribed number of hours at their posts. They must really work while they are there.

  In the capitalist system the worker receives the value of the product of his labour. The static or natural wage-rate tends to such a level that the worker receives the value of the product of his labour: i.e. all that is attributable to his work.64 The worker himself is therefore concerned that his productivity should be as great as possible. This does not apply to work done for piece rates only. The level of time rates is also dependent upon the marginal productivity of the particular kind of work concerned. The technical form of wage payment which is customary does not alter the level of wages in the long run. The wage rate has always a tendency to return to its static level, and time rates are no exception.

  But even so work done for time wages gives us an opportunity of observing how work is carried on when the worker feels that he is not working for himself, because there is no connection between his output and his remuneration. Under time wages the more skilful worker has no inducement to do more than the minimum expected from every worker. Piece wages are an incentive to the maximum activity, time wages to the minimum. Under Capitalism the graduation of time wages for different kinds of work greatly mitigates these social effects of the system of payment by time. The worker has a motive in finding a position where the minimum work required is as great as he can perform, because the wage increases with the rise in the minimum requirements.

  Only when we depart from the principle of graduating time wages according to the work required does the time wage begin to affect production adversely. This is particularly noticeable in the case of state and municipal employment. Here, in the last few decades, not only has the minimum required from the individual workers been continually reduced, but every incentive to better work—for example, different treatment of the various grades and rapid promotion of industrious and capable workers to better-paid posts—has been removed. The result of this policy has clearly vindicated the principle that the worker only puts forth his best efforts when he knows that he stands to gain by it.

  Under Socialism the usual connection between work performed and its remuneration cannot exist. All attempts to ascertain what the work of the individual has produced and thereby to determine the wage rate, must fail because of the impossibility of calculating the productive contributions of the different factors of production. The socialist community could probably make distribution dependent upon certain external aspects of the work performed. But any such differentiation would be arbitrary. Let us suppose that the minimum requirement is determined for each branch of production. Let us suppose this is done on the basis of Rodbertus’ proposal for a “normal working day.” For each industry there is laid down the time which a worker with average strength and effort can continue to work and the amount of work which an average worker of average skill and industry can perform in this time.65 We will completely ignore the technical difficulties in the way of deciding, in any particular concrete example the question whether this minimum has been achieved or not. Nevertheless it is obvious that any such general determination can only be quite arbitrary. The workers of the different industries would never be made to agree on this point. Everyone would maintain that he had been overtasked and would strive for a reduction of the amount set to him. Average quality of the worker, average skill, average strength, average effort, average industry—these are all vague conceptions that cannot be exactly determined.

  Now it is evident that the minimum performance calculated for the worker of average quality, skill, and strength will be achieved only by a part—say one-half—of the workers. The others will do less. How can the authorities ascertain whether a performance below the minimum is due to laziness or incapacity? Either the unfettered decision of the administration must be allowed free play, or certain general criteria must be established. Doubtless, as a result, the amount of work performed would be continually reduced.

  Under Capitalism everybody who takes an active part in business life is concerned that labour should be paid the whole product. The employer who dismisses a worker who is worth his wage harms himself. The foreman who discharges a good worker and retains a bad one, adversely affects the business results of the department under his charge, and thereby indirectly himself. Here we do not need formal criteria to limit the decisions of those who have to judge the work performed. Under Socialism such criteria would have to be established, because otherwise the powers entrusted to persons in charge could be arbitrarily misused. And so then the worker would have no further interest in the actual performance of work. He would only be concerned to do as much as is prescribed by the formal criteria in order to avoid punishment.

  What kind of results will be achieved by workers, who are not directly interested in the product of the work, can be learnt from the experience of a thousand years of slave labour. Officials and employees of state and municipal undertakings provide new examples. An attempt may be made to weaken the argumentative force of the first example by contending that these workers had no interest in the result of their labour because they did not share in the distribution; in the socialist community everyone would realize that he was working for himself and that would spur him on to the highest activity. But this is just the problem. If the worker exerts himself more at the work then he has so much the more labour disutility to overcome. But he will receive only an infinitesimal fraction of the result of his increased effort. The prospect of receiving a two thousand millionth part of the result of his increased effort will scarcely stimulate him to exert his powers any more than he needs.66

  Socialist writers generally pass over these ticklish questions in silence or with a few inconsequential remarks. They only bring forward a few moralistic phrases and nothing else.67 The new man of Socialism will be free from base self-seeking; he will be morally infinitely above the man of the frightful age of private property and from a profound knowledge of the coherency of things and from a noble perception of duty he will devote all his powers to the general welfare.

  But closer examination shows that these arguments lead to only two conceivable alternatives: free obedience to the moral law with no compulsion save that of the individual conscience, or enforced service under a system of reward and punishment. Neither will achieve the end. The former supplies no sufficient incentive to persist in overcoming the disutility of labour even though it is publicly extolled on every possible occasion and proclaimed in all schools and churches; the latter can only lead to a formal performance of duty, never to performance with the expenditure of all one’s powers.

  The writer who has occupied himself most thoroughly with this problem is John Stuart Mill. All subsequent arguments are derived from his. His ideas are to be encountered everywhere in the literature of the subject and in everyday political discussion; they have even become popular catchwords. Everyone is familiar with them even if he is totally unacquainted with the author.68 They have provided for decades one of the main props of the socialist idea, and have contributed more to its popularity than the hate-inspired and frequently contradictory arguments of socialist agitators.

  One of the main objections, says Mill, that could be urged against the practicability of the socialist idea, is that each person would be incessantly occupied in evading his fair share of work. But those who urge this objection forget to how great an extent the same difficulty exists under the system under which nine-tenths of the business of society is now conducted. The objection supposes that honest and efficient labour is only to be had from those who are themselves individually to reap the benefit of their own exertions. But under the present system only a small fraction of all labour can do this. Time rates or fixed salaries are the prevailing forms of remuneration. Work is performed by people who have less personal interest in the execution of the task than the members of a socialist community, since, unlike the latter, they are not working for an enterprise in which they are partners. In the majority of cases they are not personally superintended and directed by people whose own interests are bound up with the results of the enterprise. For employees paid by time carry out even the supervisory, managing and technical work. It may be admitted that labour would be more productive in a system in which the whole or a large share of the product of extra exertion belongs to the labourer, but under the present system it is precisely this incentive which is lacking. Even if communistic labour might be less vigorous than that of a peasant proprietor, or a workman labouring on his own account, it would probably be more energetic than that of a labourer for hire, who has no personal interest in the matter at all.

  One can easily see the cause of Mill’s mistake. The last representative of the classical school of economists, he did not survive to see the transformation of economics by the subjective theory of value, and he did not know the connection between wage rates and the marginal productivity of labour. He does not perceive that the worker has an interest in doing his utmost because his income depends upon the value of the work which he performs. Without the light of modern economic thought he sees only on the surface and not into the heart of things. Doubtless the individual working for a time wage has no interest in doing more than will keep his job. But if he can do more, if his knowledge, capability and strength permit, he seeks for a post where more is wanted and where he can thus increase his income. It may be that he fails to do this out of laziness, but this is not the fault of the system. The system does all that it can to incite everyone to the utmost diligence, since it ensures to everyone the fruits of his labour. That Socialism cannot do this is the great difference between Socialism and Capitalism.

  In the extreme case of obstinate perseverance in not performing a due share of work, the socialist community, Mill thinks, would have reserve powers which society now has at its disposal: it could submit the workers to the rules of a coercive institution. Dismissal, the only remedy at present, is no remedy when no other labourer who can be engaged does any better than his predecessor. The power to dismiss only enables an employer to obtain from his workman the customary amount of labour; but that customary labour may be of any degree of inefficiency.

  The fallacy of this argument is plain. Mill does not realize that the wage rate is adjusted according to this customary amount of labour, and that the worker who wishes to earn more must do more. It may be admitted straight away that wherever the time wage prevails the individual worker is obliged to seek elsewhere for a job in which the customary amount of labour is greater because he has no chance of increasing his income by doing more work if he remains where he is. In the circumstances he must change over to piece work, take up another occupation, or even emigrate. In this way millions have emigrated from those European countries, where the customary amount of labour is low, to Western Europe or to the United States, where they have to work more but earn more. The inferior workers remain behind, and are content to work less for less wages.

  If this is kept in mind it is also easy to understand the case of supervisory and managerial work performed by employees. Their activities, too, are paid according to the value of the service: they, too, must do as much as they can if they wish to obtain the highest possible income. They can and must be given authority in the name of the entrepreneur to take on and dismiss workers without any fear that they will abuse the power. They perform the social task incumbent upon them of securing that the worker obtains only as much wages as his work is worth, apart from any other consideration whatever.69 The system of economic calculation supplies a sufficient test of the efficacy of their work. This distinguishes their work from the kind of control which could be exercised under Socialism. They harm themselves if from revengeful motives they treat a worker worse than he deserves. (Naturally “deserves” is not used here in any ethical sense.) This authority to dismiss workers and fix their wages which the employer possesses and delegates to subordinates, is considered by socialists to be dangerous in the hands of private individuals. But the socialists overlook the fact that the employer’s ability to exercise this power is limited, that he cannot dismiss and mistreat arbitrarily because the result would be harmful to himself. In endeavouring to purchase labour as cheaply as possible the employer is fulfilling one of his most important social tasks.

  Mill admits that in the present state of society the neglect by the uneducated classes of labourers for hire of the duties which they engage to perform is flagrant. This, he thinks, can only be attributed to a low level of education. Under Socialism, with universal education, all citizens would undoubtedly fulfill their duty towards society as zealously as the majority of those members of the upper and middle classes who are in receipt of salaries, perform it today. It is clear that Mill’s thought repeatedly involves the same error. He does not see that in this case too, there is a correspondence between payment and performance. Finally he is compelled to admit that, there can be no doubt that remuneration by fixed salaries does not produce the maximum of zeal in any class of functionaries. To this extent, Mill says, objection could reasonably be made against the socialist organization of labour. It is, however, according to Mill, by no means certain that this inferiority will continue in a socialist community as is assumed by those whose imaginations are little used to range beyond the state of things with which they are familiar. It is not impossible that under Socialism the public spirit will be so general that disinterested devotion to the common welfare will take the place of self seeking. Here Mill lapses into the dreams of the Utopians and conceives it possible that public opinion will be powerful enough to incite the individual to increased zeal for labour, that ambition and self-conceit will be effective motives, and so on.

  It need only be said that unfortunately we have no reason to assume that human nature will be any different under Socialism from what it is now. And nothing goes to prove that rewards in the shape of distinctions, material gifts, or even the honourable recognition of fellow citizens, will induce the workers to do more than the formal execution of the tasks allotted to them. Nothing can completely replace the motive to overcome the irksomeness of labour which is given by the opportunity to obtain the full value of that labour.

  Many socialists of course think that this argument can be refuted by appeal to the labour which in the past has been performed without the incentive of a wage payment. They instance the case of the labours of scientists and artists, of the doctor who exhausts himself at the sickbed, the soldier who dies the death of a hero, the statesman who sacrifices all for his idea. But the artist and the scientist find their satisfaction in the work itself, and in the recognition which they hope to gain at some time, if only from posterity, even though material gains are not forthcoming. The doctor and the professional soldier are in the same position as many other workers whose work is associated with danger. The supply of workers for these professions reflects their lesser attractiveness, and the wage is adapted correspondingly. But if, in spite of the danger, a man enters the profession for sake of the higher remuneration and other advantages and honours, he cannot evade the dangers without the greatest prejudice to himself. The professional soldier who turned tail, the doctor who refused to treat an infectious case, would endanger their future careers to such an extent that they have virtually no choice in the matter. It cannot be denied that there are doctors who are concerned to do their utmost in cases where no one would detect remissness, and that there are professional soldiers who incur danger when no one would reproach them for avoiding it. But in these exceptional cases, as in the case of the staunch statesman who is ready to die for his principles, man raises himself, as is given to few to do, to the highest peak of manhood, to complete union of will and deed. In his exclusive devotion to a single purpose which sets aside all other desires, thoughts and feelings, removes the instinct of self-preservation and makes him indifferent to pain and suffering, such a man forgets the world, and nothing remains except the one thing to which he sacrifices himself and his life. Of such men it used to be said, according to the estimate set on their aims, that the spirit of the Lord moved them, or that they were possessed of the devil—so incomprehensible were their motives to the ordinary run of mankind.

  It is certain that mankind would not have risen above the beasts if it had not had such leaders; but it is certain that mankind does not in the main consist of such men. The essential social problem is to make useful members of society out of the general masses.

  Socialist writers have for a long time ceased to exercise their ingenuity on this insoluble problem. Kautsky can tell us nothing more than that habit and discipline will provide incentives to work in the future. “Capital has so accustomed the modern labourer to work day in and day out that he cannot endure to be without his work. There are even people who are so accustomed to work that they do not know what to do with their leisure time and are unhappy when they cannot work.” Kautsky does not seem to fear that this habit could be shaken off more easily than other habits such as eating and sleeping but he is not prepared to rely on this incentive alone, and freely admits that “it is the weakest.” He therefore recommends discipline. Naturally not “military discipline” nor “blind obedience to an authority imposed from above,” but “democratic discipline—the free subjection to elected leadership.” But then doubts arise and he endeavours to dispel them with the idea that under Socialism labour will be so attractive “that it will be a pleasure to work,” but finally admits that this will not be sufficient at first, and at last arrives at the conclusion that besides the attractiveness of the work some other incentive must be brought to bear, “that of the wages of labour.”70

  Thus even Kautsky, after many limitations and considerations, arrives at this result, that the irksomeness of labour will only be overcome if the product of labour, and only the product of his own labour, accrues to the worker, in so far as he is not also an owner or an employer. But this is to deny the feasibility of socialistic organization of labour, since private property in the means of production cannot be abolished without abolishing at the same time the possibility of remunerating the labourer according to the product of his labour.

  5

  The Productivity of Labour

  The old “distributivist” theories were based on the assumption that it only needed equal distribution for everyone to have if not riches, at least a comfortable existence. This seemed so obvious, that hardly any trouble was taken to prove it. At the beginning Socialism took over this assumption in its entirety, and expected that comfort for all would be achieved by an equal distribution of the social income. Only when the criticisms of their opponents drew their attention to the fact that equal distribution of the income obtained by the whole economic society would scarcely improve the conditions of the masses at all, did they set up the proposition that capitalist methods of production restrict the productivity of labour, and that Socialism would remove these limitations and multiply production to ensure for everyone a life in comfortable circumstances. Without troubling about the fact that they had not succeeded in disproving the assertion of the liberal school that productivity under Socialism would sink so low that want and poverty would be general, socialist writers began to promulgate fantastic assertions about the increase in productivity to be expected under Socialism.

  Kautsky mentions two ways of achieving increased production by a transition from capitalistic to socialistic methods of production. One is the concentration of all production in the best concerns and the closing down of the less efficient.71 That this is a means of increasing production cannot be denied, but it is a means which operates most effectively under the regime of an exchange-economy. Competition ruthlessly eliminates all inferior productive undertakings and concerns. That it does so is a constant source of complaint from those involved, and because of it the weaker undertakings demand State subsidies, special consideration in public contracts, and in general restriction of freedom of competition in every possible way. Kautsky is forced to admit that trusts formed by private enterprise exploit these means to the utmost, so as to obtain higher productivity, and in fact he frankly regards them as the forerunners of the social revolution. It is more than questionable whether the socialist State would feel the same necessity to carry out similar improvements in production. Would it not continue an unprofitable undertaking rather than provoke local prejudice by its discontinuance? The private entrepreneur closes down without much ado undertakings that no longer pay; and in this way he compels the worker to change his locality and sometimes even his occupation. Undoubtedly this involves initial hardships for the people concerned, but it is to the general advantage, since it makes possible a cheaper and better provisioning of the market. Would the Socialist State do likewise? Would it not, on the contrary, be constrained for political reasons to avoid local discontent? On most state railways all reforms of this kind are frustrated by the attempt to avoid the harm to particular districts which would result from the elimination of superfluous branch offices, workshops, and power stations. Even the army administration has encountered parliamentary opposition when for military reasons it has been desired to withdraw a garrison from a particular place.

  His second method of achieving increased production, viz., “economies of every description,” on his own admission, Kautsky already finds operating under the trust of today. He particularly mentions economies of materials, transport charges, advertisements and publicity costs.72 As far as economies in materials and transport are concerned, experience shows that nothing is operated with less economy and with more waste of labour and material of every kind than public services and undertakings. Private enterprise on the other hand naturally induces the owner to work with the greatest economy in his own interest.

  Of course the Socialist state would save all advertising expenses, all the costs of commercial travellers and agents. But it is more than probable that it would employ many more persons in the service of the apparatus of distribution. Wartime experience has taught us how cumbrous and expensive the social apparatus of distribution can be. Were the costs of bread, flour, meat, sugar, and other cards really less than the costs of advertisement? Has the enormous personnel required to run a rationing system been cheaper than the expenditure on commercial travellers and agents?

  Socialism would eliminate the small retailers. But in their place it must set up distributive centers which would not be cheaper. Co-operative stores do not employ less hands than the retail stores organized on modern lines, and many of them, because of their large expenses, could not compete with the latter if they were not granted privileges of exemption from taxation.

  Speaking generally, it must be said that it is inadmissible to pick out special costs in capitalist society, and then at once to infer from the fact that they would disappear in a socialist society, that the productivity of the latter would surpass that of the former. It is necessary to compare the total costs and the total yields of both systems. The fact that the electromobile needs no gasoline is no proof that it is cheaper to run than the gasoline-powered car.

  The weakness of Kautsky’s argument is evident, when he asserts that “by the application of these two methods a proletarian regime could raise production to such a high level that it would be possible to increase wages considerably and at the same time reduce the hours of labour.” Here he is making an assertion for which he offers no proof whatever.73

  And it is no better with the other arguments that are often brought forward to prove the supposed higher productivity of a socialistic society. When for example people argue that under Socialism everyone capable of work will have to work, they are sadly mistaken as to the number of idlers under Capitalism.

  CHAPTER 9

  The Position of the Individual Under Socialism

  1

  Selection of Personnel and Choice of Occupation

  The Socialist Community is a great authoritarian association in which orders are issued and obeyed. This is what is implied by the words “planned economy” and the “abolition of the anarchy of production.” The inner structure of a socialist community is best understood if we compare it with the inner structure of an army. Many socialists indeed prefer to speak of the “army of labour.” As in an army, so under Socialism, everything depends on the orders of the supreme authority. Everyone has a place to which he is appointed. Everyone has to remain in his place until he is moved to another. It follows that men become pawns of official action. They rise only when they are promoted. They sink only when they are degraded. It would be waste of time to describe such conditions. They are the common knowledge of every citizen of a bureaucratic state.

  It is obvious that, in a state of this sort, all appointments should be based upon personal capacity. Each position should be held by the individual best fitted to hold it—always provided that he is not required for more important work elsewhere. Such is the fundamental principle of all systematically ordered authoritarian organizations—of the Chinese Mandarinate equally with modern bureaucracies.

  In giving effect to this principle the first problem that arises is the appointment of the supreme authority. There are two ways to the solution of this problem, the oligarchical-monarchical and the democratic, but there can be only one solution—the charismatic solution. The supreme rulers (or ruler) are chosen in virtue of the grace with which they are endowed by divine dispensation. They have superhuman powers and capacities lifting them above the other mortals. To resist them is not only to resist the powers that be; it is to defy the commandments of the Deity. Such is the basis of theocracies—of clerical aristocracies of realms of “the Lord’s anointed.” But it is equally the basis of the Bolshevist dictatorship in Russia. Summoned by history to the performance of their sublime task, the Bolsheviks pose as the representatives of humanity, as the tools of necessity, as the consummators of the great scheme of things. Resistance to them is the greatest of all crimes. But against their adversaries they may resort to any expedients. It is the old aristocratic-theocratic idea in a new form.

  Democracy is the other method of solving the problem. Democracy places everything in the hands of the majority. At its head is a ruler, or rulers, chosen by a majority decision. But the basis of this is as charismatic as any other. Only in this case grace is regarded as being granted in equal proportions to all and sundry. Everyone is endowed with it. The voice of the people is the voice of God. This is to be seen especially clearly in Tommaso Campanella’s City of the Sun. The Regent chosen by the national assembly is also priest and his name is “Hoh,” that means “metaphysics.”74 In authoritarian ideology, democracy is valued not for its social functions, but only as a means for the ascertainment of the absolute.75

  According to charismatic theory, in appointing officials the supreme authority transmits to them the grace it possesses itself. An official appointment raises ordinary mortals above the level of the masses. They count for more than others. When on duty their status is especially enhanced. No doubt of their capacity, or of their fitness for office, is permissible. Office makes the man.

  Apart from their polemical value, all these theories are purely formal. They do not tell us anything about how such appointments actually work. They are indifferent to origins. They do not inquire whether the dynasties and the aristocracies concerned attained to power by the chance of war. They give no idea of the mechanism of the party system which brings the leaders of a democracy to the helm. They tell nothing of the actual machinery for selecting officials.

  But since only an omniscient ruler could do without them, special arrangements for the appointment of the officials must be made. Since the supreme authority cannot do everything, appointment to lesser positions at least must be left to subordinate authorities. To prevent this power from degenerating into mere license, it must be hedged about by regulations. In this way selection comes to be based not on genuine capacity but on compliance with certain forms, the passing of certain examinations, attendance at certain schools, having spent a certain number of years in a subordinate position, and so on. Of the shortcomings of such methods there can be only one opinion. The successful conduct of business demands qualities quite other than those necessary for passing examinations—even if the examinations deal with subjects bearing on the work of the position in question. A man who has spent a certain time in a subordinate capacity is far from being, for that reason, fitted for a higher post. It is not true that one learns to command by first learning to obey. Age is no substitute for personal capacity. In short, the system is deficient. Its only justification is that nothing better is known to put in its place.

  Attempts have recently been made to invoke the aid of experimental psychology and physiology, and many promise therefrom results of the highest importance to Socialism. There can be no doubt that under Socialism, something corresponding to medical examination for military service would have to be employed on a larger scale and with more refined methods. Those who feigned bodily deformities to escape difficult and uncongenial work would have to be examined, as would those who attempted work for which they were not properly developed. But the warmest advocates of such methods could scarcely pretend that they could do more than impose a very loose curb upon the grossest abuses of officialdom. For all those kinds of work demanding something more than mere muscular strength and a good development of particular senses they are not applicable at all.

  2

  Art and Literature, Science and Journalism

  Socialist society is a society of officials. The way of living prevailing in it, and the mode of thinking of its members, are determined by this fact. People who are always expecting promotion, people who had always a “chief” on whom they depend, people who, because they receive a fixed salary, never understand the connection between production and their own consumption—the last ten years has witnessed the rise of this type everywhere in Europe. It is in Germany, however, where it is especially at home. The whole psychology of our time derives from it.

  Socialism knows no freedom of choice in occupation. Everyone has to do what he is told to do and to go where he is sent. Anything else is unthinkable. We shall discuss later and in another connection how this will affect the productivity of labour. Here we have to discuss the position of art and science, literature and the press under such conditions.

  Under Bolshevism in Russia and Hungary, the artists, scientists and writers, who were recognized as such by the selectors appointed for this purpose, were exempted from the general obligation to work and given a definite salary. All such as were not recognized remained subject to the general obligation to work and received no support for other activity. The press was nationalized.

  This is the simplest solution of the problem, and one which harmonizes completely with the general structure of socialist society. Officialdom is extended to the sphere of the spirit. Those who do not please the holders of power are not allowed to paint or to sculpt or to conduct an orchestra. Their works are not printed or performed. And if the decision does not depend directly upon the free judgment of the economic administration but is referred to the advice of an expert council the case is not materially altered. On the contrary, expert councils, which are inevitably composed of the old and the established, must be admitted to be even less competent than laymen to assist the rise of young talent with different views and perhaps greater mastery than their own. Even if the choice were referred to the whole nation the rise of independent spirits setting themselves against traditional technique and accepted opinions would not be facilitated. Such methods can only foster a race of epigones.

  In Cabet’s Icaria, only such books which please the republic are to be printed (les ouvrages préférés [the preferred or favored works]). Writings of pre-socialistic times are to be examined by the Republic. Those which are partially useful are to be revised. Those which are regarded as dangerous or useless are to be burnt. The objection, that this would be to do what Omar did by burning the Alexandrian Library, Cabet held to be quite untenable. For, said he, “nous faisons en faveur de l’humanité ce que ces oppresseurs faisaient contre elle. Nous avons fait du feu pour brûler les méchants livres, tandis que des brigands ou des fanatiques allumaient les bûchers pour brûler d’innocents hérétiques.” (“We do on behalf of society what oppressors do against it. We make fires to burn the evil books, while the brigands or fanatics light fires to burn innocent heretics at the stake.”)76 From a point of view such as this, solution of the problem of toleration is impossible. Mere opportunists excepted, everyone is convinced of the rightness of his opinions. But, if such a conviction by itself were a justification for intolerance, then everyone would have a right to coerce and persecute everyone else of another way of thinking.77 In these circumstances, the demand for toleration can only be a prerogative of the weak. With power comes the exercise of intolerance. In such a case there must always be war and enmity between men. Peaceful co-operation is out of the question. It is because it desires peace that Liberalism demands toleration for all opinions.

  Under Capitalism the artist and the scientist have many alternatives open to them. If they are rich they can follow their own inclinations. They can seek out rich patrons. They can work as public officials. They can attempt to live on the sale of their creative work. Each of these alternatives has its dangers, in particular the two latter. It may well be that he who gives new values to mankind, or who is capable of so giving, suffers want and poverty. But there is no way to prevent this effectively. The creative spirit innovates necessarily. It must press forward. It must destroy the old and set the new in its place. It could not conceivably be relieved of this burden. If it were it would cease to be a pioneer. Progress cannot be organized.78 It is not difficult to ensure that the genius who has completed his work shall be crowned with laurel; that his mortal remains shall be laid in a grave of honour and monuments erected to his memory. But it is impossible to smooth the way that he must tread if he is to fulfil his destiny. Society can do nothing to aid progress. If it does not load the individual with quite unbreakable chains, if it does not surround the prison in which it encloses him with quite unsurmountable walls, it has done all that can be expected of it. Genius will soon find a way to win its own freedom.

  The nationalization of intellectual life, which must be attempted under Socialism, must make all intellectual progress impossible. It is possible to deceive oneself about this because, in Russia, new kinds of art have become the fashion. But the authors of these innovations were already working, when the Soviet came into power. They sided with it because, not having been recognized hitherto, they entertained hopes of recognition from the new regime. The great question, however, is whether later innovators will be able to oust them from the position they have now gained.

  In Bebel’s Utopia only physical labour is recognized by society. Art and science are relegated to leisure hours. In this way, thinks Bebel, the society of the future “will possess scientists and artists of all kinds in countless numbers.” These, according to their several inclinations, will pursue their studies and their arts in their spare time.79 Thus Bebel allows himself to be swayed by the manual labourer’s philistine resentment against all those who are not hewers of wood and drawers of water. All mental work he regards as mere dilettantism, as can be seen from the fact that he groups it with “social intercourse.”80 But nevertheless we must inquire whether under these conditions the mind would be able to create that freedom without which it cannot exist.

  Obviously all artistic and scientific work which demands time, travel, technical education and great material expenditure, would be quite out of the question. But we will assume that it is possible to devote oneself to writing or to music, after the day’s work is done. We will assume further that such activities will not be hindered by malicious intervention on the part of the economic administration—by transferring unpopular authors to remote localities, for instance—so that with the aid perhaps of devoted friends, an author or a composer is able to save enough to pay the fee demanded by the state printing works for the publication of a small edition. In this way he may even succeed in bringing out a little independent periodical—perhaps even in procuring a theatrical production.81 But all this would have to overcome the overwhelming competition of the officially supported arts, and the economic administration could at any time suppress it. For we must not forget that as one could not ascertain the cost of printing, the economic administration would be free to decide the business conditions under which publication could take place. No censor, no emperor, no pope, has ever possessed the power to suppress intellectual freedom which would be possessed by a socialist community.

  3

  Personal Liberty

  It is customary to describe the position of the individual under Socialism by saying that he would be unfree, that the socialist community would be a “prison state.” This expression contains a judgment of value which, as such, lies outside the sphere of scientific thought. Science cannot decide whether freedom is a good or an evil or a mere matter of indifference. It can only inquire wherein freedom consists and where freedom resides.

  Freedom is a sociological concept. It is meaningless to apply it to conditions outside society: as can be well seen from the confusions prevailing everywhere in the celebrated free-will controversy. The life of man depends upon natural conditions that he has no power to alter. He lives and dies under these conditions and, because they are not subject to his will, he must subordinate himself to them. Everything he does is subject to them. If he throws a stone it follows a course conditioned by nature. If he eats and drinks the processes within his body are similarly determined. We attempt to exhibit this dependence of the process of events upon definite and permanent functional relationship, by the idea of the conformity of all natural occurrences to unerring and unchangeable laws. These laws dominate man’s life; he is completely circumscribed by them. His will and his actions are only conceivable as taking place within their limits. Against nature and within nature there is no freedom.

  Social life, too, is a part of nature and, within it, unalterable laws of nature hold their sway. Action, and the results of action, are conditioned by these laws. If, with the origin of action in will, and its working out in societies, we associate an idea of freedom, this is not because we conceive that such action takes place independently of natural laws: the meaning of this concept of freedom is quite different.

  It is not here a question of the problem of internal freedom. It is the problem of external freedom with which we are concerned. The former is a problem of the origin of willing, the latter of the working out of action. Every man is dependent upon the attitude of his fellow men. He is affected by their actions in a multitude of ways. If he has to suffer them to treat him as if he had no will of his own, if he cannot prevent them from riding roughshod over his wishes, he must feel a one-sided dependence upon them and will say that he is unfree. If he is weaker, he must accommodate himself to coercion by them.

  Under the social relations that arise from co-operation in common work this one-sided dependence becomes reciprocal. In so far as each individual acts as a member of society he is obliged to adapt himself to the will of his fellows. In this way no one depends more upon others than others depend upon him. This is what we understand by external freedom. It is a disposition of individuals within the framework of social necessity involving, on the one side, limitation of the freedom of the individual in relation to others, and, on the other, limitation of the freedom of others in relation to him.

  An example should make this clear. Under Capitalism the employer appears to have great power over the employee. Whether he engages a man, how he employs him, what wages he gives him, whether he dismisses him—all depend upon his decision. But this freedom on his part and the corresponding unfreedom of the other are only apparent. The conduct of the employer to the employee is part of a social process. If he does not deal with the employee in a manner appropriate to the social valuation of the employee’s service, then there arise consequences which he himself has to bear. He can, indeed, deal badly with the employee, but he himself must pay the costs of his arbitrary behaviour. To this extent therefore the employee is dependent upon him. But this dependence is not greater than the dependence of each one of us upon our neighbour. For even in a state where the laws are enforced everybody of course who is willing to bear the consequences of his action, is free to break our windows or do us bodily harm.

  Strictly speaking, of course, on this view there can be no social action which is entirely arbitrary. Even the oriental despot, who to all appearances is free to do what he likes with the life of the enemy he captures, must consider the results of his action. But there are differences of degree in the way in which the costs of arbitrary action are related to the satisfactions arising therefrom. No laws can afford us protection against the assaults of men whose enmity is such that they are willing to bear all the consequences of their action. But if the laws are sufficiently severe to ensure that, as a general rule, our peace is not disturbed, then we feel ourselves independent of the evil intentions of our fellows, at any rate to a certain extent. The historical relaxation of the penal laws is to be attributed, not to an amelioration of morals, or to decadence on the part of legislators, but simply to the fact that so far as men have learnt to check resentment by considering the consequences of action it has been possible to abate the severity of punishments without weakening their deterrent power. To-day the menace of a short term of imprisonment is more effective protection against crimes against the person than the gallows were at one time.

  There is no place for the arbitrary, where exact money reckoning enables us completely to calculate action. If we allow ourselves to be carried away by the current laments over the stony-heartedness of an age which reckons everything in terms of shillings and pence, we overlook that it is precisely this linking up of action with considerations of money profit which is society’s most effective means of limiting arbitrary action. It is precisely arrangements of this kind which make the consumer, on the one hand, the employer, the capitalist, the landowner and the worker on the other—in short, all concerned in producing for demands other than their own—dependent upon social cooperation. Only complete failure to understand this reciprocity of relationship can lead anyone to ask whether the debtor is dependent on the creditor, or the creditor on the debtor. In fact, each is dependent on the other, and the relationship between buyer and seller, employer and employee, is of the same nature. It is customary to complain that, nowadays, personal considerations are banished from business life and that money. rules everything. But what really is here complained of is simply that, in that department of activity which we call purely economic, whims and favours are banished and only those considerations are valid which social co-operation demands.

  This, then, is freedom in the external life of man—that he is independent of the arbitrary power of his fellows. Such freedom is no natural right. It did not exist under primitive conditions. It arose in the process of social development and its final completion is the work of mature Capitalism. The man of pre-capitalistic days was subject to a “gracious lord” whose favour he had to acquire. Capitalism recognizes no such relation. It no longer divides society into despotic rulers and rightless serfs. All relations are material and impersonal, calculable and capable of substitution. With capitalistic money calculations freedom descends from the sphere of dreams to reality.

  When men have gained freedom in purely economic relationships they begin to desire it elsewhere. Hand in hand with the development of Capitalism, therefore, go attempts to expel from the State all arbitrariness and all personal dependence. To obtain legal recognition of the subjective rights of citizens, to limit the arbitrary action of officials to the narrowest possible field—this is the aim and object of the liberal movement. It demands not grace but rights. And it recognizes from the outset that there is no other way of realizing this demand than by the most rigid suppressing of the powers of the State over the individual. Freedom, in its view, is freedom from the State.

  For the State—the coercive apparatus worked by the persons forming the government—is scathless to freedom only when its actions have to conform to certain clear, unequivocal, universal norms, or when they obey the principles governing all work for profit. The former is the case when it functions judicially; for the judge is bound by laws allowing small play for personal opinion. The latter is the case when under Capitalism the State functions as an entrepreneur working under the same conditions and subject to the same principles as other entrepreneurs working for a profit. What it does beyond this can neither be determined by law or in any other way limited sufficiently to guard against arbitrary action. The individual then has no defence against the decision of officials. He cannot calculate what consequences his actions will have because he cannot tell how they will be regarded by those on whom he depends. This is the negation of freedom.

  It is customary to regard the problem of external freedom as a problem of the greater or less dependence of the individual upon society.82 But political freedom is not the whole of freedom. In order that a man may be free it is not sufficient that he may do anything unharmful to others without hindrance from the government or from the repressive power of custom. He must also be in the position to act without fearing unforeseen social consequences. Only Capitalism guarantees this freedom by explicitly referring all reciprocal relations to the cold impersonal principle of exchange du ut des (I give as you give, or colloquially, give and take).

  Socialists usually attempt to refute the argument for freedom by contending that under Capitalism only the possessor is free. The proletarian is unfree because he must work for his livelihood. It is impossible to imagine a cruder conception of freedom. That man must work, because his desire to consume is greater than that of the beasts of the field, is part of the nature of things. That the possessor is able to live without conforming to this rule is a gain derived from the existence of society which injures no one—not even the possessionless. And the possessionless themselves benefit from the existence of society, in that co-operation makes labour more productive. Socialism could only lessen the dependence of the individual upon natural conditions by increasing this productivity. If it cannot do that, if on the contrary it diminishes productivity, then it will diminish freedom.

  CHAPTER 10

  Socialism Under Dynamic Conditions

  1

  The Nature of the Dynamic Forces

  The idea of a stationary state is an aid to theoretical speculation. In the world of reality there is no stationary state, for the conditions under which economic activity takes place are subject to perpetual alterations which it is beyond human capacity to limit.

  The influences which maintain this perpetual change in the economic system can be grouped into six great classes. First and foremost come changes in external Nature. Under this heading must be classified not only all those changes in climate and other specifically natural conditions which take place independent of human actions, but also changes arising from operations carried out within these conditions, such as exhaustion of the soil, or consumption of standing timber or mineral deposits. Secondly come changes in the quantity and quality of the population, then changes in the quantity and quality of capital goods, then changes in the technique of production, then changes in the organization of labour, and finally changes in demand.83

  Of all these causes of change the first is the most fundamentally important. For the sake of argument let us assume that a socialist community might be able so to regulate the growth of population and demand for commodities as to avert danger to the economic equilibrium from these factors. Were that so, there are other causes of change that could be avoided. But the socialist community would never be able to influence the natural conditions of economic activity. Nature does not adapt itself to man. Man must adapt himself to Nature. Even the socialist community will have to reckon with changes in external nature; it will have to take account of the consequences of elemental disturbances. It will have to take account of the fact that the natural powers and resources at its disposal are not inexhaustible. Disturbances from without will intrude on its peaceful running. No more than Capitalism will it be able to remain stationary.

  2

  Changes in Population

  For the naive socialist there is quite enough in the world to make everybody happy and contented. The dearth of goods is only the result of a perverse social order which, on the one hand limits the extension of productive powers, and on the other, by unequal distribution, lets too much go to the rich and thus too little to the poor.84

  The Malthusian Law of Population and the Law of Diminishing Returns put an end to these illusions. Ceteris Paribus the increase of population beyond a certain point is not accompanied by a proportional increase of wealth: if this point is passed, production per head diminishes. The question whether at any given time production has reached this point is a question of fact which must not be confused with the question of general principle.

  In the light of this knowledge, socialists have adopted various attitudes. Some have simply rejected it. During the whole of the nineteenth century scarcely any author was so vigorously attacked as Malthus. The writings of Marx, Engels, Dühring, and many others, bristle with abuse of “parson” Malthus.85 But they do not refute him. Today, discussion of the Law of Population may be regarded as closed. The Law of Diminishing Returns is not contested nowadays; it is therefore not necessary to deal with those authors who either deny the doctrine or ignore it.

  Other socialists imagine that it is possible to undermine such considerations by pointing to the unprecedented increase in productivity which will take place once the means of production are socialized. It is not necessary at this point to discuss whether in fact such an increase would take place; for even granted that it would, this would not alter the fact that at any given time there is a definite optimal size of population beyond which any increase in numbers must diminish production per head. If it is desired to deny the effectiveness of the Laws of Population and Diminishing Returns under Socialism, then it must be proved that every child born into the world beyond the existing optimum will at the same time bring with it so great an increase of productivity that production per head will not be diminished by its coming.

  A third group of writers content themselves with the reflection that with the spread of civilization and rational living, with the increase of wealth and the desire for a higher standard of life, the growth of population is slackening. But this is to overlook the fact that the birth-rate does not fall because the standard of life is higher but only because of “moral restraint,” and that the incentive to the individual to refrain from procreation disappears the moment it is possible to have a family without economic sacrifice because the children are maintained by society. This is fundamentally the same error that entrapped Godwin when he thought that there was “a principle in human society” which kept the population permanently within the limits set by the means of subsistence. Malthus exhibited the nature of this mysterious “principle.”86

  Without coercive regulation of the growth of population, a socialist community is inconceivable. A socialist community must be in a position to prevent the size of the population from mounting above or falling below certain definite limits. It must attempt to maintain the population always at that optimal number which allows the maximum production per head. Equally with any other order of society it must regard both under- and over-population as an evil. And since in it those motives, which in a society based on private ownership of the means of production harmonize the number of births with the limitations of the means of subsistence, would not exist, it will be obliged to regulate the matter itself. How it will accomplish this need not be here discussed. Nor is it relevant to our purpose to inquire whether its measures will serve eugenic or ethnological ideas. But it is certain that even if a socialist community may bring “free love,” it can in no way bring free birth. The right to existence of every person born can be said to exist only when undesirable births can be prevented. In the socialist community as in any other, there will be those for whom “at the great banquet of Nature no place has been laid” and to whom the order must be given to withdraw themselves as soon as may be. No indignation that these words of Malthus may arouse can alter this fact.

  3

  Changes in Demand

  It follows from the principles which the socialist community must necessarily observe in the distribution of consumption goods, that alterations of demand cannot be allowed free play. If economic calculation and therewith even an approximate ascertainment of the costs of production were possible, then within the limits of the total consumption-units assigned to him, each individual citizen could be allowed to demand what he liked; each would choose what was agreeable to him. It would indeed be possible that as a result of malicious intent on the part of the directors of production certain commodities might be priced higher than they need be. Either they might be made to bear too high a proportion of overhead costs, or they might be made dearer by uneconomic methods of production; and the citizens who suffered would have no defence, except political agitation, against the government. So long as they remained in the minority they themselves would not be able either to rectify the accounts or to improve the methods of production. But at any rate the fact that at least the greater number of the factors concerned could be measured and that, as a result of this, the whole question could be relatively clearly put, would be some support for their point of view.

  Since, under Socialism, no such calculations are possible, all such questions of demand must necessarily be left to the government. The citizens as a whole will have the same influence on them as on other acts of government. The individual will exercise this influence only in so far as he contributes to the general will. The minority will have to bow to the will of the majority. The system of proportional representation, which by its very nature is suitable only for elections and can never be used for decisions with regard to particular acts, will not protect them.

  The general will, i.e. the will of those who happen to be in power, will take over those functions which in a free economic system are discharged by demand. Not individuals but the government would decide which needs are the most urgent and must therefore be satisfied first.

  For this reason demand will be much more uniform, much less changeable than under Capitalism. The forces which under Capitalism are continually bringing about alterations in demand will be lacking under Socialism. How will innovations, ideas deviating from those traditionally accepted, obtain recognition? How will innovators succeed in getting inert masses out of the rut? Will the majority be willing to forsake the well beloved customs of their forefathers for something better, which is yet unknown to them? Under Capitalism where each individual within the limits of his means can decide what he is to consume, it is sufficient for one individual, or a few, to be brought to recognize that the new methods satisfy their needs better than the old. Others will gradually follow their example. This progressive adoption of new modes of satisfaction is especially facilitated by the fact that incomes are not equal. The rich adopt novelties and become accustomed to their use. This sets a fashion which others imitate. Once the richer classes have adopted a certain way of living, producers have an incentive to improve the methods of manufacture so that soon it is possible for the poorer classes to follow suit. Thus luxury furthers progress. Innovation “is the whim of an élite before it becomes a need of the public. The luxury of today is the necessity of tomorrow.”87 Luxury is the roadmaker of progress: it develops latent needs and makes people discontented. In so far as they think consistently, moralists who condemn luxury must recommend the comparatively desireless existence of the wild life roaming in the woods as the ultimate ideal of civilized life.

  4

  Changes in the Amount of Capital

  The capital goods employed in production are sooner or later used up. This is true, not only of those goods which constitute circulating capital, but also of those which constitute fixed capital. Those, too, sooner or later are consumed in production. In order that capital may be maintained in the same proportions, or that it may be increased, constant effort is necessary on the part of those who supervise production. Care must be taken that the capital goods used up in the process of production are replaced; and, beyond that, that new capital is created. Capital does not reproduce itself.

  In a completely stationary economic system, this operation demands no particular foresight. Where everything remains unchanged, it is not very difficult to ascertain what becomes used up, and what must therefore be put aside to replace it. Under changing conditions, it is quite otherwise. Here the direction of production and the different processes involved are continually changing. Here it is not enough to replace the used-up plant and the semi-manufactured products consumed in similar qualities and quantities: others—better or at least better corresponding to the new conditions of demand—have to take their place; or the replacement of capital goods used in one branch of production has to be restricted in order that another branch of production may be extended or commenced. In order to carry out such complicated operations, it is necessary to calculate. Without economic calculations capital calculations are impossible. Thus in the face of one of the most fundamental problems of economic activity, the socialist community—which has no means of economic calculation—must be quite helpless. With the best will in the world it will be quite unable to carry out the operations necessary to bring production and consumption into such a balance, that value of capital is at least maintained and only what is obtained over and above this is consumed.

  But apart from this, in itself quite unsurmountable difficulty, the carrying out of a rational economic policy in a socialist community would encounter other difficulties.

  To maintain and accumulate capital involves costs. It involves sacrificing present satisfactions in order that greater satisfactions may be obtained in the future. Under Capitalism the sacrifice that has to be made by the possessors of the means of production, and those who, by limiting consumption, are on the way to being possessors of the means of production. The advantage which they thereby procure for the future does indeed not entirely accrue to them. They are obliged to share it with those whose incomes are derived from work, since other things being equal, the accumulation of capital increases the marginal productivity of labour and therewith wages. But the fact that, in the main, the gain of not living beyond their means (i.e. not consuming capital) and saving (i.e. increasing capital) does pay them is a sufficient stimulus to incite them to maintain and extend it. And this stimulus is the stronger the more completely their immediate needs are satisfied. For the less urgent are those present needs, which are not satisfied when provision is made for the future, the easier it is to make the sacrifice. Under Capitalism the maintenance and accumulation of capital is one of the functions of the unequal distribution of property and income.

  Under Socialism the maintenance and accumulation of capital are tasks for the organized community—the State. The utility of a rational policy is the same here as under Capitalism. The advantages will be the same for all members of the community: the costs will be the same also. Decisions upon matters of capital policy will be made by the community—immediately by the economic administration, ultimately by all the citizens. They will have to decide whether more production goods or more consumption goods shall be produced—whether methods of production which are shorter but which yield a smaller product or whether methods of production which are longer but which yield a greater product shall be employed. It is impossible to say how these majority decisions will work out. It would be senseless to conjecture. The conditions under which decisions will have to be made are different from what they are under Capitalism. Under Capitalism the decision whether saving shall take place is the concern of the thrifty and the well-to-do. Under Socialism it is the concern of everybody, without distinction-therefore also of the idler and the spendthrift. Moreover, it must be remembered that here the incentive which provides a higher standard of life in return for saving will not be present. The door would therefore be open to demagogues. The opposition will always be ready to prove that more could be assigned to immediate satisfactions, and the government will not be disinclined to maintain itself longer in power by lavish spending. Après nous le déluge (After us, the deluge) is an old maxim of government.

  Experience of the capital policy of public bodies does not inspire much hope of the thriftiness of future socialist governments. In general, new capital is created only when the necessary sums have been raised by loans—that is from the savings of private citizens. It is very seldom that capital is accumulated out of taxes or special public income. On the other hand, numerous examples can be adduced of cases in which the means of production owned by public bodies have depreciated in value, because in order that present costs may be relieved as much as possible, insufficient care has been taken for the maintenance of capital.

  It is true that the governments of the socialist or half-socialist communities existing today are anxious to restrict consumption for the sake of an expenditure which is generally considered as investment and formation of new capital. Both the Soviet Government in Russia and the Nazi Government in Germany are spending great sums for the construction of works of a military character and for the construction of industrial plants whose purpose it is to make the country independent of foreign imports. A part of the capital wanted for this purpose has been provided by foreign loans; but the greater part has been provided by a restriction both of home consumption and of investment of such a type which could serve for the production of consumption goods wanted by the people. Whether we may consider this policy as a policy of saving and forming new capital, or not, depends on the way in which we judge a policy whose aim it is to increase a country’s military equipment and to make its economic system independent of foreign imports. The fact alone that consumption is restricted for the sake of constructing big plants of different kinds is not evidence that new capital is created. These plants will have to prove in the future whether they will contribute to the better supply of commodities wanted for the improvement of the economic situation of the country.

  5

  The Element of Change in the Socialist Economy

  It should be already sufficiently clear from what has been said, that under Socialism, as under any other system, there could be no perfectly stationary state. Not only incessant changes in the natural conditions of production would make this impossible; quite apart from these, incessant dynamic forces would be at work, in changes in the size of the population, in the demand for commodities, and in the quantity of capital goods. One cannot conceive these factors eliminated from the economic system. It is thus unnecessary to inquire whether these changes would also involve changes in the organization of labour and the technical processes of production. For, once the economic system ceases to be in perfect equilibrium it is a matter of indifference whether actual innovations are thought of and put into practice. Once everything is in a state of flux, everything which happens is an innovation. Even when the old is repeated, it is an innovation because, under new conditions, it will have different effects. It is an innovation in its consequences.

  But this is not in the least to say that the socialist system will be a progressive system. Economic change and economic progress are by no means one and the same thing. That an economic system is not stationary is no proof that it is progressing. Economic change is necessitated by the fact of changes in the conditions under which economic activity takes place. When conditions change the economic system must change also. Economic progress, however, consists only in change which takes place in a quite definite direction, towards the goal of all economic activity, e.g. the greatest possible wealth. (This conception of progress is quite free from implications of subjective judgment.) When more, or the same number of people are better provided for, then the economic system is progressive. That the difficulties of measuring value make it impossible to measure progress exactly, and that it is by no means certain that it makes men “happier,” are matters which do not concern us here.

  Progress can take place in many ways. Organization can be improved. The technique of production can be made more efficient, the quantity of capital can be increased. In short, many paths lead to this goal.88 Would socialist society be able to follow them?

  We may assume that it would entrust the most suitable people to direct production. But, however, talented they were, how would they be able to act rationally if they were unable to reckon, to make calculations? On this difficulty alone Socialism must surely founder.

  6

  Speculation

  In any economic system which is in process of change all economic activity is based upon an uncertain future. It is therefore bound up with risk. It is essentially speculation.

  The great majority of people, not knowing how to speculate successfully, and socialist writers of all shades of opinion, speak very ill of speculation. The literateur and the bureaucrat, both alien to an atmosphere of business activity, are filled with envy and rage when they think of fortunate speculators and successful entrepreneurs. To their resentment we owe the efforts of many writers on economics to discover subtle distinctions between speculation on the one hand and “legitimate trade,” “value creating production,” etc., on the other.89 In reality all economic activity outside the stationary state is speculation. Between the work of the humble artisan who promises to deliver a pair of shoes within a week at a fixed price, and the sinking of a coal mine based upon conjectures with regard to the disposal of its products years hence, there is only a difference of degree. Even those who invest in gilt-edged fixed-interest-beating securities speculate—quite apart from the risk of the debtor’s inability to pay. They buy money for future delivery—just as speculators in cotton buy cotton for future delivery. Economic activity is necessarily speculative because it is based upon an uncertain future. Speculation is the link that binds isolated economic action to the economic activity of society as a whole.

  It is customary to attribute the notoriously low productivity of government undertakings to the fact that the persons employed are not sufficiently interested in the success of their labours. If once it were possible to lift each citizen to such a plane that he could realize the connection between his own efforts and the social income, part of which belongs to him, if once his character could be so strengthened that he would remain steadfast in the face of all temptations to idle, then government undertakings would not be less productive than those of the private entrepreneur. The problem of socialization appears thus to be a problem of ethics. To make Socialism possible it is only necessary to raise men sufficiently above the state of ignorance and immorality to which they have been degraded during the terrible epoch of Capitalism. Until this plane has been reached bonuses and so on must be employed to make men more diligent.

  It has already been shown that, under Socialism, the lack of an adequate stimulus to the individual to overcome the disutility of labour must have the effect of lowering productivity. This difficulty would arise even in a stationary state. Under dynamic conditions there arises another, the difficulty of speculation.

  In an economic system based upon private ownership of the means of production, the speculator is interested in the result of his speculation in the highest possible degree. If it succeeds, then, in the first instance, it is his gain. If it fails, then, he is the first to feel the loss. The speculator works for the community, but he himself feels the success or failure of his action proportionately more than the community. As profit or loss, they appear much greater in proportion to his means than to the total resources of society. The more successfully he speculates the more means of production are at his disposal, the greater becomes his influence on the business of society. The less successfully he speculates the smaller becomes his property, the less becomes his influence in business. If he loses everything by speculation he disappears from the ranks of those who are called to the direction of economic affairs.

  Under Socialism it is quite different. Here the leader of industry is interested in profit and loss only in so far as he participates in them as a citizen—one among millions. On his actions depends the fate of all. He can lead the nation to riches. He can just as well lead it to poverty and want. His genius can bring prosperity to the race. His incapacity, or his indifference, can bring it to destruction and decay. In his hands lie happiness and misery as in the hands of a god. And he must indeed be god-like to accomplish what he has to do. His vision must include everything which is of significance to the community. His judgment must be unfailing; he must be able rightly to weigh the conditions of distant parts and future centuries.

  That Socialism would be immediately practicable if an omnipotent and omniscient Deity were personally to descend to take in hand the government of human affairs, is incontestable. But so long as this event cannot definitely be counted upon, it is not to be expected that men will be ready freely to grant such a position to any one out of their midst. One of the fundamental facts of all social life, which all reformers must take into account, is that men have their own thoughts and their own wills. It is not to be supposed that they would suddenly, of their own free will, make themselves for all time the passive tools of anyone out of their midst—even though he were the wisest and best of them all.

  But so long as the possibility of a single individual permanently planning the direction of affairs is excluded, it is necessary to fall back upon the majority decisions of committees, general assemblies and, in the last resort, the whole enfranchised population. But therewith arises the danger on which all collectivist undertakings inevitably come to grief—the crippling of initiative and the sense of responsibility. Innovations are not introduced because the majority of the members of the governing body cannot be induced to consent to them.

  Things would not be made any better by the fact that the impossibility of leaving all decisions to a single man, or a single committee, would lead to the creation of innumerable sub-committees by which decisions would be taken. All such sub-committees would only be delegates of the one supreme authority which, as an economic system working according to a unitary plan, is implied by the very nature of Socialism. They would necessarily be bound by the instructions of the supreme authority and this, in itself, would breed irresponsibility.

  We all know the appearance of the apparatus of socialist administration: a countless multitude of office holders, each zealously bent on preserving his position and preventing anybody from intruding on his sphere of activity—yet at the same time anxiously endeavouring to throw all responsibility of action on to somebody else.

  For all its officiousness, such a bureaucracy offers a classic example of human indolence. Nothing stirs when no external stimulus is present. In the nationalized concerns, existing within a society based for the most part on private ownership of the means of production, all stimulus to improvements in process comes from those entrepreneurs who as contractors for semi-manufactured articles and machines hope to make a profit by them. The heads of the concern itself seldom, if ever, make innovations. They content themselves with imitating what goes on in similar privately-owned undertakings. But where all concerns are socialized there will be hardly any talk of reforms and improvements.

  7

  Joint Stock Companies and the Socialist Economy

  One of the current fallacies of socialism is that joint stock companies are a preliminary stage of the socialist undertaking. The heads of joint stock companies—it is argued—are not owners of the means of production, and yet the undertakings flourish under their direction. If, in place of the shareholders, society should assume the function of ownership, things would not be altered. The directors would not work worse for society than they would for the shareholders.

  This notion, that in the joint stock company the entrepreneur-function is solely the shareholder’s and that all the organs of the company are active only as the shareholders’ employees, pervades also legal theory, and it has been attempted to make it the basis of Company Law. It is responsible for the fact that the business idea, which underlies the creation of the joint stock company, has been falsified, and that up to today people have been unable to find for the joint stock company a legal form which would enable it to work without friction, and that the company system everywhere suffers from grave abuses.

  In fact there have never and nowhere been prosperous joint stock companies corresponding to the ideal etatistic jurists have created. Success has always been attained only by those companies whose directors have predominant personal interest in the prosperity of the company. The vital force and the effectiveness of the joint stock company lie in a partnership between the company’s real managers—who generally have power to dispose over part, if not the majority, of the share-capital—and the other shareholders. Only where these directors have the same interest in the prosperity of the undertaking as every owner, only where their interests coincide with the shareholder’s interests, is the business carried on in the interests of the joint stock company. Where the directors have interests other than those of a part, or of the majority, or of all of the shareholders, business is carried on against the company’s interests. For in all joint stock companies that do not wither in bureaucracy, those who really are in power always manage business in their own interests, whether this coincides with the shareholders’ interests or not. It is an unavoidable presupposition of the prosperity of the companies, that those in power shall receive a large part of the profits of the enterprise and that they shall be primarily affected by the misfortunes of the enterprise. In all flourishing joint stock companies, such men, immaterial of what their legal status is, wield the decisive influence. The type of man to whom joint stock companies owe their success is not the type of general manager who resembles the public official in his ways of thought, himself often an ex-public servant whose most important qualification is good connection with those in political power. It is the manager who is interested himself through his shares, it is the promoter and the founder—these are responsible for prosperity.

  Socialist-etatistic theory of course will not admit this. It endeavours to force the joint stock company into a legal form in which it must languish. It refuses to see in those who guide the company anything except officials, for the etatist wants to think of the whole world as inhabited only by officials. It is allied with the organized employees and workers in their resentment-ridden fight against high sums paid to the management, believing that the profits of the business arise of themselves and are reduced by whatever is paid to the men in charge. Finally, it turns also against the shareholder. The latest German doctrine does not want, “in view of the evolution of the concept of fair play,” to let the shareholder’s self-interest decide, but rather “the interest and well-being of the enterprise, itself, namely its own economic, legal and sociological value, independent of transient majorities of transient shareholders.” It wants to create for the administration of the companies a position of power, which should make them independent of the will of those who have put up the majority of the share-capital.90

  That “altruistic motives” or the like are ever decisive in the administration of successful joint stock companies is a fable. Such attempts to model Company Law after the illusory ideal of etatistic politicians, have not succeeded in making the joint stock company a piece of the illusory “functional economy”; they have however damaged the joint stock company form of enterprise.

  CHAPTER 11

  The Impracticability of Socialism

  1

  The Fundamental Problems of a Socialist Economy Under Conditions of Change

  The preceding investigations have shown the difficulties confronting the establishment of a socialist order of society. In a socialist community the possibility of economic calculations is lacking: it is therefore impossible to ascertain the cost and result of an economic operation or to make the result of the calculation the test of the operation. This in itself would be sufficient to make Socialism impracticable. But, quite apart from that, another insurmountable obstacle stands in its way. It is impossible to find a form of organization which makes the economic action of the individual independent of the co-operation of other citizens without leaving it open to all the risks of mere gambling. These are the two problems, and without their solution the realization of Socialism appears impracticable unless in a completely stationary state.

  Too little attention has hitherto been given to these fundamental questions. The first has generally been almost ignored. The reason for this is that people have not been able to get rid of the idea that labour time can afford an efficient measure of value. But even many of those who recognize that the labour theory of value is untenable continue to believe that value can be measured. The frequent attempts which have been made to discover a standard of value prove this. To understand the problem of economic calculation it was necessary to recognize the true character of the exchange relations expressed in the prices of the market.

  The existence of this important problem could be revealed only by the methods of the modern subjective theory of value. In actual practice although the tendency has been all in the direction of Socialism, the problem has not become so urgent as to attract general attention.

  It is quite otherwise with the second problem. The more communal enterprise extends, the more attention is drawn to the bad business results of nationalized and municipalized undertakings. It is impossible to miss the cause of the difficulty: a child could see where something was lacking. So that it cannot be said that this problem has not been tackled. But the way in which it has been tackled has been deplorably inadequate. Its organic connection with the essential nature of socialist enterprise has been regarded as merely a question of better selection of persons. It has not been realized that even exceptionally gifted men of high character cannot solve the problems created by socialist control of industry.

  2

  Attempted Solutions

  As far as most socialists are concerned, recognition of these problems is obstructed, not only by their rigid adherence to the labour theory of value but also by their whole conception of economic activity. They fail to realize that industry must be constantly changing: their conception of the socialist community is always static. As long as they are criticizing the capitalist order they deal throughout with the phenomena of a progressive economy and they paint in glaring colours the friction caused by economic change. But they seem to regard all change and not only the friction caused by it, as a peculiar attribute of the capitalist order. In the happy kingdom of the future everything will develop without movement or friction.

  We can see this best if we think of the picture of the entrepreneur which is generally drawn by socialists. In such a picture the entrepreneur is characterized only by the special way he derives his income. Clearly any analysis of the capitalist order must take as its central point not capital nor the capitalists but the entrepreneur. But Socialism, including Marxian Socialism, sees in the entrepreneur someone alien to the process of production, someone whose whole work consists in the appropriation of surplus value. It will be sufficient to expropriate these parasites to bring about a socialist society. The recollection of the liberation of the peasants and the abolition of slavery hovers vaguely in Marx’s mind and even more so in the minds of many other socialists. But they fail to see that the position of the feudal lord was quite different from that of the entrepreneur. The feudal lord had no influence on production. He stood outside the process of production: only when it was finished did he step in with a claim to a share in the yield. But in so far as the lord of the manor and the slave owner were also leaders of production they retained their position even after the abolition of serfdom and slavery. The fact that henceforward they had to give the workers the value of their labour did not change their economic function. But the entrepreneur fulfils a task which must be performed even in a socialist community. This the Socialist does not see; or at least refuses to see.

  Socialism’s misunderstanding of the entrepreneur degenerates into idiosyncrasy whenever the word speculator is mentioned. Even Marx, unmindful of the good resolutions which animated him, proceeds entirely along “petty bourgeois” lines in this connection and his school has even surpassed him. All socialists overlook the fact that even in a socialist community every economic operation must be based on an uncertain future, and that its economic consequence remains uncertain even if it is technically successful. They see in the uncertainty which leads to speculation a consequence of the anarchy of production, whilst in fact it is a necessary result of changing economic conditions.

  The great mass of people are incapable of realizing that in economic life nothing is permanent except change. They regard the existing state of affairs as eternal; as it has been so shall it always be. But even if they were in a position to envision the πάντα ΄ρεῑ (everything simple or all so easy) they would be baffled by the problems to be solved. To see and to act in advance, to follow new ways, is always the concern only of the few, the leaders. Socialism is the economic policy of the crowd, of the masses, remote from insight into the nature of economic activity. Socialist theory is the precipitate of their views on economic matters—it is created and supported by those who find economic life alien, and do not comprehend it.

  Among socialists only Saint-Simon realized to some extent the position of the entrepreneurs in the capitalistic economy. As a result he is often denied the name of Socialist. The others completely fail to realize that the functions of entrepreneurs in the capitalist order must be performed in a socialist community also. This is reflected most clearly in the writings of Lenin. According to him the work performed in a capitalist order by those whom he refused to designate as “working” can be boiled down to “Auditing of Production and Distribution” and “keeping the records of labour and products.” This could easily be attended to by the armed workers, “by the whole of the armed people.”91 Lenin quite rightly separates these functions of the “capitalists and clerks” from the work of the technically trained higher personnel, not however missing the opportunity to take a side thrust at scientifically trained people by giving expression to that contempt for all highly skilled work which is characteristic of Marxian proletarian snobbishness. “This recording, this exercise of audit,” he says, “Capitalism has simplified to the utmost and has reduced to extremely simple operations of superintendence and book-entry within the grasp of anyone able to read and write. To control these operations a knowledge of elementary arithmetic and the drawing of correct receipts is sufficient.”92 It is therefore possible straight-way to enable all members of society to do these things for themselves.93 This is all, absolutely all that Lenin had to say on this problem; and no socialist has a word more to say. They have no greater perception of the essentials of economic life than the errand boy, whose only idea of the work of the entrepreneur is that he covers pieces of paper with letters and figures.

  It was for this reason that it was quite impossible for Lenin to realize the causes of the failure of his policy. In his life and his reading he remained so far removed from the facts of economic life that he was as great a stranger to the work of the bourgeoisie as a Hottentot to the work of an explorer taking geographical measurements. When he saw that his work could proceed no further on the original lines he decided to rely no longer on references to “armed workers” in order to compel the “bourgeois” experts to co-operate: instead they were to receive “high remuneration” for “a short transition period” so that they could set the socialist order going and thus render themselves superfluous. He even thought it possible that this would take place within a year.94

  Those socialists who do not think of the socialist community as the strongly centralized organization conceived by their more clearheaded brethren and which alone is logically conceivable, believe that the difficulties confronting the management of industry can be solved by democratic institutions inside undertakings. They believe that individual industries could be allowed to conduct their operations with a certain degree of independence without endangering the uniformity and the correct co-ordination of industry. If every enterprise were placed under the control of a workers’ committee, no further difficulties could exist. In all this there is a whole crop of fallacies and errors. The problem of economic management with which we are here concerned lies much less in the work of individual industries than in harmonizing the work of individual concerns in the whole economic system. It deals with such questions as dissolving, extending, transforming and limiting existing undertakings and establishing new undertakings—matters which can never be decided by the workers of one industry. The problems of conducting an industry stretch far beyond the individual concern.

  State and municipal Socialism have supplied enough unfavourable experience to compel the closest attention to the problem of economic control. But etatists in general have treated this problem no less inadequately than those who have dealt with it in Bolshevik Russia. General opinion seems to regard the main evil of communal undertakings to be due to the fact that they are not run on “business” lines. Now rightly understood this catchword could lead to a correct view on the problem. Communal enterprise does indeed lack the spirit of the business man, and the very problem for Socialism here is to create something to put in its place. But the catchword is not understood in this way at all. It is an offspring of the bureaucratic mind: that is to say it comes from people for whom all human activity represents the fulfillment of formal official and professional duties. Officialdom classifies activity according to the capacity for undertaking it formally acquired by means of examinations and a certain period of service. “Training” and “length of service” are the only things which the official brings to the “job.” If the work of a body of officials appears unsatisfactory, there can be only one explanation: the officials have not had the right training, and future appointments must be made differently. It is therefore proposed that a different training should be required of future candidates. If only the officials of the communal undertaking came with a business training, the undertaking would be more business-like. But for the official who cannot enter into the spirit of capitalist industry this means nothing more than certain external manifestations of business technique: prompter replies to inquiries, the adoption of certain technical office appliances, which have not yet been sufficiently introduced into the departments, such as typewriters, copying machines, etc., the reduction of unnecessary duplication, and other things. In this way “the business spirit” penetrates into the offices of communal enterprise. And people are greatly surprised when these men trained on these lines, also fail, fail even worse than the much-maligned civil servants, who in fact, show themselves superior at least in formal schooling.

  It is not difficult to expose the fallacies inherent in such notions. The attributes of the business man cannot be divorced from the position of the entrepreneur in the capitalist order. “Business” is not in itself a quality innate in a person; only the qualities of mind and character essential to a business man can be inborn. Still less is it an accomplishment which can be acquired by study, though the knowledge and the accomplishments needed by a business man can be taught and learned. A man does not become a business man by passing some years in commercial training or in a commercial institute, nor by a knowledge of book-keeping and the jargon of commerce, nor by a skill in languages and typing and shorthand. These are things which the clerk requires. But the clerk is not a business man, even though in ordinary speech he may be called a “trained business man.”

  When these obvious truths became clear in the end the experiment was tried of making entrepreneurs, who had worked successfully for many years, the managers of public enterprises. The result was lamentable. They did no better than the others; furthermore they lacked the sense for formal routine which distinguishes the life-long official. The reason was obvious. An entrepreneur deprived of his characteristic role in economic life ceases to be a business man. However much experience and routine he may bring to his new task he will still only be an official in it.

  It is just as useless to attempt to solve the problem by new methods of remuneration. It is thought that if the managers of public enterprises were better paid, competition for these posts would arise and make it possible to select the best men. Many go even further and believe that the difficulties will be overcome by granting the managers a share in the profits. It is significant that these proposals have hardly ever been put in practice, although they appear quite practicable as long as public undertakings exist alongside private enterprises, and as long as the possibility of economic calculation permits the ascertainment of the result achieved by the public enterprise which is not the case under pure Socialism. But the problem is not nearly so much the question of the manager’s share in the profit, as of his share in the losses which arise through his conduct of business. Except in a purely moral sense the property-less manager of a public undertaking can be made answerable only for a comparatively small part of the losses. To make a man materially interested in profits and hardly concerned in losses simply encourages a lack of seriousness. This is the experience, not only of public undertakings but also of all private enterprises, which have granted to comparatively poor employees in managerial posts rights to a percentage of the profits.

  It is an evasion of the problem to put one’s faith in the hope that the moral purification of mankind, which the socialists expect to occur when their aims are realized, will of itself make everything perfectly right. Whether Socialism will or will not have the moral effect expected from it may here be conveniently left undecided. But the problems with which we are concerned do not arise from the moral shortcomings of humanity. They are problems of the logic of will and action which must arise at all times and in all places.

  3

  Capitalism the Only Solution

  But let us disregard the fact that up to now all socialist efforts have been baffled by these problems, and let us attempt to trace out the lines on which the solution ought to be sought. Only by making such an attempt can we throw any light on the question whether such a solution is possible in the framework of a socialist order of society.

  The first step which would be necessary would be to form sections inside the socialist community to which the management of definite branches of business would be entrusted. As long as the industry of a socialist community is directed by one single authority which makes all arrangements and bears all the responsibility, a solution of the problems is inconceivable, because all the other workers are only acting instruments without independent delimited spheres of operation and consequently without any special responsibility. What we must aim at is precisely the possibility not only of supervising and controlling the whole process, but of considering and judging separately the subsidiary processes which take place within a narrower sphere.

  In this respect at least, our procedure runs parallel to all past attempts to solve our problem. It is clear to everyone that the desired aim can be achieved only if responsibility is built up from below. We must therefore start from a single industry or from a single branch of industry. It makes no difference whether the unit with which we start is large or small since the same principle which we have once used for our division can be again used when it is necessary to divide too large a unit. Much more important than the question where and how often the division shall be made is the question how in spite of the division of industry into parts we can preserve that unity of cooperation without which a social economy is impossible.

  We imagine then the economic order of the socialist community to be divided into any number of parts each of which is put in the charge of a particular manager. Every manager of a section is charged with the full responsibility for his operations. This means that the profit or a very considerable part of the profit accrues to him; on the other hand the burden of losses falls upon him, insomuch as the means of production which he squanders through bad measures will not be replaced by society. If he squanders all the means of production under his care he ceases to be manager of a section and is reduced to the ranks of the masses.

  If this personal responsibility of the section manager is not to be a mere sham, then his operations must be clearly marked off from that of other managers. Everything he receives from other section managers in the form of raw materials or partly manufactured goods for further working or for use as instruments in his section and all the work which he gets performed in his section will be debited to him; everything he delivers to other sections or for consumption will be credited to him. It is necessary, however, that he should be left free choice to decide what machines, raw materials, partly manufactured goods, and labour forces he will employ in his section and what he will produce in it. If he is not given this freedom he cannot be burdened with any responsibility. For it would not be his fault if at the command of the supreme controlling authority he had produced something for which, under existing conditions, there was no corresponding demand, or if his section was handicapped because it received its material from other sections in an unsuitable condition, or, what comes to the same thing, at too high a charge. In the first event, the failure of his section would be attributable to the dispositions of the supreme control, in the latter to the failures of the sections which produced the material. But on the other hand the community must also be free to claim the same rights which it allows to the section manager. This means that it takes the products which he has produced only according to its requirements, and only if it can obtain them at the lowest rate of charge, and it charges him with the labour, which it supplies to him at the highest rate it is in a position to obtain: that is to say it supplies the labour to the highest bidder.

  Society as a production community now falls into three groups. The supreme direction forms one. Its function is merely to supervise the orderly course of the process of production as a whole, the execution of which is completely detailed to the section managers. The third group is the citizens who are not in the service of the supreme administration and are not section managers. Between the two groups stand the section managers as a special group: they have received from the community once and for all at the beginning of the regime an allotment of the means of production for which they have had to pay nothing, and they continue to receive from it the labour force of the members of the third group, who are assigned to the highest bidders amongst them. The central administration which has to credit each member of the third group with everything it has received from the section managers for his labour power, or, in case it employs him directly in its own sphere of operation, with everything which it might have received from the section managers for his labour power, will then distribute the consumption goods to the highest bidders amongst the citizens of all three groups. The proceeds will be credited to the section managers who have delivered the products.

  By such an arrangement of the community, the section manager can be made fully responsible for his doings. The sphere for which he bears responsibility is sharply delimited from that for which others bear the responsibility. Here we are no longer faced with the total result of the economic activity of the whole industrial community in which the contribution of one individual cannot be distinguished from that of another. The “productive contribution” of each individual section manager is open to separate judgment, as is also that of each individual citizen in the three groups.

  It is clear that the section managers must be permitted to change, extend or contract their section according to the prevailing course of demand on the part of the citizens as indicated in the market for consumption goods. They must therefore be in a position to sell those means of production in their section which are more urgently required in other sections, to these other sections: and they ought to demand as much for them as they can obtain under the existing conditions....

  [1. ]It was left to the empirical-realistic school, with its terrible confusion of all concepts, to explain the economic principle as a specific of production under a money economy, e.g., Lexis, Allgemeine Volkswirtschaftslehre (Berlin and Leipzig, 1910), p. 15.

  [2. ]Amonn, Objekt und Grundbegriffe der theoretischen Nationalökonomie (Vienna and Leipzig, 1927), p. 185.

  [3. ]Mill, Das Nützlichkeitsprinzip. Trans. Wahrmund, Gesammelte Werke, German ed. Th. Gomperz (Leipzig, 1869), vol, 1, pp. 125-200. Publisher’s Note: This is a German translation of Utilitarianism.

  [4. ]Schumpeter, Das Wesen und der Hauptinhalt der theoretischen Nationalökonomie, (Leipzig, 1908), pp. 50, 80.

  [5. ]The following remarks reproduce parts of my essay “Die Wirtschaftsrechnung im sozialistischen Gemeinwesen” (Archiv für Sozialwissenschaft, Vol. XLVII, pp. 86-121). Publisher’s Note: Mises’ essay was translated into English by S. Adler and included in Collectivist Economic Planning: Critical Studies on the Possibilities of Socialism by N. G. Pierson, Ludwig yon Mises, Georg Halm, and Enrico Barone; edited, with an Introduction and a Concluding Essay by F. A. Hayek. London: Routledge & Kegan Paul Ltd., 1935. 293 pp. bibl. Mises’ essay, titled “Economic Calculation in the Socialist Commonwealth” in English, appears on pages 87-130.

  [6. ]Cuhel, Zur Lehre yon den Bedürfnissen (Innsbruck, 1907), p. 198.

  [7. ]Wieser, Über den Ursprung und die Hauptgesetze des wirtschaftlichen Wertes, Vienna, 1884, pp. 185 ff.

  [8. ]Gottl-Otthlienfeld, “Wirtschaft und Technik,” Grundriss der Sozialökonomik, II (Tübingen, 1914), p. 216.

  [9. ]Neurath too admitted this. (Durch die Kriegswirtschaft zur Naturalwirtschaft [Munich, 1919], pp. 216 ff.) He asserts that every complete administrative economy (planned economy) is ultimately a natural economy (barter system). “To socialize therefore means to advance the natural economy.” Neurath, however, did not recognize the insurmountable difficulties economic calculation would encounter in the socialist community.

  [10. ]Passow, Kapitalismus, eine begrifflich-terminologische Studie (Jena, 1918), pp. 1 ff. In the 2nd edition, published 1927, Passow expressed the opinion (p. 15, note 2), in view of the most recent literature, that the term “Capitalism” might in time gradually lose the moral colouring.

  [11. ]Carl Menger, “Zur Theorie des Kapitals” (Jahrbücher für Nationalökonomie und Statistik, Vol. XVII), p. 41.

  [12. ]Passow, op. cit. (2nd edition), pp. 49 ff.

  [13. ]Passow, op. cit. (2nd edition), pp. 132 ff.

  [14. ]See the critique of Kelsen, “Staat und Gesellschaft,” in Sozialismus und Staat (Leipzig, 1923), pp. 11 ff. and pp. 20 ff.

  [15. ]Engels, Herrn Eugen Dührings Umwälzung der Wissenschaft, pp. 335 ff. Publisher’s Note: In the English edition, Anti-Dühring: Herrn Eugen Dühring’s Revolution in Science, pp. 429 ff.

  [16. ]Marx, Das Kapital, Vol. 1, pp. 5 ff. Publisher’s Note: In English, see Marx, Karl. Capital: A Critique of Political Economy. 3 volumes. Vol. I. The Process of Capitalist Production. Translated from the 3rd German edition by Samuel Moore and Edward Aveling. Edited by Frederick Engels. Revised and amplified according to the 4th German edition by Ernest Untermann. Chicago: Charles H. Kerr & Co., 1906. (Note: This Volume I also reprinted by Random House as a Modern Library Giant, with same paging as the Kerr edition.) Vol. II. The Process of Circulation of Capital. Vol. III. The Process of Capitalist Production as a Whole. Both Volumes II and III were translated by Ernest Untermann and edited by Frederick Engels. Both were published by the same Charles H. Kerr & Co. of Chicago in 1909. In this footnote, pp. 5 ff. refers to pp. 45 ff. in the English Vol. I.

  [17. ]Ibid., pp. 9 ff. Publisher’s Note: pp. 50 ff. in English translation.

  [18. ]Ibid., pp. 10 ff. Publisher’s Note: pp. 51-52 in English translation.

  [19. ]Böhm-Bawerk, Kapital und Kapitalzins, Vol. I, 3rd ed. (Innsbruck, 1914), p. 531. Publisher’s Note: Böhm-Bawerk’s three volume work in English is: Böhm-Bawerk, Eugen von. Capital and Interest. 3 volumes. (South Holland, Illinois: Libertarian Press, 1959.) Volume I. History and Critique of Interest Theories. Translated by George D. Huncke and Hans F. Sennholz.

  [20. ]We may point out here that as early as 1854 Gossen knew “that only through private property is the measure found for determining the quantity of each commodity which it would be best to produce under given conditions. Therefore, the central authority, proposed by the communists, for the distribution of the various tasks and their reward, would very soon find that it had taken on a job the solution of which far surpasses the abilities of individual men.” (Gossen, Entwicklung der Gesetze des menschlichen Verkehrs, new ed., [Berlin, 1889] p. 231.) Pareto (Cours d’Économie Politique, Vol. II, Lausanne, 1897, pp. 364 ff.) and Barone (“Il Ministro della Produzione nello Stato Coletivista” in Giornale degli Economisti, Vol. XXXVII, 1908, pp. 409 ff.) did not penetrate to the core of the problem. Pierson clearly and completely recognized the problem in 1902. See his Das Wertproblem in der sozialistischen Gesellschaft (German translation by Hayek, Zeitschrift für Volkswirtschaft, New Series, Vol. IV, 1925, pp. 607 ff.) Publisher’s Note: Both the Barone article (“The Ministry of Production in the Collectivist State,” pp. 245-290) and the Pierson article (“The Problem of Value in the Socialist Society,” pp. 41-85) are included in the Hayek edited Collectivist Economic Planning.

  [21. ]I have briefly discussed the most important of these replies in two short essays—”Neue Beiträge zurn Problem der sozialistischen Wirtschaftsrechnung” (Archiv für Sozialwissenschaft, Vol. LI, pp. 488-500) and “Neue Schriften zum Problem der sozialistischen Wirtschaftsrechnung” (Ibid., Vol. LX, pp. 187-90. Publisher’s Note: “Neue Beiträge zum Problem der sozialistischen Wirtschaftsrechnung” appears in part as the Appendix of this book on p. 473. The second essay mentioned by Mises in this footnote was published in 1928 and has not been translated into English. The essay was a review of recent literature on economic calculations under socialism.

  [22. ]In scientific literature there is no more doubt about this. See Max Weber, “Wirtschaft und Gesellschaft” (Grundriss der Sozialökonomik, Vol. III), Tübingen, 1922, pp. 45-59; Adolf Weber, Allgemeine Volkswirtschaftslehre, 4th ed., Munich and Leipzig, 1932, Vol. II, pp. 369 ff.; Brutzkus, Die Lehren des Marxismus im Lichte der russischen Revolution, Berlin, 1928, pp. 21 ff.; C. A. Verrijn Stuart, “Winstbejag versus behoeftenbevrediging” (Overdruk Economist, Vol, 76 No. 1), pp. 28 ff.; Pohle-Halm, Kapitalismus und Sozialismus, 4th ed., Berlin, 1931, pp. 237 ff.

  [23. ]Characteristic of this branch of literature is the recently published work of C. Landauer, Planwirtschaft und Verkehrswirtschaft (Munich and Leipzig, 1931). Here the writer deals with the problem of economic calculation quite naively, at first by asserting that in a socialist society “the individual enterprises...could buy from each other, just as capitalist enterprises buy from each other” (p. 114). A few pages on he explains that “besides this” the socialist state will “have to set up a control accountancy in kind”; the state will be “the only one able to do this because in contrast to Capitalism it controls production itself” (p. 122). Landauer cannot understand that—and why—one is not permitted to add and subtract figures of different denominations. Such a case is, of course, beyond help.

  [24. ]Böhm-Bawerk, Kapital und Kapitalzins, Vol. II, 3rd ed. (Innsbruck, 1912), p. 21. Publisher’s Note: The page in the English (Sennholz/Huncke) translation of Böhm-Bawerk, referred to here is page 14 in Volume II. Böhm-Bawerk, Eugen von. Capital and Interest. 3 volumes. South Holland, Illinois: Libertarian Press, 1959. [Information re Vol. I above.] Volume II. Positive Theory of Capital. Translated by George D. Huncke; Hans F. Sennholz, Consulting Economist. Volume III. Further Essays on Capital and Interest. Translated by Hans F. Sennholz.

  [25. ]The limitation comprised in the words “at first” is not intended to mean that Socialism will later on, say after attaining a “higher stage of the communist society,” intentionally set about abolishing capital in the sense used here. Socialism can never plan the return to the life from hand to mouth. Rather do I want to point out here that Socialism must, by inner necessity, lead to the gradual consumption of capital.

  [26. ]Pohle-Halm, Kapitalismus und Sozialismus, pp. 12 ff.

  [27. ]On Monopoly see pp. 344 ff. and on “uneconomic” consumption see p. 401 ff.

  [28. ]See pp. 140 ff., 160 ff.

  [29. ]A. Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, Book II, Chap. V (London 1776, Vol. I, pp. 437 ff.).

  [30. ]Ricardo, Principles of Political Economy and Taxation, Chap. XXVI (Works, ed. MacCulloch, 2nd ed. [London 1852] pp. 220 ff.).

  [31. ]Say, in his Notes to Constancio’s French Edition of Ricardo’s works, Vol. II (Paris, 1819), pp. 222 ff.

  [32. ]Sismondi, Nouveaux Principes d’Économie Politique (Paris, 1819), Vol. ii, p. 331 footnote.

  [33. ]Bernhardi, Versuch einer Kritik der Grande, die für grosses und kleines Grundeigentum angeführt werden (Petersburg, 1849), pp. 367 ff.; also Cronbach, Das landwirtschaftliche Betriebsproblem in der deutschen Nationalökonomie bis zur Mitte des 19. Jahrhunderts (Vienna, 1907), pp. 292 ff.

  [34. ]“La société recherche le plus grand produit brut, par consequent la plus grande population possible, parce que pour elle produit brut et produit net son identiques. Le monopole, au contraire, vise constamment au plus grand produit net, dût-il ne l’obtenir qu’au prix de l’extermination du genre humain.” (“Society seeks the largest gross product and thus the largest possible population, because for it gross product and net product are the same thing. On the other hand, monopoly continually aims at the highest net product which it can obtain only at the price of exterminating the human race.”) Proudhon, Système des contradictions économiques ou philosophie de la misère (Paris, 1846), Vol. I, p. 270. In Proudhon’s language “Monopoly” means the same as Private Property. Ibid., Vol. i, p. 236; also Landry, L’utilité sociale de la propriété individuelle (Paris, 1901), p. 76.

  [35. ]Marx, Das Kapital, Vol. I, pp. 613-726. The arguments about “the theory of compensation for the workers displaced by machinery” (ibid., pp. 403-12) are vain in view of the Marginal Utility Theory. Publisher’s Note: The page references cited here are pp. 738-821 and 478-488, respectively, in the English edition.

  [36. ]Goltz, Agrarwesen und Agrarpolitik, 2nd ed. (Jena, 1904), p. 53; also Waltz, Vom Reinertrag in der Landwirtschaft (Stuttgart and Berlin, 1904), pp. 27 ff. Goltz contradicts himself in his arguments, for, to the assertion mentioned above, he adds immediately: “Nevertheless the amount remaining as net profit from the gross product after deducting costs varies considerably. On the average it is greater with extensive than with intensive cultivation.”

  [37. ]See Waltz, op. cit. pp. 19 ff. on Adam Müller, Bülow-Cummerow and Phillipp v. Arnim, and pp. 30 ff. on Rudolf Meyer and Adolf Wagner.

  [38. ]Landry, L’utilité sociale de la propriété individuelle, pp. 109, 127 ff.

  [39. ]Landry, L’utilité sociale de la propriété individuelle, pp. 109, 127 ff.

  [40. ]Marx, Das Kapital, Vol. I, p. 695.

  [41. ]Quoted by Waltz, Vom Reinertrag in der Landwirtschaft, p. 29.

  [42. ]Cannan, A History of the Theories of Production and Distribution in English Political Economy from 1776 to 1848, 3rd ed. (London, 1917), pp. 183 ff. Also p. 294 of Socialism.

  [43. ]Acts of the Apostles, II. 45.

  [44. ]See Pecqueur’s criticism of this formula of distribution in Théorie nouvelle d’Économie sociale et politique (Paris, 1842), pp. 613 ff. Pecqueur shows himself superior to Marx, who unhesitatingly indulges in the illusion that “In a higher stage of the communist society ... the narrow bourgeois legal horizon could be completely surpassed and society could write on its banners: From each according to his abilities, to each according to his needs!” Marx, Zur Kritik des sozialdemokratischen Parteiprogramms von Gotha, p. 17.

  [45. ]Lenin, Staat und Revolution, p. 96. Publisher’s Note: pp. 305-306 in the English edition.

  [46. ]Engels, Herrn Eugen Dührings Umwälzung der Wissenschaft, p. 302. Publisher’s Note: p. 389 in the English edition.

  [47. ]Fourier, Oeuvres complètes, Vol. IV, 2nd ed. (Paris, 1841), pp. 254 ff.

  [48. ]Godwin, Das Eigentum, Bahrfeld’s translation of that part of Political Justice which deals with the problem of property (Leipzig, 1904), pp. 73 ff.

  [49. ]Kautsky, Die soziale Revolution, 3rd ed., (Berlin, 1911), II, p. 48.

  [50. ]Trotsky, Literatur und Revolution (Vienna, 1924), p. 179.

  [51. ]“Today all enterprises ... are first and foremost a question of profitability ... A socialist society knows no other question than of sufficient labour forces, and if it has these the work ... is done.” (Bebel, Die Frau und der Sozialismus, p. 308. Publisher’s Note: p. 427 in the English edition.) “Everywhere it is the social institution and the methods of production and distribution connected with these which produce want and misery, and not the number of people.” (Ibid., p. 368. Publisher’s Note: p. 492 in the English edition.) “We suffer not from a lack but from a superfluity of foodstuffs, just as we have a superfluity of industrial products.” (Ibid., p. 368, p. 429 in the English. Also Engels, Herrn Eugen Dührings Umwälzung der Wissenschaft, p. 305. Publisher’s Note: pp. 390-391 in the English edition.) “We have ... not too many but rather too few people.” (Bebel, op. cit., p. 370; p. 494 in the English edition.)

  [52. ]Considerant, Exposition abrégee du Système Phalanstérien de Fourier, 4th Impression, 3rd ed. (Paris, 1846), pp. 29 ff.

  [53. ]Jevons, The Theory of Political Economy, 3rd ed. (London, 1888), pp. 169, 172 ff.

  [54. ]Engels, Herrn Eugen Dührings Umwälzung der Wissenschaft, p. 327. Publisher’s Note: p. 408 in the English edition.

  [55. ]Marx, Zur Kritik des sozialdemokratischen Parteiprogramms von Gotha, p. 27. Publisher’s Note: This passage can be found on p. 7 of the Eastman edited Modern Library edition and p. 10 of the International Publishers edition.

  [56. ]Max Adler, Die Staatsauffassung des Marxismus (Vienna, 1922), p. 287.

  [57. ]Considerant, Exposition abrégée du Système Phalanstérien de Fourier, p. 33.

  [58. ]Considerant, “Studien über einige Fundamentalprobleme der sozialen Zukunft” (contained in Fouriers System der sozialen Reform, translated by Kaatz, Leipzig 1906), pp. 55 ff. Fourier has the distinction of having introduced the fairies into social science. In his future state the children, organized in “Petites Hordes” (small groups), will perform what the adults do not do. To them will be entrusted, amongst other things, maintenance of the roads. “C’est à leur amour propre que l’Harmonie sera redevable d’avoir, par toute la terre, des chemins plus somptueux que les allées de nos parterres. Ils seront entretenus d’arbres et d’arbustes, même de fleurs, et arrosés au trottoir. Les Petites Hordes courent frénétiquement au travail, qui est exécuté comme oeuvre pie, acte de charité envers la Phalange, service de Dieu et de l’Unité.” (It is to their own self-esteem that “Harmony” will be indebted for having, everywhere, roads more magnificent than the walks in our flower gardens. They will be maintained with trees, shrubs, even flowers, and they will be irrigated along the footpaths. The small groups run frantically to their work, which will be carried out as a pious duty, an act of love [charity] for the Phalanx [community], a service for God and Unity.) By three o’clock in the morning they are up, cleaning the stables, attending to the cattle and horses, and working in the slaughter houses, where they take care that no animal is ever treated cruelly, killing always in the most humane manner. “Elles ont la haute police du règne animal.” (They are the eminent police of the animal kingdom.) When their work is done they wash themselves, dress themselves, and appear triumphantly at the breakfast table. See Fourier, Oeuvres complètes, Vol. V, 2nd Edition (Paris, 1841), pp. 141, 159.

  [59. ]Fabre des Essarts, Odes Phalanstériennes, Montreuil-sous-Bois 1900. Béranger and Victor Hugo also venerated Fourier. The first dedicated to him a poem, reprinted in Bebel (Charles Fourier, Stuttgart 1890, pp. 294 ff.).

  [60. ]Socialist writers are still far from knowing this. Kautsky (Die soziale Revolution, II, pp. 16 ff.) considers that the main task of a proletarian regime is “to make work, which today is a burden, into a pleasure, so that people will enjoy working and the workers go joyfully to work.” He admits that “this is not such a simple matter” and concludes that “it will hardly be possible to make work in factories and mines attractive quickly.” But he cannot naturally bring himself to abandon completely Socialism’s fundamental illusion.

  [61. ]Veblen, The Instinct of Workmanship (New York, 1922), pp. 31 ff.; De Man, Zur Psychologie des Sozialismus, pp. 45 ff.; De Man, Der Kampf um die Arbeitsfreude (Jena, 2927), pp. 249 ff.

  [62. ]We here disregard the above-mentioned pleasure in beginning work, in practice unimportant. See p. 145.

  [63. ]Wattenbach, Das Schriftwesen in Mittelalter, 3rd ed. (Leipzig, 1896), p. 500. Amongst the many similiar sayings and verses quoted by Wattenbach is the still more drastic: Libro completo saltat scriptor pede laeto (Once the book is finished, the author dances with joy).

  [64. ]Clark, Distribution of Wealth (New York, 1907), pp. 257 ff.

  [65. ]Rodbertus, Johann Karl, Briefe und sozialpolitische Aufsätze, ed. R. Meyer (Berlin, 1881), pp. 553 ff. We shall not enter here into Rodbertus’ other proposals for the normal working day. They are throughout based on the untenable view Rodbertus has formed about the problem of value.

  [66. ]Schäffle, Die Quintessenz des Sozialismus, 18th ed. (Gotha, 1919), pp. 30 ff.

  [67. ]Degenfeld-Schonburg, Die Motive des volkswirtschaftlichen Handelns und der deutsche Marxismus (Tübingen, 1920), p. 80.

  [68. ]J. S. Mill, Principles, pp. 226 ff. We cannot here examine how far Mill took over these ideas from others. Their wide diffusion they owe to the brilliant exposition in which Mill has presented them in his much read work.

  [69. ]Competition between the entrepreneurs sees to it that wages do not fall below this level.

  [70. ]Kautsky, Die soziale Revolution, II, pp. 25 ff.

  [71. ]Kautsky, Die soziale Revolution, II, pp. 21 ff.

  [72. ]Kautsky, Die soziale Revolution, II, p. 26.

  [73. ]In the years of controlled economy we heard quite often of frozen potatoes, rotten fruit, spoiled vegetables. Did such things not happen formerly? Certainly. But they happened less often. The merchant whose fruit spoiled suffered monetary loss, and that made him careful in the future. If he did not take better care he was ruined at last. He ceased to direct production and was removed to a place in economic life where he could do no more harm. But it is otherwise with the goods which the state deals in. Here there is no individual interest behind the commodities. Here officials trade, whose responsibility is so divided that no one gets particularly excited about a small misfortune.

  [74. ]Georg Adler, Geschichte des Sozialismus und Kommunismus (Leipzig, 1899), pp. 185 ff.

  [75. ]On the social-dynamic functions of democracy see p. 60 of Socialism.

  [76. ]Cabet, Voyage en Icarie (Paris, 1848), p. 127.

  [77. ]Luther urged the Princes of his party not to tolerate the monastic system and the Mass. According to him it would be irrelevant to answer that, as the Emperor Charles was convinced that the Papist doctrine was true, he would act justly, from his point of view, in destroying the Lutheran teachings as heresy. For we know “that he is not certain of this, nor can he be certain, because we know that he errs and fights against the Gospels. For it is not our duty to believe that he is certain, because he goes without God’s Word and we go with God’s Word; rather it is his duty to recognize God’s Word and to advance it, like us, with all his power.” Dr. Martin Luther’s Briefe, Sendschreiben und Bedenken, ed. de Wette, Part IV (Berlin, 1827), pp. 93 ff.; Paulus, Protestantismus und Toleranz im 16. Jahrhundert (Freiburg, 1911), p. 23.

  [78. ]“It is misleading to say: Progress should be organized. What is really productive cannot be put into forms made in advance; it flourishes only in unrestricted freedom. The followers may then organize themselves, which is also called ’forming a school’.” Spranger, Begabung und Studium (Leipzig, 1917), p. 8. See also Mill, On Liberty, 3rd ed. (London, 1864), pp. 114 ff.

  [79. ]Bebel, Die Frau und der Sozialismus, p. 284. Publisher’s Note: p. 395 in the English edition. See Index to Works Cited for complete citation.

  [80. ]How Bebel pictured to himself life in a socialist community is shown by the following: “Here she (Woman) is active under the same conditions as the man. At one moment a practical worker in some industry she is in the next hour educator, teacher, nurse; in the third part of the day she exercises some art or cultivates a science; and in the fourth part she fulfils some administrative function. She enjoys studies, pleasures and amusement with her like or with men, just as she wishes and as the opportunity offers. In love choice she is free and unfettered like the man. She woos or lets herself be wooed, etc.” (Bebel, op. cit., p. 342). Publisher’s Note: pp. 466-467 in English edition.

  [81. ]This corresponds to Bellamy’s ideas. (Ein Rückblick, translated by Hoops in Meyers Volksbücher, pp. 230 ff.) Publisher’s Note: In English, Looking Backward: If Socialism Comes, 2000-1887 (Boston, 1889); chapter 15; and (W. Foulsham, London), pp. 92-99.

  [82. ]Similarly formulated by J. S. Mill, On Liberty, p. 7.

  [83. ]Clark, Essentials of Economic Theory (New York, 1907), pp. 131 ff.

  [84. ]Bebel, Die Frau und der Sozialismus, p. 340. Bebel quotes therewith the well-known verse of Heine. Publisher’s Note: p. 463 in the English edition.

  [85. ]Heinrich Soetbeer, Die Stellung der Sozialisten zur Malthusschen Bevölkerungslehre (Berlin, 1886), pp. 33 ff.; 52 ff.; 85 ff.

  [86. ]Malthus, An Essay on the Principle of Population, 5th ed. (London, 1817), Vol. II, pp. 245 ff.

  [87. ]Tarde, Die Sozialen Gesetze, German translation by Hammer (Leipzig, 1908), p. 99. Also the numerous examples in Roscher, Ansichten der Volkswirtschaft vom geschichtlichen Standpunkt, 3rd ed. (Leipzig, 1878), Vol. I, pp. 112 ff. Publisher’s Note: The Tarde book in English is Social Laws. Translated by Howard C. Warren, with preface by James Mark Baldwin (New York: Macmillan, 1899).

  [88. ]On the difficulties a socialist economy must put in the way of the invention and, even more, of the realization of technical improvements, see Dietzel, Technischer Fortschritt und Freiheit der Wirtschaft (Bonn and Leipzig, 1922), pp. 47 ff.

  [89. ]See the pertinent criticism of these efforts which are evidence of good intentions rather than of scientific sharpness of thought, in Michaelis, Volkswirtschaftliche Schriften (Berlin, 1873), Vol. II, pp. 3 ff., and by Petritsch, Zur Lehre von der Überwälzung der Steuern mir besonderer Beziehung auf den Börsenverkehr (Graz, 1903), pp. 28 ff. Of Adolf Wagner, Petritsch says that “although he likes to call economic life an ’organism’ and wants to have it considered as such, and although he always stresses the interest of the community against that of individuals, yet in concrete economic problems he does not get beyond the individuals and their more or less moral aims, and wilfully overlooks the organic connection between these and other economic phenomena. Thus he ends where, strictly speaking, should be the starting point, not the end, of every economic investigation” p. 59). The same is true of all writers who have thundered against speculation.

  [90. ]See the criticism of these theories and movements in Passow, Der Strukturwandel der Aktiengesellschaft im Lichte der Wirtschaftsenquete (Jena, 1930), pp. 1 ff.

  [91. ]Lenin, Staat und Revolution, p. 94. Publisher’s Note: p. 304 in the English edition.

  [92. ]Ibid., p. 95. Publisher’s Note: pp. 304-305 in the English edition.

  [93. ]Ibid., p. 96. Publisher’s Note: p. 305 in the English edition.

  [94. ]Lenin, Die nächsten Aufgaben der Sowjetmacht (Berlin, 1918), pp. 16 ff.

• Back to Top

  3: “The Social and Political Implications of Bureaucratization” in Bureaucracy [1944/2007]

  Ludwig von Mises, Bureaucracy, edited and with a Foreword by Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Chapter: V: The Social and Political Implications of Bureaucratization

  Accessed from oll.libertyfund.org/title/1891/110127 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  V

  The Social and Political Implications of Bureaucratization

  1.

  The Philosophy of Bureaucratism

  The antagonism which the people had to encounter in earlier struggles for freedom was simple and could be understood by everybody. There were on the one side the tyrants and their supporters; there were on the other side the advocates of popular government. The political conflicts were struggles of various groups for supremacy. The question was: Who should rule? We or they? The few or the many? The despot or the aristocracy or the people?

  Today the fashionable philosophy of Statolatry has obfuscated the issue. The political conflicts are no longer seen as struggles between groups of men. They are considered a war between two principles, the good and the bad. The good is embodied in the great god State, the materialization of the eternal idea of morality, and the bad in the “rugged individualism” of selfish men.1 In this antagonism the State is always right and the individual always wrong. The State is the representative of the commonweal, of justice, civilization, and superior wisdom. The individual is a poor wretch, a vicious fool.

  When a German says “der Staat” or when a Marxian says “society,” they are overwhelmed by reverential awe. How can a man be so entirely corrupt as to rise in rebellion against this Supreme Being?

  Louis XIV was very frank and sincere when he said: I am the State. The modern etatist is modest. He says: I am the servant of the State; but, he implies, the State is God. You could revolt against a Bourbon king, and the French did it. This was, of course, a struggle of man against man. But you cannot revolt against the god State and against his humble handyman, the bureaucrat.

  Let us not question the sincerity of the well-intentioned officeholder. He is fully imbued with the idea that it is his sacred duty to fight for his idol against the selfishness of the populace. He is, in his opinion, the champion of the eternal divine law. He does not feel himself morally bound by the human laws which the defenders of individualism have written into the statutes. Men cannot alter the genuine laws of god, the State. The individual citizen, in violating one of the laws of his country, is a criminal deserving punishment. He has acted for his own selfish advantage. But it is quite a different thing if an officeholder evades the duly promulgated laws of the nation for the benefit of the “State.” In the opinion of “reactionary” courts he may be technically guilty of a contravention. But in a higher moral sense he was right. He has broken human laws lest he violate a divine law.

  This is the essence of the philosophy of bureaucratism. The written laws are, in the eyes of the officials, barriers erected for the protection of scoundrels against the fair claims of society. Why should a criminal evade punishment only because the “State” in prosecuting him has violated some frivolous formalities? Why should a man pay lower taxes only because there is a loophole left in the tax law? Why should lawyers make a living advising people how to profit from the imperfections of the written law? What is the use of all these restrictions imposed by the written law upon the government official’s honest endeavors to make the people happy? If only there were no constitutions, bills of rights, laws, parliaments, and courts! No newspapers and no attorneys! How fine the world would be if the “State” were free to cure all ills!

  It is one step only from such a mentality to the perfect totalitarianism of Stalin and Hitler.

  The answer to be given to these bureaucratic radicals is obvious. The citizen may reply: You may be excellent and lofty men, much better than we other citizens are. We do not question your competence and your intelligence. But you are not the vicars of a god called “the State.” You are servants of the law, the duly passed laws of our nation. It is not your business to criticize the law, still less to violate it. In violating the law you are perhaps worse than a good many of the racketeers, no matter how good your intentions may be. For you are appointed, sworn, and paid to enforce the law, not to break it. The worst law is better than bureaucratic tyranny.

  The main difference between a policeman and a kidnapper and between a tax collector and a robber is that the policeman and the tax collector obey and enforce the law, while the kidnapper and robber violate it. Remove the law, and society will be destroyed by anarchy. The State is the only institution entitled to apply coercion and compulsion and to inflict harm upon individuals. This tremendous power cannot be abandoned to the discretion of some men, however competent and clever they may deem themselves. It is necessary to restrict its application. This is the task of the laws.

  The officeholders and the bureaucrats are not the State. They are men selected for the application of the laws. One may call such opinions orthodox and doctrinaire. They are indeed the expression of old wisdom. But the alternative to the rule of law is the rule of despots.

  2.

  Bureaucratic Complacency

  The officeholder’s task is to serve the public. His office has been established—directly or indirectly—by a legislative act and by the allocation of the means necessary for its support in the budget. He executes the laws of his country. In performing his duties he shows himself a useful member of the community, even if the laws which he has to put into practice are detrimental to the commonweal. For it is not he who is responsible for their inadequacy. The sovereign people is to blame, not the faithful executor of the people’s will. As the distillers are not responsible for people getting drunk, so the government’s clerks are not responsible for the undesirable consequences of unwise laws.

  On the other hand, it is not the merit of the bureaucrats that many benefits are derived from their actions. That the police department’s work is so efficient that the citizens are fairly well protected against murder, robbery, and theft does not oblige the rest of the people to be more grateful to the police officers than to any other fellow citizens rendering useful services. The police officer and the fireman have no better claim to the public’s gratitude than the doctors, the railroad engineers, the welders, the sailors, or the manufacturers of any useful commodity. The traffic cop has no more cause for conceit than the manufacturer of traffic lights. It is not his merit that his superiors assigned him to a duty in which he daily and hourly prevents accidental killing and thus saves many people’s lives.

  It is true that society could not do without the services rendered by patrolmen, tax collectors, and clerks of the courts. But it is no less true that everyone would suffer great damage if there were no scavengers, chimney sweepers, dishwashers, and bug exterminators. Within the framework of social cooperation every citizen depends on the services rendered by all his fellow citizens. The great surgeon and the eminent musician would never have been able to concentrate all their efforts upon surgery and music if the division of labor had not freed them from the necessity of taking care of many trifles the performance of which would have prevented them from becoming perfect specialists. The ambassador and the lighthouse keeper have no better claim to the epithet pillar of society than the Pullman porter and the charwoman. For, under the division of labor, the structure of society rests on the shoulders of all men and women.

  There are, of course, men and women serving in an altruistic and entirely detached way. Mankind would never have reached the present state of civilization without heroism and self-sacrifice on the part of an elite. Every step forward on the way toward an improvement of moral conditions has been an achievement of men who were ready to sacrifice their own well-being, their health, and their lives for the sake of a cause that they considered just and beneficial. They did what they considered their duty without bothering whether they themselves would not be victimized. These people did not work for the sake of reward, they served their cause unto death.

  It was a purposeful confusion on the part of the German metaphysicians of statolatry that they clothed all men in the government service with the gloriole of such altruistic self-sacrifice. From the writings of the German etatists the civil servant emerges as a saintly being, a sort of monk who forsook all earthly pleasures and all personal happiness in order to serve, to the best of his abilities, God’s lieutenant, once the Hohenzollern king and today the Führer. The Staatsbeamte does not work for pay because no salary however large could be considered an adequate reward for the invaluable and priceless benefits that society derives from his self-denying sacrifice. Society owes him not pay but a maintenance adequate to his rank in the official hierarchy. It is a misnomer to call this maintenance a salary.2 Only liberals, biased by the prejudices and errors of commercialism, use such a wrong term. If the Beamtengehalt (the civil servant’s salary) were a real salary, it would be only just and natural to give the holder of the most modest office an income higher than that of anybody outside of the official hierarchy. Every civil servant is, when on duty, a mandatory of the State’s sovereignty and infallibility. His testimony in court counts more than that of the layman.

  All this was sheer nonsense. In all countries most people joined the staff of the government offices because the salary and the pension offered were higher than what they could expect to earn in other occupations. They did not renounce anything in serving the government. Civil service was for them the most profitable job they could find.

  The incentive offered by the civil service in Europe consisted not only in the level of the salary and the pension; many applicants, and not the best ones, were attracted by the ease of the work and by the security. As a rule government jobs were less exigent than those in business. Besides, the appointments were for life. An employee could be dismissed only when a kind of judicial trial had found him guilty of heinous neglect of his duties. In Germany, Russia, and France, every year many thousands of boys whose life plan was completely fixed entered the lowest grade of the system of secondary education. They would take their degrees, they would get a job in one of the many departments, they would serve thirty or forty years, and then retire with a pension. Life had no surprises and no sensations for them, everything was plain and known beforehand.

  The difference between the social prestige of government jobs in continental Europe and in America may be illustrated by an example. In Europe social and political discrimination against a minority group took the form of barring such people from access to all government jobs, no matter how modest the position and the salary. In Germany, in the Austro-Hungarian Empire, and in many other countries all those subordinate jobs that did not require special abilities or training—like attendants, ushers, heralds, beadles, apparitors, messengers, janitors— were legally reserved for ex-soldiers who had voluntarily given more years of active service in the armed forces than the minimum required by the law. These jobs were considered highly valued rewards for noncommissioned officers. In the eyes of the people, it was a privilege to serve as an attendant in a bureau. If in Germany there had been a class of the social status of the American Negro, such persons would never have ventured to apply for one of these jobs. They would have known that such an ambition was extravagant for them.

  3.

  The Bureaucrat as a Voter

  The bureaucrat is not only a government employee. He is, under a democratic constitution, at the same time a voter and as such a part of the sovereign, his employer. He is in a peculiar position: He is both employer and employee. And his pecuniary interest as employee towers above his interest as employer, as he gets much more from the public funds than he contributes to them.

  This double relationship becomes more important as the people on the government’s payroll increase. The bureaucrat as voter is more eager to get a raise than to keep the budget balanced. His main concern is to swell the payroll.

  The political structure of Germany and France, in the last years preceding the fall of their democratic constitutions, was to a very great extent influenced by the fact that for a considerable part of the electorate the state was the source of income. There were not only the hosts of public employees, and those employed in the nationalized branches of business (e.g., railroad, post, telegraph, and telephone), there were the receivers of the unemployment dole and of social security benefits, as well as the farmers and some other groups which the government directly or indirectly subsidized. Their main concern was to get more out of the public funds. They did not care for “ideal” issues like liberty, justice, the supremacy of the law, and good government. They asked for more money, that was all. No candidate for parliament, provincial diets, or town councils could risk opposing the appetite of the public employees for a raise. The various political parties were eager to outdo one another in munificence.

  In the nineteenth century the parliaments were intent on restricting public expenditures as much as possible. But now thrift became despicable. Boundless spending was considered a wise policy. Both the party in power and the opposition strove for popularity by openhandedness. To create new offices with new employees was called a “positive” policy, and every attempt to prevent squandering public funds was disparaged as “negativism.”

  Representative democracy cannot subsist if a great part of the voters are on the government payroll. If the members of parliament no longer consider themselves mandatories of the taxpayers but deputies of those receiving salaries, wages, subsidies, doles, and other benefits from the treasury, democracy is done for.

  This is one of the antinomies inherent in present-day constitutional issues. It has made many people despair of the future of democracy. As they became convinced that the trend toward more government interference with business, toward more offices with more employees, toward more doles and subsidies is inevitable, they could not help losing confidence in government by the people.

  4.

  The Bureaucratization of the Mind

  The modern trend toward government omnipotence and totalitarianism would have been nipped in the bud if its advocates had not succeeded in indoctrinating youth with their tenets and in preventing them from becoming acquainted with the teachings of economics.

  Economics is a theoretical science and as such does not tell man what values he should prefer and what ends he should aim at. It does not establish ultimate ends. This is not the task of the thinking man but that of the acting man. Science is a product of thought, action a product of will. In this sense we may say that economics as a science is neutral with regard to the ultimate ends of human endeavor.

  But it is different with regard to the means to be applied for the attainment of given social ends. There economics is the only reliable guide of action. If men are eager to succeed in the pursuit of any social ends, they must adjust their conduct to the results of economic thinking.

  The outstanding fact of the intellectual history of the last hundred years is the struggle against economics. The advocates of government omnipotence did not enter into a discussion of the problems involved. They called the economists names, they cast suspicion upon their motives, they ridiculed them and called down curses upon them.

  It is, however, not the task of this book to deal with this phenomenon. We have to limit ourselves to the description of the role that bureaucracy played in this development.

  In most countries of the European continent the universities are owned and operated by the government. They are subject to the control of the Ministry of Education as a police station is subject to the head of the police department. The teachers are civil servants like patrolmen and customs officers. Nineteenth-century liberalism tried to limit the right of the Ministry of Education to interfere with the freedom of university professors to teach what they considered true and correct. But as the government appointed the professors, it appointed only trustworthy and reliable men, that is, men who shared the government’s viewpoint and were ready to disparage economics and to teach the doctrine of government omnipotence.

  As in all other fields of bureaucratization, nineteenth-century Germany was far ahead of other nations in this matter too. Nothing characterizes the spirit of the German universities better than a passage of an oration that the physiologist Emil du Bois-Reymond delivered in 1870 in his double capacity as Rector of the University of Berlin and as President of the Prussian Academy of Science: “We, the University of Berlin, quartered opposite the King’s palace, are, by the deed of our foundation, the intellectual bodyguard of the House of Hohenzollern.” The idea that such a royal henchman should profess views contrary to the tenets of the government, his employer, was incomprehensible to the Prussian mind. To maintain the theory that there are such things as economic laws was deemed a kind of rebellion. For if there are economic laws, then governments cannot be regarded as omnipotent, as their policies could only succeed when adjusted to the operation of these laws. Thus the main concern of the German professors of the social sciences was to denounce the scandalous heresy that there is a regularity in economic phenomena. The teaching of economics was anathematized and wirtschaftliche Staatswissenschaften (economic aspects of political science) put in its place. The only qualities required in an academic teacher of the social sciences were disparagement of the operation of the market system and enthusiastic support of government control. Under the Kaiser radical Marxians who openly advocated a revolutionary upheaval and the violent overthrow of the government were not appointed to full-time professorships; the Weimar Republic virtually abolished this discrimination.

  Economics deals with the operation of the whole system of social cooperation, with the interplay of all its determinants, and with the interdependence of the various branches of production. It cannot be broken up into separate fields open to treatment by specialists who neglect the rest. It is simply nonsensical to study money or labor or foreign trade with the same kind of specialization which historians apply when dividing human history into various compartments. The history of Sweden can be treated with almost no reference to the history of Peru. But you cannot deal with wage rates without dealing at the same time with commodity prices, interest rates, and profits. Every change occurring in one of the economic elements affects all other elements. One will never discover what a definite policy or change brings about if one limits his investigation to a special segment of the whole system.

  It is precisely this interdependence that the government does not want to see when it meddles in economic affairs. The government pretends to be endowed with the mystical power to accord favors out of an inexhaustible horn of plenty. It is both omniscient and omnipotent. It can by a magic wand create happiness and abundance.

  The truth is that the government cannot give if it does not take from somebody. A subsidy is never paid by the government out of its own funds; it is at the expense of the taxpayer that the state grants subsidies. Inflation and credit expansion, the preferred methods of present-day government openhandedness, do not add anything to the amount of resources available. They make some people more prosperous, but only to the extent that they make others poorer. Interference with the market, with commodity prices, wage rates, and interest rates as determined by demand and supply, may in the short run attain the ends aimed at by the government. But in the long run such measures always result in a state of affairs which—from the viewpoint of the government—is more unsatisfactory than the previous state they were intended to alter.

  It is not in the power of the government to make everybody more prosperous. It can raise the income of the farmers by forcibly restricting domestic agricultural production. But the higher prices of farm products are paid by the consumers, not by the state. The counterpart of the farmers’ higher standard of living is the lowering of the standard of living of the rest of the nation. The government can protect the small shops against the competition of department stores and chain stores. But here again the consumers foot the bill. The state can improve the conditions of a part of the wage earners by allegedly pro-labor legislation or by giving a free hand to labor union pressure and compulsion. But if this policy does not result in a corresponding rise in the prices of manufactures, thereby bringing real wage rates back to the market level, it brings about unemployment of a considerable part of those willing to earn wages.

  A scrutiny of such policies from the viewpoint of economic theory must necessarily show their futility. This is why economics is tabooed by the bureaucrats. But the governments encourage the specialists who limit their observations to a narrow field without bothering about the further consequences of a policy. The labor economist deals only with the immediate results of pro-labor policies, the farm economist only with the rise of agricultural prices. They both view the problems only from the angle of those pressure groups which are immediately favored by the measure in question and disregard its ultimate social consequences. They are not economists, but expounders of government activities in a particular branch of the administration.

  For under government interference with business, the unity of government policies has long since disintegrated into badly coordinated parts. Gone are the days when it was still possible to speak of a government’s policy. Today in most countries each department follows its own course, working against the endeavors of the other departments. The department of labor aims at higher wage rates and at lower living costs. But the same administration’s department of agriculture aims at higher food prices, and the department of commerce tries to raise domestic commodity prices by tariffs. One department fights against monopoly, but other departments are eager to bring about—by tariffs, patents, and other means—the conditions required for the building of monopolistic restraint. And each department refers to the expert opinion of those specialized in their respective fields.

  Thus the students no longer receive an initiation into economics. They learn incoherent and disconnected facts about various government measures thwarting one another. Their doctor’s theses and their graduate research work deal not with economics but with various topics of economic history and various instances of government interference with business. Such detailed and well-documented statistical studies of the conditions of the immediate past (mistakenly often labeled studies about “present-day” conditions) are of great value for the future historian. They are no less important for the vocational tasks of lawyers and office clerks. But they are certainly not a substitute for the lack of instruction in economics. It is amazing that Stresemann’s doctoral thesis dealt with the conditions of the bottled beer trade in Berlin. Under the conditions of the German university curriculum this meant that he devoted a considerable part of his university work to the study of the marketing of beer and of the drinking habits of the population. This was the intellectual equipment that the glorified German university system gave to a man who later acted as the Reich’s chancellor in the most critical years of German history.*

  After the old professors who had got their chairs in the short flowering of German liberalism had died, it became impossible to hear anything about economics at the universities of the Reich. There were no longer any German economists, and the books of foreign economists could not be found in the libraries of the university seminars. The social scientists did not follow the example of the professors of theology who acquainted their students with the tenets and dogmas of other churches and sects and with the philosophy of atheism because they were eager to refute the creeds they deemed heretical. All that the students of the social sciences learned from their teachers was that economics is a spurious science and that the so-called economists are, as Marx said, sycophantic apologists of the unfair class interests of bourgeois exploiters, ready to sell the people to big business and finance capital.3 The graduates left the universities convinced advocates of totalitarianism either of the Nazi variety or of the Marxian brand.

  Conditions in other countries were similar. The most eminent establishment of French learning was the École Normale Supérieure in Paris; its graduates filled the most important posts in public administration, politics, and higher education. This school was dominated by Marxians and other supporters of full government control. In Russia the Imperial Government did not admit to a university chair anybody suspected of the liberal ideas of “Western” economics. But, on the other hand, it appointed many Marxians of the “loyal” wing of Marxism, i.e., those who kept out of the way of the revolutionary fanatics. Thus the Czars themselves contributed to the later triumph of Marxism.

  European totalitarianism is an upshot of bureaucracy’s preeminence in the field of education. The universities paved the way for the dictators.

  Today both in Russia and in Germany the universities are the main strongholds of the one-party system. Not only the social sciences, history, and philosophy, but all other branches of knowledge, of art, and of literature are regimented or, as the Nazis say, gleichgeschaltet. Even Sidney and Beatrice Webb, naive and uncritical admirers of the Soviets as they are, were shocked when they discovered that the Journal for Marxist-Leninist Natural Sciences stands “for party in mathematics” and “for the purity of Marxist-Leninist theory in surgery” and that the Soviet Herald of Venereology and Dermatology aims at considering all problems that it discusses from the point of view of dialectical materialism.4

  5.

  Who Should Be the Master?

  Under any system of the division of labor a principle for the coordination of the activities of the various specialists is needed. The specialist’s effort would be aimless and contrary to purpose if he were not to find a guide in the supremacy of the public. Of course, production’s only end is to serve the consumers.

  Under a market society the profit motive is the directing principle. Under government control it is regimentation. There is no third possibility left. To a man not driven by the impulse to make money on the market some code must say what to do and how.

  One of the most frequent objections raised against the liberal and democratic system of capitalism is that it stresses mainly the individual’s rights, to the neglect of his duties. People stand on their rights and forget their obligations. However, from the social viewpoint the duties of the citizens are more important than their rights.

  There is no need for us to dwell upon the political and constitutional aspect of this antidemocratic critique. The rights of man as codified in the various bills of rights are promulgated for the protection of the individual against governmental arbitrariness. But for them all people would be slaves of despotic rulers.

  In the economic sphere the right to acquire and to own property is not a privilege. It is the principle that safeguards the best satisfaction of the wants of the consumers. He who is eager to earn, to acquire, and to hold wealth is under the necessity of serving the consumers. The profit motive is the means of making the public supreme. The better a man succeeds in supplying the consumers, the greater become his earnings. It is to everybody’s advantage that the entrepreneur who produces good shoes at the cheapest cost becomes rich; most people would suffer some loss if a law were to limit his right to get richer. Such a law would only favor his less efficient competitors. It would not lower but raise the price of shoes.

  Profit is the reward for the best fulfillment of some voluntarily assumed duties. It is the instrument that makes the masses supreme. The common man is the customer for whom the captains of industry and all their aides are working.

  It has been objected that this is not true as far as big business is concerned. The consumer has no other choice than either to patronize the business or to forego the satisfaction of a vital need. He is thus forced to submit to any price asked by the entrepreneur. Big business is no longer a supplier and purveyor but a master. It is not under the necessity of improving and cheapening its service.

  Let us consider the case of a railroad connecting two cities not connected by any other rail line. We may even ignore the fact that other means of transportation are in competition with the railroad: buses, passenger cars, aeroplanes, and river boats. Under these assumptions it is true that whoever wants to travel is forced to patronize the railroad. But this does not remove the company’s interest in good and cheap service. Not all those who consider traveling are forced to make the journey under any conditions. The number of passengers both for pleasure and for business depends on the efficiency of the service and on the rates charged. Some people will travel in any case. Others will travel only if the quality and speed of the service and cheap rates make traveling attractive. It is precisely this second group whose patronage means for the company the difference between dull or even bad business and profitable business. If this is true for a railroad under the extreme assumptions made above, it is much more true for any other branch of business.

  All specialists, whether businessmen or professional people, are fully aware of their dependence on the consumers’ directives. Daily experience teaches them that, under capitalism, their main task is to serve the consumers. Those specialists who lack an understanding of the fundamental social problems resent very deeply this “servitude” and want to be freed. The revolt of narrow-minded experts is one of the powerful forces pushing toward general bureaucratization.

  The architect must adjust his blueprints to the wishes of those for whom he builds homes; or—in the case of apartment houses—of the proprietors who want to own a building that suits the tastes of the prospective tenants and can therefore be easily rented. There is no need to find out whether the architect is right in believing that he knows better what a fine house should look like than the foolish laymen who lack good taste. He may foam with rage when he is forced to debase his wonderful projects in order to please his customers. And he yearns for an ideal state of affairs in which he could build homes that meet his own artistic standards. He longs for a government housing office and sees himself in his daydreams at the top of this bureau. Then he will construct dwellings according to his own fashion.

  This architect would be highly offended if somebody were to call him a would-be dictator. My only aim, he could retort, is to make people happy by providing them with finer houses; these people are too ignorant to know what would best promote their own well-being; the expert, under the auspices of the government, must take care of them; there should be a law against ugly buildings. But, let us ask, who is to decide which kind of architectural style has to be considered good and which bad? Our architect will answer: Of course, I, the expert. He boldly disregards the fact that there is, even among the architects, very considerable dissent with regard to styles and artistic values.

  We do not want to stress the point that this architect, even under a bureaucratic dictatorship and precisely under such a totalitarianism, will not be free to build according to his own ideas. He will have to comply with the tastes of his bureaucratic superiors, and they themselves will be subject to the whims of the supreme dictator. In Nazi Germany the architects are not free either. They have to accommodate themselves to the plans of the frustrated artist Hitler.

  Still more important is this. There are, in the field of esthetics as in all other fields of human endeavor, no absolute criteria of what is beautiful and what is not. If a man forces his fellow citizens to submit to his own standards of value, he does not make them any happier. They themselves alone can decide what makes them happy and what they like. You do not increase the happiness of a man eager to attend a performance of Abie’s Irish Rose by forcing him to attend a perfect performance of Hamlet instead. You may deride his poor taste. But he alone is supreme in matters of his own satisfaction.

  The dictatorial nutrition expert wants to feed his fellow citizens according to his own ideas about perfect alimentation. He wants to deal with men as the cattle breeder deals with his cows. He fails to realize that nutrition is not an end in itself but the means for the attainment of other ends. The farmer does not feed his cow in order to make it happy but in order to attain some end which the well-fed cow should serve. There are various schemes for feeding cows. Which one of them he chooses depends on whether he wants to get as much milk as possible or as much meat as possible or something else. Every dictator plans to rear, raise, feed, and train his fellowmen as the breeder does his cattle. His aim is not to make the people happy but to bring them into a condition which renders him, the dictator, happy. He wants to domesticate them, to give them cattle status. The cattle breeder also is a benevolent despot.

  The question is: Who should be the master? Should man be free to choose his own road toward what he thinks will make him happy? Or should a dictator use his fellowmen as pawns in his endeavors to make himself, the dictator, happier?

  We may admit that some experts are right in telling us that most people behave foolishly in their pursuit of happiness. But you cannot make a man happier by putting him under guardianship. The experts of the various government agencies are certainly fine men. But they are not right in becoming indignant whenever the legislature frustrates their carefully elaborated designs. What is the use of representative government, they ask; it merely thwarts our good intentions. But the only question is: Who should run the country? The voters or the bureaucrats?

  Every half-wit can use a whip and force other people to obey. But it requires brains and diligence to serve the public. Only a few people succeed in producing shoes better and cheaper than their competitors. The inefficient expert will always aim at bureaucratic supremacy. He is fully aware of the fact that he cannot succeed within a competitive system. For him all-round bureaucratization is a refuge. Equipped with the power of an office he will enforce his rulings with the aid of the police.

  At the bottom of all this fanatical advocacy of planning and socialism there is often nothing else than the intimate consciousness of one’s own inferiority and inefficiency. The man who is aware of his inability to stand competition scorns “this mad competitive system.” He who is unfit to serve his fellow citizens wants to rule them.

  [1. ]Such is the political interpretation of the issue. For the current economic interpretation see below pp. 96–97.

  [2. ]Cf. Laband, Das Staatsrecht des Deutschen Reiches (5th ed. Tübingen, 1911), I, 500.

  [* ][Editor’s note: Gustav Stresemann served as chancellor of Germany in 1923 and as minister of foreign affairs 1923–29.]

  [3. ]Cf. Pohle, Die gegenwärtige Krise der deutschen Volkswirtschaftslehre (2d ed. Leipzig, 1921).

  [4. ]Sidney and Beatrice Webb, Soviet Communism: A New Civilization? (New York, 1936), II, 1000.

• Back to Top

  4: “Acting Man” in Human Action: A Treatise on Economics, vol. 1 [1949/2007]

  Ludwig von Mises, Human Action: A Treatise on Economics, in 4 vols., ed. Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Vol. 1. Chapter: CHAPTER 1: Acting Man

  Accessed from oll.libertyfund.org/title/1893/110175 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  CHAPTER 1

  Acting Man

  1

  Purposeful Action and Animal Reaction

  Human action is purposeful behavior. Or we may say: Action is will put into operation and transformed into an agency, is aiming at ends and goals, is the ego’s meaningful response to stimuli and to the conditions of its environment, is a person’s conscious adjustment to the state of the universe that determines his life. Such paraphrases may clarify the definition given and prevent possible misinterpretations. But the definition itself is adequate and does not need complement or commentary.

  Conscious or purposeful behavior is in sharp contrast to unconscious behavior, i.e., the reflexes and the involuntary responses of the body’s cells and nerves to stimuli. People are sometimes prepared to believe that the boundaries between conscious behavior and the involuntary reaction of the forces operating within man’s body are more or less indefinite. This is correct only as far as it is sometimes not easy to establish whether concrete behavior is to be considered voluntary or involuntary. But the distinction between consciousness and unconsciousness is nonetheless sharp and can be clearly determined.

  The unconscious behavior of the bodily organs and cells is for the acting ego no less a datum than any other fact of the external world. Acting man must take into account all that goes on within his own body as well as other data, e.g., the weather or the attitudes of his neighbors. There is, of course, a margin within which purposeful behavior has the power to neutralize the working of bodily factors. It is feasible within certain limits to get the body under control. Man can sometimes succeed through the power of his will in overcoming sickness, in compensating for the innate or acquired insufficiency of his physical constitution, or in suppressing reflexes. As far as this is possible, the field of purposeful action is extended. If a man abstains from controlling the involuntary reaction of cells and nerve centers, although he would be in a position to do so, his behavior is from our point of view purposeful.

  The field of our science is human action, not the psychological events which result in an action. It is precisely this which distinguishes the general theory of human action, praxeology, from psychology. The theme of psychology is the internal events that result or can result in a definite action. The theme of praxeology is action as such. This also settles the relation of praxeology to the psychoanalytical concept of the subconscious. Psychoanalysis too is psychology and does not investigate action but the forces and factors that impel a man toward a definite action. The psychoanalytical subconscious is a psychological and not a praxeological category. Whether an action stems from clear deliberation, or from forgotten memories and suppressed desires which from submerged regions, as it were, direct the will, does not influence the nature of the action. The murderer whom a subconscious urge (the Id) drives toward his crime and the neurotic whose aberrant behavior seems to be simply meaningless to an untrained observer both act; they like anybody else are aiming at certain ends. It is the merit of psychoanalysis that it has demonstrated that even the behavior of neurotics and psychopaths is meaningful, that they too act and aim at ends, although we who consider ourselves normal and sane call the reasoning determining their choice of ends nonsensical and the means they choose for the attainment of these ends contrary to purpose.

  The term unconscious, as used by praxeology, and the terms subconscious and unconscious, as applied by psychoanalysis, belong to two different systems of thought and research. Praxeology no less than other branches of knowledge owes much to psychoanalysis. The more necessary is it then to become aware of the line which separates praxeology from psychoanalysis.

  Action is not simply giving preference. Man also shows preference in situations in which things and events are unavoidable or are believed to be so. Thus a man may prefer sunshine to rain and may wish that the sun would dispel the clouds. He who only wishes and hopes does not interfere actively with the course of events and with the shaping of his own destiny. But acting man chooses, determines, and tries to reach an end. Of two things both of which he cannot have together he selects one and gives up the other. Action therefore always involves both taking and renunciation.

  To express wishes and hopes and to announce planned action may be forms of action in so far as they aim in themselves at the realization of a certain purpose. But they must not be confused with the actions to which they refer. They are not identical with the actions they announce, recommend, or reject. Action is a real thing. What counts is a man’s total behavior, and not his talk about planned but not realized acts. On the other hand action must be clearly distinguished from the application of labor. Action means the employment of means for the attainment of ends. As a rule one of the means employed is the acting man’s labor. But this is not always the case. Under special conditions a word is all that is needed. He who gives orders or interdictions may act without any expenditure of labor. To talk or not to talk, to smile or to remain serious, may be action. To consume and to enjoy are no less action than to abstain from accessible consumption and enjoyment.

  Praxeology consequently does not distinguish between “active” or energetic and “passive” or indolent man. The vigorous man industriously striving for the improvement of his condition acts neither more nor less than the lethargic man who sluggishly takes things as they come. For to do nothing and to be idle are also action, they too determine the course of events. Wherever the conditions for human interference are present, man acts no matter whether he interferes or refrains from interfering. He who endures what he could change acts no less than he who interferes in order to attain another result. A man who abstains from influencing the operation of physiological and instinctive factors which he could influence also acts. Action is not only doing but no less omitting to do what possibly could be done.

  We may say that action is the manifestation of a man’s will. But this would not add anything to our knowledge. For the term will means nothing else than man’s faculty to choose between different states of affairs, to prefer one, to set aside the other, and to behave according to the decision made in aiming at the chosen state and forsaking the other.

  2

  The Prerequisites of Human Action

  We call contentment or satisfaction that state of a human being which does not and cannot result in any action. Acting man is eager to substitute a more satisfactory state of affairs for a less satisfactory. His mind imagines conditions which suit him better, and his action aims at bringing about this desired state. The incentive that impels a man to act is always some uneasiness.1 A man perfectly content with the state of his affairs would have no incentive to change things. He would have neither wishes nor desires; he would be perfectly happy. He would not act; he would simply live free from care.

  But to make a man act, uneasiness and the image of a more satisfactory state alone are not sufficient. A third condition is required: the expectation that purposeful behavior has the power to remove or at least to alleviate the felt uneasiness. In the absence of this condition no action is feasible. Man must yield to the inevitable. He must submit to destiny.

  These are the general conditions of human action. Man is the being that lives under these conditions. He is not only Homo sapiens, but no less Homo agens. Beings of human descent who either from birth or from acquired defects are unchangeably unfit for any action (in the strict sense of the term and not merely in the legal sense) are practically not human. Although the statutes and biology consider them to be men, they lack the essential feature of humanity. The newborn child too is not an acting being. It has not yet gone the whole way from conception to the full development of its human qualities. But at the end of this evolution it becomes an acting being.

  On Happiness

  In colloquial speech we call a man “happy” who has succeeded in attaining his ends. A more adequate description of his state would be that he is happier than he was before. There is however no valid objection to a usage that defines human action as the striving for happiness.

  But we must avoid current misunderstandings. The ultimate goal of human action is always the satisfaction of the acting man’s desire. There is no standard of greater or lesser satisfaction other than individual judgments of value, different for various people and for the same people at various times. What makes a man feel uneasy and less uneasy is established by him from the standard of his own will and judgment, from his personal and subjective valuation. Nobody is in a position to decree what should make a fellow man happier.

  To establish this fact does not refer in any way to the antitheses of egoism and altruism, of materialism and idealism, of individualism and collectivism, of atheism and religion. There are people whose only aim is to improve the condition of their own ego. There are other people with whom awareness of the troubles of their fellow men causes as much uneasiness as or even more uneasiness than their own wants. There are people who desire nothing else than the satisfaction of their appetites for sexual intercourse, food, drinks, fine homes, and other material things. But other men care more for the satisfactions commonly called “higher” and “ideal.” There are individuals eager to adjust their actions to the requirements of social cooperation; there are, on the other hand, refractory people who defy the rules of social life. There are people for whom the ultimate goal of the earthly pilgrimage is the preparation for a life of bliss. There are other people who do not believe in the teachings of any religion and do not allow their actions to be influenced by them.

  Praxeology is indifferent to the ultimate goals of action. Its findings are valid for all kinds of action irrespective of the ends aimed at. It is a science of means, not of ends. It applies the term happiness in a purely formal sense. In the praxeological terminology the proposition: man’s unique aim is to attain happiness, is tautological. It does not imply any statement about the state of affairs from which man expects happiness.

  The idea that the incentive of human activity is always some uneasiness and its aim always to remove such uneasiness as far as possible, that is, to make the acting men feel happier, is the essence of the teachings of Eudaemonism and Hedonism. Epicurean ἀταραξία [(ataraxia, Greek) complete peace of mind] is that state of perfect happiness and contentment at which all human activity aims without ever wholly attaining it. In the face of the grandeur of this cognition it is of little avail only that many representatives of this philosophy failed to recognize the purely formal character of the notions pain and pleasure and gave them a material and carnal meaning. The theological, mystical, and other schools of a heteronomous ethic did not shake the core of Epicureanism because they could not raise any other objection than its neglect of the “higher” and “nobler” pleasures. It is true that the writings of many earlier champions of Eudaemonism, Hedonism, and Utilitarianism are in some points open to misinterpretation. But the language of modern philosophers and still more that of the modern economists is so precise and straightforward that no misinterpretation can possibly occur.

  On Instincts and Impulses

  One does not further the comprehension of the fundamental problem of human action by the methods of instinct-sociology. This school classifies the various concrete goals of human action and assigns to each class a special instinct as its motive. Man appears as a being driven by various innate instincts and dispositions. It is assumed that this explanation demolishes once for all the odious teachings of economics and utilitarian ethics. However, Feuerbach has already justly observed that every instinct is an instinct to happiness.2 The method of instinct-psychology and instinct-sociology consists in an arbitrary classification of the immediate goals of action and in a hypostasis of each. Whereas praxeology says that the goal of an action is to remove a certain uneasiness, instinct-psychology says it is the satisfaction of an instinctive urge.

  Many champions of the instinct school are convinced that they have proved that action is not determined by reason, but stems from the profound depths of innate forces, impulses, instincts, and dispositions which are not open to any rational elucidation. They are certain they have succeeded in exposing the shallowness of rationalism and disparage economics as “a tissue of false conclusions drawn from false psychological assumptions.”3 Yet rationalism, praxeology, and economics do not deal with the ultimate springs and goals of action, but with the means applied for the attainment of an end sought. However unfathomable the depths may be from which an impulse or instinct emerges, the means which man chooses for its satisfaction are determined by a rational consideration of expense and success.4

  He who acts under an emotional impulse also acts. What distinguishes an emotional action from other actions is the valuation of input and output. Emotions disarrange valuations. Inflamed with passion, man sees the goal as more desirable and the price he has to pay for it as less burdensome than he would in cool deliberation. Men have never doubted that even in the state of emotion means and ends are pondered and that it is possible to influence the outcome of this deliberation by rendering more costly the yielding to the passionate impulse. To punish criminal offenses committed in a state of emotional excitement or intoxication more mildly than other offenses is tantamount to encouraging such excesses. The threat of severe retaliation does not fail to deter even people driven by seemingly irresistible passion.

  We interpret animal behavior on the assumption that the animal yields to the impulse which prevails at the moment. As we observe that the animal feeds, cohabits, and attacks other animals or men, we speak of its instincts of nourishment, of reproduction, and of aggression. We assume that such instincts are innate and peremptorily ask for satisfaction.

  But it is different with man. Man is not a being who cannot help yielding to the impulse that most urgently asks for satisfaction. Man is a being capable of subduing his instincts, emotions, and impulses; he can rationalize his behavior. He renounces the satisfaction of a burning impulse in order to satisfy other desires. He is not a puppet of his appetites. A man does not ravish every female that stirs his senses; he does not devour every piece of food that entices him; he does not knock down every fellow he would like to kill. He arranges his wishes and desires into a scale, he chooses; in short, he acts. What distinguishes man from beasts is precisely that he adjusts his behavior deliberatively. Man is the being that has inhibitions, that can master his impulses and desires, that has the power to suppress instinctive desires and impulses.

  It may happen that an impulse emerges with such vehemence that no disadvantage which its satisfaction may cause appears great enough to prevent the individual from satisfying it. In this case too there is choosing. Man decides in favor of yielding to the desire concerned.5

  3

  Human Action as an Ultimate Given

  Since time immemorial men have been eager to know the prime mover, the cause of all being and of all change, the ultimate substance from which everything stems and which is the cause of itself. Science is more modest. It is aware of the limits of the human mind and of the human search for knowledge. It aims at tracing back every phenomenon to its cause. But it realizes that these endeavors must necessarily strike against insurmountable walls. There are phenomena which cannot be analyzed and traced back to other phenomena. They are the ultimate given. The progress of scientific research may succeed in demonstrating that something previously considered as an ultimate given can be reduced to components. But there will always be some irreducible and unanalyzable phenomena, some ultimate given.

  Monism teaches that there is but one ultimate substance, dualism that there are two, pluralism that there are many. There is no point in quarreling about these problems. Such metaphysical disputes are interminable. The present state of our knowledge does not provide the means to solve them with an answer which every reasonable man must consider satisfactory.

  Materialist monism contends that human thoughts and volitions are the product of the operation of bodily organs, the cells of the brain and the nerves. Human thought, will, and action are solely brought about by material processes which one day will be completely explained by the methods of physical and chemical inquiry. This too is a metaphysical hypothesis, although its supporters consider it as an unshakable and undeniable scientific truth.

  Various doctrines have been advanced to explain the relation between mind and body. They are mere surmises without any reference to observed facts. All that can be said with certainty is that there are relations between mental and physiological processes. With regard to the nature and operation of this connection we know little if anything.

  Concrete value judgments and definite human actions are not open to further analysis. We may fairly assume or believe that they are absolutely dependent upon and conditioned by their causes. But as long as we do not know how external facts—physical and physiological—produce in a human mind definite thoughts and volitions resulting in concrete acts, we have to face an insurmountable methodological dualism. In the present state of our knowledge the fundamental statements of positivism, monism and panphysicalism are mere metaphysical postulates devoid of any scientific foundation and both meaningless and useless for scientific research. Reason and experience show us two separate realms: the external world of physical, chemical, and physiological phenomena and the internal world of thought, feeling, valuation, and purposeful action. No bridge connects—as far as we can see today—these two spheres. Identical external events result sometimes in different human responses, and different external events produce sometimes the same human response. We do not know why.

  In the face of this state of affairs we cannot help withholding judgment on the essential statements of monism and materialism. We may or may not believe that the natural sciences will succeed one day in explaining the production of definite ideas, judgments of value, and actions in the same way in which they explain the production of a chemical compound as the necessary and unavoidable outcome of a certain combination of elements. In the meantime we are bound to acquiesce in a methodological dualism.

  Human action is one of the agencies bringing about change. It is an element of cosmic activity and becoming. Therefore it is a legitimate object of scientific investigation. As—at least under present conditions—it cannot be traced back to its causes, it must be considered as an ultimate given and must be studied as such.

  It is true that the changes brought about by human action are but trifling when compared with the effects of the operation of the great cosmic forces. From the point of view of eternity and the infinite universe man is an infinitesimal speck. But for man human action and its vicissitudes are the real thing. Action is the essence of his nature and existence, his means of preserving his life and raising himself above the level of animals and plants. However perishable and evanescent all human efforts may be, for man and for human science they are of primary importance.

  4

  Rationality and Irrationality; Subjectivism and Objectivity of Praxeological Research

  Human action is necessarily always rational. The term rational action is therefore pleonastic and must be rejected as such. When applied to the ultimate ends of action, the terms rational and irrational are inappropriate and meaningless. The ultimate end of action is always the satisfaction of some desires of the acting man. Since nobody is in a position to substitute his own value judgments for those of the acting individual, it is vain to pass judgment on other people’s aims and volitions. No man is qualified to declare what would make another man happier or less discontented. The critic either tells us what he believes he would aim at if he were in the place of his fellow; or, in dictatorial arrogance blithely disposing of his fellow’s will and aspirations, declares what condition of this other man would better suit himself, the critic.

  It is usual to call an action irrational if it aims, at the expense of “material” and tangible advantages, at the attainment of “ideal” or “higher” satisfactions. In this sense people say, for instance—sometimes with approval, sometimes with disapproval—that a man who sacrifices life, health, or wealth to the attainment of “higher” goods—like fidelity to his religious, philosophical, and political convictions or the freedom and flowering of his nation—is motivated by irrational considerations. However, the striving after these higher ends is neither more nor less rational or irrational than that after other human ends. It is a mistake to assume that the desire to procure the bare necessities of life and health is more rational, natural, or justified than the striving after other goods or amenities. It is true that the appetite for food and warmth is common to men and other mammals and that as a rule a man who lacks food and shelter concentrates his efforts upon the satisfaction of these urgent needs and does not care much for other things. The impulse to live, to preserve one’s own life, and to take advantage of every opportunity of strengthening one’s vital forces is a primal feature of life, present in every living being. However, to yield to this impulse is not—for man—an inevitable necessity.

  While all other animals are unconditionally driven by the impulse to preserve their own lives and by the impulse of proliferation, man has the power to master even these impulses. He can control both his sexual desires and his will to live. He can give up his life when the conditions under which alone he could preserve it seem intolerable. Man is capable of dying for a cause or of committing suicide. To live is for man the outcome of a choice, of a judgment of value.

  It is the same with the desire to live in affluence. The very existence of ascetics and of men who renounce material gains for the sake of clinging to their convictions and of preserving their dignity and self-respect is evidence that the striving after more tangible amenities is not inevitable but rather the result of a choice. Of course, the immense majority prefer life to death and wealth to poverty.

  It is arbitrary to consider only the satisfaction of the body’s physiological needs as “natural” and therefore “rational” and everything else as “artificial” and therefore “irrational.” It is the characteristic feature of human nature that man seeks not only food, shelter, and cohabitation like all other animals, but that he aims also at other kinds of satisfaction. Man has specifically human desires and needs which we may call “higher” than those which he has in common with the other mammals.6

  When applied to the means chosen for the attainment of ends, the terms rational and irrational imply a judgment about the expediency and adequacy of the procedure employed. The critic approves or disapproves of the method from the point of view of whether or not it is best suited to attain the end in question. It is a fact that human reason is not infallible and that man very often errs in selecting and applying means. An action unsuited to the end sought falls short of expectation. It is contrary to purpose, but it is rational, i.e., the outcome of a reasonable—although faulty—deliberation and an attempt—although an ineffectual attempt—to attain a definite goal. The doctors who a hundred years ago employed certain methods for the treatment of cancer which our contemporary doctors reject were—from the point of view of present-day pathology—badly instructed and therefore inefficient. But they did not act irrationally; they did their best. It is probable that in a hundred years more doctors will have more efficient methods at hand for the treatment of this disease. They will be more efficient but not more rational than our physicians.

  The opposite of action is not irrational behavior, but a reactive response to stimuli on the part of the bodily organs and instincts which cannot be controlled by the volition of the person concerned. To the same stimulus man can under certain conditions respond both by reactive response and by action. If a man absorbs a poison, the organs react by setting up their forces of antidotal defense; in addition, action may interfere by applying counterpoison.

  With regard to the problem involved in the antithesis, rational and irrational, there is no difference between the natural sciences and the social sciences. Science always is and must be rational. It is the endeavor to attain a mental grasp of the phenomena of the universe by a systematic arrangement of the whole body of available knowledge. However, as has been pointed out above, the analysis of objects into their constituent elements must sooner or later necessarily reach a point beyond which it cannot go. The human mind is not even capable of conceiving a kind of knowledge not limited by an ultimate given inaccessible to further analysis and reduction. The scientific method that carries the mind up to this point is entirely rational. The ultimate given may be called an irrational fact.

  It is fashionable nowadays to find fault with the social sciences for being purely rational. The most popular objection raised against economics is that it neglects the irrationality of life and reality and tries to press into dry rational schemes and bloodless abstractions the infinite variety of phenomena. No censure could be more absurd. Like every other branch of knowledge, economics goes as far as it can be carried by rational methods. Then it stops by establishing the fact that it is faced with an ultimate given, i.e., a phenomenon which cannot—at least in the present state of our knowledge—be further analyzed.7

  The teachings of praxeology and economics are valid for every human action without regard to its underlying motives, causes, and goals. The ultimate judgments of value and the ultimate ends of human action are given for any kind of scientific inquiry; they are not open to any further analysis. Praxeology deals with the ways and means chosen for the attainment of such ultimate ends. Its object is means, not ends.

  In this sense we speak of the subjectivism of the general science of human action. It takes the ultimate ends chosen by acting man as data, it is entirely neutral with regard to them, and it refrains from passing any value judgments. The only standard which it applies is whether or not the means chosen are fit for the attainment of the ends aimed at. If Eudaemonism says happiness, if Utilitarianism and economics say utility, we must interpret these terms in a subjectivistic way as that which acting man aims at because it is desirable in his eyes. It is in this formalism that the progress of the modern meaning of Eudaemonism, Hedonism, and Utilitarianism consists as opposed to the older material meaning and the progress of the modern subjectivistic theory of value as opposed to the objectivistic theory of value as expounded by classical political economy. At the same time it is in this subjectivism that the objectivity of our science lies. Because it is subjectivistic and takes the value judgments of acting man as ultimate data not open to any further critical examination, it is itself above all strife of parties and factions, it is indifferent to the conflicts of all schools of dogmatism and ethical doctrines, it is free from valuations and preconceived ideas and judgments, it is universally valid and absolutely and plainly human.

  5

  Causality as a Requirement of Action

  Man is in a position to act because he has the ability to discover causal relations which determine change and becoming in the universe. Acting requires and presupposes the category of causality. Only a man who sees the world in the light of causality is fitted to act. In this sense we may say that causality is a category of action. The category means and ends presupposes the category cause and effect. In a world without causality and regularity of phenomena there would be no field for human reasoning and human action. Such a world would be a chaos in which man would be at a loss to find any orientation and guidance. Man is not even capable of imagining the conditions of such a chaotic universe.

  Where man does not see any causal relation, he cannot act. This statement is not reversible. Even when he knows the causal relation involved, man cannot act if he is not in a position to influence the cause.

  The archetype of causality research was: where and how must I interfere in order to divert the course of events from the way it would go in the absence of my interference in a direction which better suits my wishes? In this sense man raises the question: who or what is at the bottom of things? He searches for the regularity and the “law,” because he wants to interfere. Only later was this search more extensively interpreted by metaphysics as a search after the ultimate cause of being and existence. Centuries were needed to bring these exaggerated and extravagant ideas back again to the more modest question of where one must interfere or should one be able to interfere in order to attain this or that end.

  The treatment accorded to the problem of causality in the last decades has been, due to a confusion brought about by some eminent physicists, rather unsatisfactory. We may hope that this unpleasant chapter in the history of philosophy will be a warning to future philosophers.

  There are changes whose causes are, at least for the present time, unknown to us. Sometimes we succeed in acquiring a partial knowledge so that we are able to say: in 70 per cent of all cases A results in B, in the remaining cases in C, or even in D, E, F, and so on. In order to substitute for this fragmentary information more precise information it would be necessary to break up A into its elements. As long as this is not achieved, we must acquiesce in what is called a statistical law. But this does not affect the praxeological meaning of causality. Total or partial ignorance in some areas does not demolish the category of causality.

  The philosophical, epistemological, and metaphysical problems of causality and of imperfect induction are beyond the scope of praxeology. We must simply establish the fact that in order to act, man must know the casual relationship between events, processes, or states of affairs. And only as far as he knows this relationship, can his action attain the ends sought. We are fully aware that in asserting this we are moving in a circle. For the evidence that we have correctly perceived a causal relation is provided only by the fact that action guided by this knowledge results in the expected outcome. But we cannot avoid this vicious circular evidence precisely because causality is a category of action. And because it is such a category, praxeology cannot help bestowing some attention on this fundamental problem of philosophy.

  6

  The Alter Ego

  If we are prepared to take the term causality in its broadest sense, teleology can be called a variety of causal inquiry. Final causes are first of all causes. The cause of an event is seen as an action or quasi-action aiming at some end.

  Both primitive man and the infant, in a naïve anthropomorphic attitude, consider it quite plausible that every change and event is the outcome of the action of a being acting in the same way as they themselves do. They believe that animals, plants, mountains, rivers, and fountains, even stones and celestial bodies, are, like themselves, feeling, willing, and acting beings. Only at a later stage of cultural development does man renounce these animistic ideas and substitute the mechanistic world view for them. Mechanicalism proves to be so satisfactory a principle of conduct that people finally believe it capable of solving all the problems of thought and scientific research. Materialism and panphysicalism proclaim mechanicalism as the essence of all knowledge and the experimental and mathematical methods of the natural sciences as the sole scientific mode of thinking. All changes are to be comprehended as motions subject to the laws of mechanics.

  The champions of mechanicalism do not bother about the still unsolved problems of the logical and epistemological basis of the principles of causality and imperfect induction. In their eyes these principles are sound because they work. The fact that experiments in the laboratory bring about the results predicted by the theories and that machines in the factories run in the way predicted by technology proves, they say, the soundness of the methods and findings of modern natural science. Granted that science cannot give us truth—and who knows what truth really means?—at any rate it is certain that it works in leading us to success.

  But it is precisely when we accept this pragmatic point of view that the emptiness of the panphysicalist dogma becomes manifest. Science, as has been pointed out above, has not succeeded in solving the problems of the mind-body relations. The panphysicalists certainly cannot contend that the procedures they recommend have ever worked in the field of interhuman relations and of the social sciences. But it is beyond doubt that the principle according to which an Ego deals with every human being as if the other were a thinking and acting being like himself has evidenced its usefulness both in mundane life and in scientific research. It cannot be denied that it works.

  It is beyond doubt that the practice of considering fellow men as beings who think and act as I, the Ego, do has turned out well; on the other hand the prospect seems hopeless of getting a similar pragmatic verification for the postulate requiring them to be treated in the same manner as the objects of the natural sciences. The epistemological problems raised by the comprehension of other people’s behavior are no less intricate than those of causality and incomplete induction. It may be admitted that it is impossible to provide conclusive evidence for the propositions that my logic is the logic of all other people and by all means absolutely the only human logic and that the categories of my action are the categories of all other people’s action and by all means absolutely the categories of all human action. However, the pragmatist must remember that these propositions work both in practice and in science, and the positivist must not overlook the fact that in addressing his fellow men he presupposes—tacitly and implicitly—the intersubjective validity of logic and thereby the reality of the realm of the alter Ego’s thought and action, of his eminent human character.8

  Thinking and acting are the specific human features of man. They are peculiar to all human beings. They are, beyond membership in the zoological species Homo sapiens, the characteristic mark of man as man. It is not the scope of praxeology to investigate the relation of thinking and acting. For praxeology it is enough to establish the fact that there is only one logic that is intelligible to the human mind, and that there is only one mode of action which is human and comprehensible to the human mind. Whether there are or can be somewhere other beings—superhuman or subhuman—who think and act in a different way, is beyond the reach of the human mind. We must restrict our endeavors to the study of human action.

  This human action which is inextricably linked with human thought is conditioned by logical necessity. It is impossible for the human mind to conceive logical relations at variance with the logical structure of our mind. It is impossible for the human mind to conceive a mode of action whose categories would differ from the categories which determine our own actions.

  There are for man only two principles available for a mental grasp of reality, namely, those of teleology and causality. What cannot be brought under either of these categories is absolutely hidden to the human mind. An event not open to an interpretation by one of these two principles is for man inconceivable and mysterious. Change can be conceived as the outcome either of the operation of mechanistic causality or of purposeful behavior; for the human mind there is no third way available.9 It is true, as has already been mentioned, that teleology can be viewed as a variety of causality. But the establishment of this fact does not annul the essential differences between the two categories.

  The panmechanistic world view is committed to a methodological monism; it acknowledges only mechanistic causality because it attributes to it alone any cognitive value or at least a higher cognitive value than to teleology. This is a metaphysical superstition. Both principles of cognition—causality and teleology—are, owing to the limitations of human reason, imperfect and do not convey ultimate knowledge. Causality leads to a regressus in infinitum which reason can never exhaust. Teleology is found wanting as soon as the question is raised of what moves the prime mover. Either method stops short at an ultimate given which cannot be analyzed and interpreted. Reasoning and scientific inquiry can never bring full ease of mind, apodictic certainty, and perfect cognition of all things. He who seeks this must apply to faith and try to quiet his conscience by embracing a creed or a metaphysical doctrine.

  If we do not transcend the realm of reason and experience, we cannot help acknowledging that our fellow men act. We are not free to disregard this fact for the sake of a fashionable prepossession and an arbitrary opinion. Daily experience proves not only that the sole suitable method for studying the conditions of our nonhuman environment is provided by the category of causality; it proves no less convincingly that our fellow men are acting beings as we ourselves are. For the comprehension of action there is but one scheme of interpretation and analysis available, namely, that provided by the cognition and analysis of our own purposeful behavior.

  The problem of the study and analysis of other people’s action is in no way connected with the problem of the existence of a soul or of an immortal soul. As far as the objections of empiricism, behaviorism, and positivism are directed against any variety of the soul-theory, they are of no avail for our problem. The question we have to deal with is whether it is possible to grasp human action intellectually if one refuses to comprehend it as meaningful and purposeful behavior aiming at the attainment of definite ends. Behaviorism and positivism want to apply the methods of the empirical natural sciences to the reality of human action. They interpret it as a response to stimuli. But these stimuli themselves are not open to description by the methods of the natural sciences. Every attempt to describe them must refer to the meaning which acting men attach to them. We may call the offering of a commodity for sale a “stimulus.” But what is essential in such an offer and distinguishes it from other offers cannot be described without entering into the meaning which the acting parties attribute to the situation. No dialectical artifice can spirit away the fact that man is driven by the aim to attain certain ends. It is this purposeful behavior—viz., action—that is the subject matter of our science. We cannot approach our subject if we disregard the meaning which acting man attaches to the situation, i.e., the given state of affairs, and to his own behavior with regard to this situation.

  It is not appropriate for the physicist to search for final causes because there is no indication that the events which are the subject matter of physics are to be interpreted as the outcome of actions of a being, aiming at ends in a human way. Nor is it appropriate for the praxeologist to disregard the operation of the acting being’s volition and intention; they are undoubtedly given facts. If he were to disregard it, he would cease to study human action. Very often—but not always—the events concerned can be investigated both from the point of view of praxeology and from that of the natural sciences. But he who deals with the discharging of a firearm from the physical and chemical point of view is not a praxeologist. He neglects the very problems which the science of purposeful human behavior aims to clarify.

  On the Serviceableness of Instincts

  The proof of the fact that only two avenues of approach are available for human research, causality or teleology, is provided by the problems raised in reference to the serviceableness of instincts. There are types of behavior which on the one hand cannot be thoroughly interpreted with the casual methods of the natural sciences, but on the other hand cannot be considered as purposeful human action. In order to grasp such behavior we are forced to resort to a makeshift. We assign to it the character of a quasi-action; we speak of serviceable instincts.

  We observe two things: first the inherent tendency of a living organism to respond to a stimulus according to a regular pattern, and second the favorable effects of this kind of behavior for the strengthening or preservation of the organism’s vital forces. If we were in a position to interpret such behavior as the outcome of purposeful aiming at certain ends, we would call it action and deal with it according to the teleological methods of praxeology. But as we found no trace of a conscious mind behind this behavior, we suppose that an unknown factor—we call it instinct —was instrumental. We say that the instinct directs quasi-purposeful animal behavior and unconscious but nonetheless serviceable responses of human muscles and nerves. Yet, the mere fact that we hypostatize the unexplained element of this behavior as a force and call it instinct does not enlarge our knowledge. We must never forget that this word instinct is nothing but a landmark to indicate a point beyond which we are unable, up to the present at least, to carry our scientific scrutiny.

  Biology has succeeded in discovering a “natural,” i.e., mechanistic, explanation for many processes which in earlier days were attributed to the operation of instincts. Nonetheless many others have remained which cannot be interpreted as mechanical or chemical responses to mechanical or chemical stimuli. Animals display attitudes which cannot be comprehended otherwise than through the assumption that a directing factor was operative.

  The aim of behaviorism to study human action from without with the methods of animal psychology is illusory. As far as animal behavior goes beyond mere physiological processes like breathing and metabolism, it can only be investigated with the aid of the meaning-concepts developed by praxeology. The behaviorist approaches the object of his investigations with the human notions of purpose and success. He unwittingly applies to the subject matter of his studies the human concepts of serviceableness and perniciousness. He deceives himself in excluding all verbal reference to consciousness and aiming at ends. In fact his mind searches everywhere for ends and measures every attitude with the yardstick of a garbled notion of serviceableness. The science of human behavior—as far as it is not physiology—cannot abandon reference to meaning and purpose. It cannot learn anything from animal psychology and the observation of the unconscious reactions of newborn infants. It is, on the contrary, animal psychology and infant psychology which cannot renounce the aid afforded by the science of human action. Without praxeological categories we would be at a loss to conceive and to understand the behavior both of animals and of infants.

  The observation of the instinctive behavior of animals fills man with astonishment and raises questions which nobody can answer satisfactorily. Yet the fact that animals and even plants react in a quasi-purposeful way is neither more nor less miraculous than that man thinks and acts, that in the inorganic universe those functional correspondences prevail which physics describes, and that in the organic universe biological processes occur. All this is miraculous in the sense that it is an ultimate given for our searching mind.

  Such an ultimate given is also what we call animal instinct. Like the concepts of motion, force, life, and consciousness, the concept of instinct too is merely a term to signify an ultimate given. To be sure, it neither “explains” anything nor indicates a cause or an ultimate cause.10

  The Absolute End

  In order to avoid any possible misinterpretation of the praxeological categories it seems expedient to emphasize a truism.

  Praxeology, like the historical sciences of human action, deals with purposeful human action. If it mentions ends, what it has in view is the ends at which acting men aim. If it speaks of meaning, it refers to the meaning which acting men attach to their actions.

  Praxeology and history are manifestations of the human mind and as such are conditioned by the intellectual abilities of mortal men. Praxeology and history do not pretend to know anything about the intentions of an absolute and objective mind, about an objective meaning inherent in the course of events and of historical evolution, and about the plans which God or Nature or Weltgeist or Manifest Destiny is trying to realize in directing the universe and human affairs. They have nothing in common with what is called philosophy of history. They do not, like the works of Hegel, Comte, Marx, and a host of other writers, claim to reveal information about the true, objective, and absolute meaning of life and history.11

  Vegetative Man

  Some philosophies advise men to seek as the ultimate end of conduct the complete renunciation of any action. They look upon life as an absolute evil full of pain, suffering, and anguish, and apodictically deny that any purposeful human effort can render it tolerable. Happiness can be attained only by complete extinction of consciousness, volition, and life. The only way toward bliss and salvation is to become perfectly passive, indifferent, and inert like the plants. The sovereign good is the abandonment of thinking and acting.

  Such is the essence of the teachings of various Indian philosophies, especially of Buddhism, and of Schopenhauer. Praxeology does not comment upon them. It is neutral with regard to all judgments of value and the choice of ultimate ends. Its task is not to approve or to disapprove, but to describe what is.

  The subject matter of praxeology is human action. It deals with acting man, not with man transformed into a plant and reduced to a merely vegetative existence.

  [1. ]Cf. Locke, An Essay Concerning Human Understanding, ed. Fraser (Oxford, 1984), 1, 331–33; Leibniz, Nouveaux essais sur l’entendement humain, ed. Flammarion, p. 119.

  [2. ]Cf. Feuerbach, Sämmtliche Werke, ed. Bolin and Jodl (Stuttgart, 1907), X, 231.

  [3. ]Cf. William McDougall, An Introduction to Social Psychology (14th ed. Boston, 1921), p. 11.

  [4. ]Cf. Mises, Epistemological Problems of Economics, trans. by G. Reisman (New York, 1960), pp. 52 ff.

  [5. ]In such cases a great role is played by the circumstance that the two satisfactions concerned—that expected from yielding to the impulse and that expected from the avoidance of its undesirable consequences—are not simultaneous. Cf. below, pp. 479–490.

  [6. ]On the errors involved in the iron law of wages see below, pp. 603 f; on the misunderstanding of the Malthusian theory see below, pp. 667–72.

  [7. ]We shall see later (pp. 49–58) how the empirical social sciences deal with the ultimate given.

  [8. ]Cf. Alfred Schütz, Der sinnhafte Aufbau der sozialen Welt (Vienna, 1932), p. 18.

  [9. ]Cf. Karel Englisˇ, Begründung der Teleologie als Form des empirischen Erkennens (Brünn, 1930), pp. 15 ff.

  [10. ]“La vie est une cause première qui nous échappe comme toutes les causes premières et dont la science expérimentale n’a pas à se préoccuper.” Claude Bernard, La Science expérimentale (Paris, 1878), p. 137. [Life is a first cause which eludes us, as all first causes do, and with which experimental science does not have to concern itself.]

  [11. ]On the philosophy of history, cf. Mises, Theory and History (New Haven, 1957), pp. 159 ff.

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  5: “Human Society” in Human Action: A Treatise on Economics, vol. 1 [1949/2007]

  Ludwig von Mises, Human Action: A Treatise on Economics, in 4 vols., ed. Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Vol. 1. Chapter: CHAPTER 8: Human Society

  Accessed from oll.libertyfund.org/title/1893/110285 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  CHAPTER 8

  Human Society

  1

  Human Cooperation

  Society is concerted action, cooperation.

  Society is the outcome of conscious and purposeful behavior. This does not mean that individuals have concluded contracts by virtue of which they have founded human society. The actions which have brought about social cooperation and daily bring it about anew do not aim at anything else than cooperation and coadjuvancy with others for the attainment of definite singular ends. The total complex of the mutual relations created by such concerted actions is called society. It substitutes collaboration for the—at least conceivable—isolated life of individuals. Society is division of labor and combination of labor. In his capacity as an acting animal man becomes a social animal.

  Individual man is born into a socially organized environment. In this sense alone we may accept the saying that society is—logically or historically—antecedent to the individual. In every other sense this dictum is either empty or nonsensical. The individual lives and acts within society. But society is nothing but the combination of individuals for cooperative effort. It exists nowhere else than in the actions of individual men. It is a delusion to search for it outside the actions of individuals. To speak of a society’s autonomous and independent existence, of its life, its soul, and its actions is a metaphor which can easily lead to crass errors.

  The questions whether society or the individual is to be considered as the ultimate end, and whether the interests of society should be subordinated to those of the individuals or the interests of the individuals to those of society are fruitless. Action is always action of individual men. The social or societal element is a certain orientation of the actions of individual men. The category end makes sense only when applied to action. Theology and the metaphysics of history may discuss the ends of society and the designs which God wants to realize with regard to society in the same way in which they discuss the purpose of all other parts of the created universe. For science, which is inseparable from reason, a tool manifestly unfit for the treatment of such problems, it would be hopeless to embark upon speculations concerning these matters.

  Within the frame of social cooperation there can emerge between members of society feelings of sympathy and friendship and a sense of belonging together. These feelings are the source of man’s most delightful and most sublime experiences. They are the most precious adornment of life; they lift the animal species man to the heights of a really human existence. However, they are not, as some have asserted, the agents that have brought about social relationships. They are fruits of social cooperation, they thrive only within its frame; they did not precede the establishment of social relations and are not the seed from which they spring.

  The fundamental facts that brought about cooperation, society, and civilization and transformed the animal man into a human being are the facts that work performed under the division of labor is more productive than isolated work and that man’s reason is capable of recognizing this truth. But for these facts men would have forever remained deadly foes of one another, irreconcilable rivals in their endeavors to secure a portion of the scarce supply of means of sustenance provided by nature. Each man would have been forced to view all other men as his enemies; his craving for the satisfaction of his own appetites would have brought him into an implacable conflict with all his neighbors. No sympathy could possibly develop under such a state of affairs.

  Some sociologists have asserted that the original and elementary subjective fact in society is a “consciousness of kind.”1 Others maintain that there would be no social systems if there were no “sense of community or of belonging together.” 2 One may agree, provided that these somewhat vague and ambiguous terms are correctly interpreted. We may call consciousness of kind, sense of community, or sense of belonging together the acknowledgment of the fact that all other human beings are potential collaborators in the struggle for survival because they are capable of recognizing the mutual benefits of cooperation, while the animals lack this faculty. However, we must not forget that the primary facts that bring about such consciousness or such a sense are the two mentioned above. In a hypothetical world in which the division of labor would not increase productivity, there would not be any society. There would not be any sentiments of benevolence and good will.

  The principle of the division of labor is one of the great basic principles of cosmic becoming and evolutionary change. The biologists were right in borrowing the concept of the division of labor from social philosophy and in adapting it to their field of investigation. There is division of labor between the various parts of any living organism. There are, furthermore, organic entities composed of collaborating animal individuals; it is customary to call metaphorically such aggregations of the ants and bees “animal societies.” But one must never forget that the characteristic feature of human society is purposeful cooperation; society is an outcome of human action, i.e., of a conscious aiming at the attainment of ends. No such element is present, as far as we can ascertain, in the processes which have resulted in the emergence of the structure-function systems of plant and animal bodies and in the operation of the societies of ants, bees, and hornets. Human society is an intellectual and spiritual phenomenon. It is the outcome of a purposeful utilization of a universal law determining cosmic becoming, viz., the higher productivity of the division of labor. As with every instance of action, the recognition of the laws of nature is put into the service of man’s efforts to improve his conditions.

  2

  A Critique of the Holistic and Metaphysical View of Society

  According to the doctrines of universalism, conceptual realism, holism, collectivism, and some representatives of Gestaltpsychologie, society is an entity living its own life, independent of and separate from the lives of the various individuals, acting on its own behalf and aiming at its own ends which are different from the ends sought by the individuals. Then, of course, an antagonism between the aims of society and those of its members can emerge. In order to safeguard the flowering and further development of society it becomes necessary to master the selfishness of the individuals and to compel them to sacrifice their egoistic designs to the benefit of society. At this point all these holistic doctrines are bound to abandon the secular methods of human science and logical reasoning and to shift to theological or metaphysical professions of faith. They must assume that Providence, through its prophets, apostles, and charismatic leaders, forces men who are constitutionally wicked, i.e., prone to pursue their own ends, to walk in the ways of righteousness which the Lord or Weltgeist or history wants them to walk.

  This is the philosophy which has characterized from time immemorial the creeds of primitive tribes. It has been an element in all religious teachings. Man is bound to comply with the law issued by a superhuman power and to obey the authorities which this power has entrusted with the enforcement of the law. The order created by this law, human society, is consequently the work of the Deity and not of man. If the Lord had not interfered and had not given enlightenment to erring mankind, society would not have come into existence. It is true that social cooperation is a blessing for man; it is true that man could work his way up from barbarism and the moral and material distress of his primitive state only within the framework of society. However, if left alone he would never have seen the road to his own salvation. For adjustment to the requirements of social cooperation and subordination to the precepts of the moral law put heavy restraints upon him. From the point of view of his wretched intellect he would deem the abandonment of some expected advantage an evil and a privation. He would fail to recognize the incomparably greater, but later, advantages which renunciation of present and visible pleasures will procure. But for supernatural revelation he would never have learned what destiny wants him to do for his own good and that of his offspring.

  The scientific theory as developed by the social philosophy of eighteenth-century rationalism and liberalism and by modern economics does not resort to any miraculous interference of superhuman powers. Every step by which an individual substitutes concerted action for isolated action results in an immediate and recognizable improvement in his conditions. The advantages derived from peaceful cooperation and division of labor are universal. They immediately benefit every generation, and not only later descendants. For what the individual must sacrifice for the sake of society he is amply compensated by greater advantages. His sacrifice is only apparent and temporary; he foregoes a smaller gain in order to reap a greater one later. No reasonable being can fail to see this obvious fact. When social cooperation is intensified by enlarging the field in which there is division of labor or when legal protection and the safeguarding of peace are strengthened, the incentive is the desire of all those concerned to improve their own conditions. In striving after his own—rightly understood—interests the individual works toward an intensification of social cooperation and peaceful intercourse. Society is a product of human action, i.e., the human urge to remove uneasiness as far as possible. In order to explain its becoming and its evolution it is not necessary to have recourse to a doctrine, certainly offensive to a truly religious mind, according to which the original creation was so defective that reiterated superhuman intervention is needed to prevent its failure.

  The historical role of the theory of the division of labor as elaborated by British political economy from Hume to Ricardo consisted in the complete demolition of all metaphysical doctrines concerning the origin and the operation of social cooperation. It consummated the spiritual, moral and intellectual emancipation of mankind inaugurated by the philosophy of Epicureanism. It substituted an autonomous rational morality for the heteronomous and intuitionist ethics of older days. Law and legality, the moral code and social institutions are no longer revered as unfathomable decrees of Heaven. They are of human origin, and the only yardstick that must be applied to them is that of expediency with regard to human welfare. The utilitarian economist does not say: Fiat justitia, pereat mundus [(Latin) Let justice be done, (though) the world be destroyed]. He says: Fiat justitia, ne pereat mundus [(Latin) Let justice be done, (so) the world not be destroyed]. He does not ask a man to renounce his well-being for the benefit of society. He advises him to recognize what his rightly understood interests are. In his eyes God’s magnificence does not manifest itself in busy interference with sundry affairs of princes and politicians, but in endowing his creatures with reason and the urge toward the pursuit of happiness.3

  The essential problem of all varieties of universalistic, collectivistic, and holistic social philosophy is: By what mark do Irecognize the true law, the authentic apostle of God’s word, and the legitimate authority. For many claim that Providence has sent them, and each of these prophets preaches another gospel. For the faithful believer there cannot be any doubt; he is fully confident that he has espoused the only true doctrine. But it is precisely the firmness of such beliefs that renders the antagonisms irreconcilable. Each party is prepared to make its own tenets prevail. But as logical argumentation cannot decide between various dissenting creeds, there is no means left for the settlement of such disputes other than armed conflict. The non-rationalist, nonutilitarian, and nonliberal social doctrines must beget wars and civil wars until one of the adversaries is annihilated or subdued. The history of the world’s great religions is a record of battles and wars, as is the history of the present-day counterfeit religions, socialism, statolatry, and nationalism.

  Intolerance and propaganda by the executioner’s or the soldier’s sword are inherent in any system of heteronomous ethics. The laws of God or Destiny claim universal validity, and to the authorities which they declare legitimate all men by rights owe obedience. As long as the prestige of heteronomous codes of morality and of their philosophical corollary, conceptual realism, was intact, there could not be any question of tolerance or of lasting peace. When fighting ceased, it was only to gather new strength for further battling. The idea of tolerance with regard to other people’s dissenting views could take root only when the liberal doctrines had broken the spell of universalism. In the light of the utilitarian philosophy, society and state no longer appear as institutions for the maintenance of a world order that for considerations hidden to the human mind pleases the Deity although it manifestly hurts the secular interests of many or even of the immense majority of those living today. Society and state are on the contrary the primary means for all people to attain the ends they aim at of their own accord. They are created by human effort and their maintenance and most suitable organization are tasks not essentially different from all other concerns of human action. The supporters of a heteronomous morality and of the collectivistic doctrine cannot hope to demonstrate by ratiocination the correctness of their specific variety of ethical principles and the superiority and exclusive legitimacy of their particular social ideal. They are forced to ask people to accept credulously their ideological system and to surrender to the authority they consider the right one; they are intent upon silencing dissenters or upon beating them into submission.

  Of course, there will always be individuals and groups of individuals whose intellect is so narrow that they cannot grasp the benefits which social cooperation brings them. There are others whose moral strength and will power are so weak that they cannot resist the temptation to strive for an ephemeral advantage by actions detrimental to the smooth functioning of the social system. For the adjustment of the individual to the requirements of social cooperation demands sacrifices. These are, it is true, only temporary and apparent sacrifices as they are more than compensated for by the incomparably greater advantages which living within society provides. However, at the instant, in the very act of renouncing an expected enjoyment, they are painful, and it is not for everybody to realize their later benefits and to behave accordingly. Anarchism believes that education could make all people comprehend what their own interests require them to do; rightly instructed they would of their own accord always comply with the rules of conduct indispensable for the preservation of society. The anarchists contend that a social order in which nobody enjoys privileges at the expense of his fellow-citizens could exist without any compulsion and coercion for the prevention of action detrimental to society. Such an ideal society could do without state and government, i.e., without a police force, the social apparatus of coercion and compulsion.

  The anarchists overlook the undeniable fact that some people are either too narrow-minded or too weak to adjust themselves spontaneously to the conditions of social life. Even if we admit that every sane adult is endowed with the faculty of realizing the good of social cooperation and of acting accordingly, there still remains the problem of the infants, the aged, and the insane. We may agree that he who acts antisocially should be considered mentally sick and in need of care. But as long as not all are cured, and as long as there are infants and the senile, some provision must be taken lest they jeopardize society. An anarchistic society would be exposed to the mercy of every individual. Society cannot exist if the majority is not ready to hinder, by the application or threat of violent action, minorities from destroying the social order. This power is vested in the state or government.

  State or government is the social apparatus of compulsion and coercion. It has the monopoly of violent action. No individual is free to use violence or the threat of violence if the government has not accorded this right to him. The state is essentially an institution for the preservation of peaceful interhuman relations. However, for the preservation of peace it must be prepared to crush the onslaughts of peace-breakers.

  Liberal social doctrine, based on the teachings of utilitarian ethics and economics, sees the problem of the relation between the government and those ruled from a different angle than universalism and collectivism. Liberalism realizes that the rulers, who are always a minority, cannot lastingly remain in office if not supported by the consent of the majority of those ruled. Whatever the system of government may be, the foundation upon which it is built and rests is always the opinion of those ruled that to obey and to be loyal to this government better serves their own interests than insurrection and the establishment of another regime. The majority has the power to do away with an unpopular government and uses this power whenever it becomes convinced that its own welfare requires it. In the long run there is no such thing as an unpopular government. Civil war and revolution are the means by which the discontented majorities overthrow rulers and methods of government which do not suit them. For the sake of domestic peace liberalism aims at democratic government. Democracy is therefore not a revolutionary institution. On the contrary, it is the very means of preventing revolutions and civil wars. It provides a method for the peaceful adjustment of government to the will of the majority. When the men in office and their policies no longer please the majority of the nation, they will—in the next election—be eliminated and replaced by other men espousing different policies.

  The principle of majority rule or government by the people as recommended by liberalism does not aim at the supremacy of the mean, of the low-bred, of the domestic barbarians. The liberals too believe that a nation should be ruled by those best fitted for this task. But they believe that a man’s ability to rule proves itself better by convincing his fellow-citizens than by using force upon them. There is, of course, no guarantee that the voters will entrust office to the most competent candidate. But no other system could offer such a guarantee. If the majority of the nation is committed to unsound principles and prefers unworthy office-seekers, there is no remedy other than to try to change their mind by expounding more reasonable principles and recommending better men. A minority will never win lasting success by other means.

  Universalism and collectivism cannot accept this democratic solution of the problem of government. In their opinion the individual in complying with the ethical code does not directly further his earthly concerns but, on the contrary, foregoes the attainment of his own ends for the benefit of the designs of the Deity or of the collective whole. Moreover reason alone is not capable of conceiving the supremacy of the absolute values and the unconditional validity of the sacred law and of interpreting correctly the canons and commandments. Hence it is in their eyes a hopeless task to try to convince the majority through persuasion and to lead them to righteousness by amicable admonition. Those blessed by heavenly inspiration, to whom their charisma has conveyed illumination, have the duty to propagate the gospel to the docile and to resort to violence against the intractable. The charismatic leader is the Deity’s vicar, the mandatory of the collective whole, the tool of history. He is infallible and always right. His orders are the supreme norm.

  Universalism and collectivism are by necessity systems of theocratic government. The common characteristic of all their varieties is that they postulate the existence of a superhuman entity which the individuals are bound to obey. What differentiates them from one another is only the appellation they give to this entity and the content of the laws they proclaim in its name. The dictatorial rule of a minority cannot find any legitimation other than the appeal to an alleged mandate obtained from a superhuman absolute authority. It does not matter whether the autocrat bases his claims on the divine rights of anointed kings or on the historical mission of the vanguard of the proletariat or whether the supreme being is called Geist (Hegel) or Humanité (Auguste Comte). The terms society and state as they are used by the contemporary advocates of socialism, planning, and social control of all the activities of individuals signify a deity. The priests of this new creed ascribe to their idol all those attributes which the theologians ascribe to God—omnipotence, omniscience, infinite goodness, and so on.

  If one assumes that there exists above and beyond the individual’s actions an imperishable entity aiming at its own ends, different from those of mortal men, one has already constructed the concept of a superhuman being. Then one cannot evade the question whose ends take precedence whenever an antagonism arises, those of the state or society or those of the individual. The answer to this question is already implied in the very concept of state or society as conceived by collectivism and universalism. If one postulates the existence of an entity which ex definitione is higher, nobler, and better than the individuals, then there cannot be any doubt that the aims of this eminent being must tower above those of the wretched individuals. (It is true that some lovers of paradox—for instance, Max Stirner4 —took pleasure in turning the matter upside down and for all that asserted the precedence of the individual.) If society or state is an entity endowed with volition and intention and all the other qualities attributed to it by the collectivist doctrine, then it is simply nonsensical to set the shabby individual’s trivial aims against its lofty designs.

  The quasi-theological character of all collectivist doctrines becomes manifest in their mutual conflicts. A collectivist doctrine does not assert the superiority of a collective whole in abstracto; it always proclaims the eminence of a definite collectivist idol, and either flatly denies the existence of other such idols or relegates them to a subordinate and ancillary position with regard to its own idol. The worshipers of the state proclaim the excellence of a definite state, i.e., their own; the nationalists, the excellence of their own nation. If dissenters challenge their particular program by heralding the superiority of another collectivist idol, they resort to no objection other than to declare again and again: We are right because an inner voice tells us that we are right and you are wrong. The conflicts of antagonistic collectivist creeds and sects cannot be decided by ratiocination; they must be decided by arms. The alternatives to the liberal and democratic principle of majority rule are the militarist principles of armed conflict and dictatorial oppression.

  All varieties of collectivist creeds are united in their implacable hostility to the fundamental political institutions of the liberal system: majority rule, tolerance of dissenting views, freedom of thought, speech, and the press, equality of all men under the law. This collaboration of collectivist creeds in their attempts to destroy freedom has brought about the mistaken belief that the issue in present-day political antagonisms is individualism versus collectivism. In fact it is a struggle between individualism on the one hand and a multitude of collectivist sects on the other hand whose mutual hatred and hostility is no less ferocious than their abomination of the liberal system. It is not a uniform Marxian sect that attacks capitalism, but a host of Marxian groups. These groups—for instance, Stalinists, Trotskyists, Mensheviks, supporters of the Second International, and so on—fight one another with the utmost brutality and inhumanity. And then there are again many other non-Marxian sects which apply the same atrocious methods in their mutual struggles. A substitution of collectivism for liberalism would result in endless bloody fighting.

  The customary terminology misrepresents these things entirely. The philosophy commonly called individualism is a philosophy of social cooperation and the progressive intensification of the social nexus. On the other hand the application of the basic ideas of collectivism cannot result in anything but social disintegration and the perpetuation of armed conflict. It is true that every variety of collectivism promises eternal peace starting with the day of its own decisive victory and the final overthrow and extermination of all other ideologies and their supporters. However, the realization of these plans is conditioned upon a radical transformation in mankind. Men must be divided into two classes: the omnipotent godlike dictator on the one hand and the masses which must surrender volition and reasoning in order to become mere chessmen in the plans of the dictator. The masses must be dehumanized in order to make one man their godlike master. Thinking and acting, the foremost characteristics of man as man, would become the privilege of one man only. There is no need to point out that such designs are unrealizable. The chiliastic empires of dictators are doomed to failure; they have never lasted longer than a few years. We have just witnessed the breakdown of several of such “millennial” orders. Those remaining will hardly fare better.

  The modern revival of the idea of collectivism, the main cause of all the agonies and disasters of our day, has succeeded so thoroughly that it has brought into oblivion the essential ideas of liberal social philosophy. Today even many of those favoring democratic institutions ignore these ideas. The arguments they bring forward for the justification of freedom and democracy are tainted with collectivist errors; their doctrines are rather a distortion than an endorsement of true liberalism. In their eyes majorities are always right simply because they have the power to crush any opposition; majority rule is the dictatorial rule of the most numerous party, and the ruling majority is not bound to restrain itself in the exercise of its power and in the conduct of political affairs. As soon as a faction has succeeded in winning the support of the majority of citizens and thereby attained control of the government machine, it is free to deny to the minority all those democratic rights by means of which it itself has previously carried on its own struggle for supremacy.

  This pseudo-liberalism is, of course, the very antithesis of the liberal doctrine. The liberals do not maintain that majorities are godlike and infallible; they do not contend that the mere fact that a policy is advocated by the many is a proof of its merits for the common weal. They do not recommend the dictatorship of the majority and the violent oppression of dissenting minorities. Liberalism aims at a political constitution which safeguards the smooth working of social cooperation and the progressive intensification of mutual social relations. Its main objective is the avoidance of violent conflicts, of wars and revolutions that must disintegrate the social collaboration of men and throw people back into the primitive conditions of barbarism where all tribes and political bodies endlessly fought one another. Because the division of labor requires undisturbed peace, liberalism aims at the establishment of a system of government that is likely to preserve peace, viz., democracy.

  Praxeology and Liberalism

  Liberalism, in its nineteenth-century sense, is a political doctrine. It is not a theory, but an application of the theories developed by praxeology and especially by economics to definite problems of human action within society.

  As a political doctrine liberalism is not neutral with regard to values and the ultimate ends sought by action. It assumes that all men or at least the majority of people are intent upon attaining certain goals. It gives them information about the means suitable to the realization of their plans. The champions of liberal doctrines are fully aware of the fact that their teachings are valid only for people who are committed to these valuational principles.

  While praxeology, and therefore economics too, uses the terms happiness and removal of uneasiness in a purely formal sense, liberalism attaches to them a concrete meaning. It presupposes that people prefer life to death, health to sickness, nourishment to starvation, abundance to poverty. It teaches man how to act in accordance with these valuations.

  It is customary to call these concerns materialistic and to charge liberalism with an alleged crude materialism and a neglect of the “higher” and “nobler” pursuits of mankind. Man does not live by bread alone, say the critics, and they disparage the meanness and despicable baseness of the utilitarian philosophy. However, these passionate diatribes are wrong because they badly distort the teachings of liberalism.

  First: The liberals do not assert that men ought to strive after the goals mentioned above. What they maintain is that the immense majority prefer a life of health and abundance to misery, starvation, and death. The correctness of this statement cannot be challenged. It is proved by the fact that all antiliberal doctrines—the theocratic tenets of the various religious, statist, nationalist, and socialist parties—adopt the same attitude with regard to these issues. They all promise their followers a life of plenty. They have never ventured to tell people that the realization of their program will impair their material well-being. They insist—on the contrary—that while the realization of the plans of their rival parties will result in indigence for the majority, they themselves want to provide their supporters with abundance. The Christian parties are no less eager in promising the masses a higher standard of living than the nationalists and the socialists. Present-day churches often speak more about raising wage rates and farm incomes than about the dogmas of the Christian doctrine.

  Secondly: The liberals do not disdain the intellectual and spiritual aspirations of man. On the contrary. They are prompted by a passionate ardor for intellectual and moral perfection, for wisdom and for aesthetic excellence. But their view of these high and noble things is far from the crude representations of their adversaries. They do not share the naïve opinion that any system of social organization can directly succeed in encouraging philosophical or scientific thinking, in producing masterpieces of art and literature and in rendering the masses more enlightened. They realize that all that society can achieve in these fields is to provide an environment which does not put insurmountable obstacles in the way of the genius and makes the common man free enough from material concerns to become interested in things other than mere breadwinning. In their opinion the foremost social means of making man more human is to fight poverty. Wisdom and science and the arts thrive better in a world of affluence than among needy peoples.

  It is a distortion of facts to blame the age of liberalism for an alleged materialism. The nineteenth century was not only a century of unprecedented improvement in technical methods of production and in the material well-being of the masses. It did much more than extend the average length of human life. Its scientific and artistic accomplishments are imperishable. It was an age of immortal musicians, writers, poets, painters, and sculptors; it revolutionized philosophy, economics, mathematics, physics, chemistry, and biology. And, for the first time in history, it made the great works and the great thoughts accessible to the common man.

  Liberalism and Religion

  Liberalism is based upon a purely rational and scientific theory of social cooperation. The policies it recommends are the application of a system of knowledge which does not refer in any way to sentiments, intuitive creeds for which no logically sufficient proof can be provided, mystical experiences, and the personal awareness of superhuman phenomena. In this sense the often misunderstood and erroneously interpreted epithets atheistic and agnostic can be attributed to it. It would, however, be a serious mistake to conclude that the sciences of human action and the policy derived from their teachings, liberalism, are antitheistic and hostile to religion. They are radically opposed to all systems of theocracy. But they are entirely neutral with regard to religious beliefs which do not pretend to interfere with the conduct of social, political, and economic affairs.

  Theocracy is a social system which lays claim to a superhuman title for its legitimation. The fundamental law of a theocratic regime is an insight not open to examination by reason and to demonstration by logical methods. Its ultimate standard is intuition providing the mind with subjective certainty about things which cannot be conceived by reason and ratiocination. If this intuition refers to one of the traditional systems of teaching concerning the existence of a Divine Creator and Ruler of the universe, we call it a religious belief. If it refers to another system we call it a metaphysical belief. Thus a system of theocratic government need not be founded on one of the great historical religions of the world. It may be the outcome of metaphysical tenets which reject all traditional churches and denominations and take pride in emphasizing their antitheistic and antimetaphysical character. In our time the most powerful theocratic parties are opposed to Christianity and to all other religions which evolved from Jewish monotheism. What characterizes them as theocratic is their craving to organize the earthly affairs of mankind according to the contents of a complex of ideas whose validity cannot be demonstrated by reasoning. They pretend that their leaders are blessed by a knowledge inaccessible to the rest of mankind and contrary to the ideas maintained by those to whom the charisma is denied. The charismatic leaders have been entrusted by a mystical higher power with the office of managing the affairs of erring mankind. They alone are enlightened; all other people are either blind and deaf or malefactors.

  It is a fact that many varieties of the great historical religions were affected by theocratic tendencies. Their apostles were inspired by a craving for power and the oppression and annihilation of all dissenting groups. However, we must not confuse the two things, religion and theocracy.

  William James calls religious “the feelings, acts and experiences of individual men in their solitude, so far as they apprehend themselves to stand in relation to whatever they may consider the divine.” 5 He enumerates the following beliefs as the characteristics of the religious life: That the visible world is part of a more spiritual universe from which it draws its chief significance; that union or harmonious relation with that higher universe is our true end; that prayer or inner communion with the spirit thereof—be that spirit “God” or “law”—is a process wherein work is really done, and spiritual energy flows in and produces effects, psychological or material, within the phenomenal world. Religion, James goes on to say, also includes the following psychological characteristics: A new zest which adds itself like a gift to life, and takes the form either of lyrical enchantment or of appeal to earnestness and heroism, and furthermore an assurance of safety and a temper of peace, and, in relation to others, a preponderance of loving affection.6

  This characterization of mankind’s religious experience and feelings does not make any reference to the arrangement of social cooperation. Religion, as James sees it, is a purely personal and individual relation between man and a holy, mysterious, and awe-inspiring divine Reality. It enjoins upon man a certain mode of individual conduct. But it does not assert anything with regard to the problems of social organization. St. Francis d’Assisi, the greatest religious genius of the West, did not concern himself with politics and economics. He wanted to teach his disciples how to live piously; he did not draft a plan for the organization of production and did not urge his followers to resort to violence against dissenters. He is not responsible for the interpretation of his teachings by the order he founded.

  Liberalism puts no obstacles in the way of a man eager to adjust his personal conduct and his private affairs according to the mode in which he individually or his church or denomination interprets the teachings of the Gospels. But it is radically opposed to all endeavors to silence the rational discussion of problems of social welfare by an appeal to religious intuition and revelation. It does not enjoin divorce or the practice of birth control upon anybody. But it fights those who want to prevent other people from freely discussing the pros and cons of these matters.

  In the liberal opinion the aim of the moral law is to impel individuals to adjust their conduct to the requirements of life in society, to abstain from all acts detrimental to the preservation of peaceful social cooperation and to the improvement of interhuman relations. Liberals welcome the support which religious teachings may give to those moral precepts of which they themselves approve, but they are opposed to all those norms which are bound to bring about social disintegration from whatever source they may stem.

  It is a distortion of fact to say, as many champions of religious theocracy do, that liberalism fights religion. Where the principle of church interference with secular issues is in force, the various churches, denominations and sects are fighting one another. By separating church and state, liberalism establishes peace among the various religious factions and gives to each of them the opportunity to preach its gospel unmolested.

  Liberalism is rationalistic. It maintains that it is possible to convince the immense majority that peaceful cooperation within the framework of society better serves their rightly understood interests than mutual battling and social disintegration. It has full confidence in man’s reason. It may be that this optimism is unfounded and that the liberals have erred. But then there is no hope left for mankind’s future.

  3

  The Division of Labor

  The fundamental social phenomenon is the division of labor and its counterpart human cooperation.

  Experience teaches man that cooperative action is more efficient and productive than isolated action of self-sufficient individuals. The natural conditions determining man’s life and effort are such that the division of labor increases output per unit of labor expended. These natural facts are:

  First: the innate inequality of men with regard to their ability to perform various kinds of labor. Second: the unequal distribution of the nature-given, nonhuman opportunities of production on the surface of the earth. One may as well consider these two facts as one and the same fact, namely, the manifoldness of nature which makes the universe a complex of infinite varieties. If the earth’s surface were such that the physical conditions of production were the same at every point and if one man were as equal to all other men as is a circle to another with the same diameter in Euclidian geometry, men would not have embarked upon the division of labor.

  There is still a third fact, viz., that there are undertakings whose accomplishment exceeds the forces of a single man and requires the joint effort of several. Some of them require an expenditure of labor which no single man can perform because his capacity to work is not great enough. Others again could be accomplished by individuals; but the time which they would have to devote to the work would be so long that the result would only be attained late and would not compensate for the labor expended. In both cases only joint effort makes it possible to attain the end sought.

  If only this third condition were present, temporary cooperation between men would have certainly emerged. However, such transient alliances to cope with specific tasks which are beyond the strength of an individual would not have brought about lasting social cooperation. Undertakings which could be performed only in this way were not very numerous at the early stages of civilization. Moreover, all those concerned may not often agree that the performance in question is more useful and urgent than the accomplishment of other tasks which they could perform alone. The great human society enclosing all men in all of their activities did not originate from such occasional alliances. Society is much more than a passing alliance concluded for a definite purpose and ceasing as soon as its objective is realized, even if the partners are ready to renew it should an occasion present itself.

  The increase in productivity brought about by the division of labor is obvious whenever the inequality of the participants is such that every individual or every piece of land is superior at least in one regard to the other individuals or pieces of land concerned. If A is fit to produce in 1 unit of time 6 p, or 4 q and B only 2 p, but 8 q, they both, when working in isolation, will produce together 4 p + 6 q ; when working under the division of labor, each of them producing only that commodity in whose production he is more efficient than his partner, they will produce 6 p + 8 q. But what will happen, if A is more efficient than B not only in the production of p but also in the production of q ?

  This is the problem which Ricardo raised and solved immediately.

  4

  The Ricardian Law of Association

  Ricardo expounded the law of association in order to demonstrate what the consequences of the division of labor are when an individual or a group, more efficient in every regard, cooperates with an individual or a group less efficient in every regard. He investigated the effects of trade between two areas, unequally endowed by nature, under the assumption that the products, but not the workers and the accumulated factors of future production (capital goods), can freely move from each area into the other. The division of labor between two such areas will, as Ricardo’s law shows, increase the productivity of labor and is therefore advantageous to all concerned, even if the physical conditions of production for any commodity are more favorable in one of these two areas than in the other. It is advantageous for the better endowed area to concentrate its efforts upon the production of those commodities for which its superiority is greater, and to leave to the less endowed area the production of other goods in which its own superiority is less. The paradox that it is more advantageous to leave more favorable domestic conditions of production unused and to procure the commodities they could produce from areas in which conditions for their production are less favorable, is the outcome of the immobility of labor and capital, to which the more favorable places of production are inaccessible.

  Ricardo was fully aware of the fact that his law of comparative cost, which he expounded mainly in order to deal with a special problem of international trade, is a particular instance of the more universal law of association.

  If A is in such a way more efficient than B that he needs for the production of 1 unit of the commodity p 3 hours compared with B ’s 5, and for the production of 1 unit of q 2 hours compared with B ’s 4, then both will gain if A confines himself to producing q and leaves B to produce p. If each of them gives 60 hours to producing p and 60 hours to producing q, the result of A ’s labor is 20 p + 30 q ;of B ’s, 12 p + 15 q ; and for both together, 32 p + 45 q. If, however, A confines himself to producing q alone, he produces 60 q in 120 hours, while B, if he confines himself to producing p, produces in the same time 24 p. The result of their activities is then 24 p + 60 q, which, as p has for A a substitution ratio of ³/₂q and for B one of ⁵/₄q, signifies a larger output than 32 p 45 q. Therefore it is manifest that the division of labor brings advantages to all who take part in it. Collaboration of the more talented, more able, and more industrious with the less talented, less able, and less industrious results in benefit for both. The gains derived from the division of labor are always mutual.

  The law of association makes us comprehend the tendencies which resulted in the progressive intensification of human cooperation. We conceive what incentive induced people not to consider themselves simply as rivals in a struggle for the appropriation of the limited supply of means of subsistence made available by nature. We realize what has impelled them and permanently impels them to consort with one another for the sake of cooperation. Every step forward on the way to a more developed mode of the division of labor serves the interests of all participants. In order to comprehend why man did not remain solitary, searching like the animals for food and shelter for himself only and at most also for his consort and his helpless infants, we do not need to have recourse to a miraculous interference of the Deity or to the empty hypostasis of an innate urge toward association. Neither are we forced to assume that the isolated individuals or primitive hordes one day pledged themselves by a contract to establish social bonds. The factor that brought about primitive society and daily works toward its progressive intensification is human action that is animated by the insight into the higher productivity of labor achieved under the division of labor.

  Neither history nor ethnology nor any other branch of knowledge can provide a description of the evolution which has led from the packs and flocks of mankind’s nonhuman ancestors to the primitive, yet already highly differentiated, societal groups about which information is provided in excavations, in the most ancient documents of history, and in the reports of explorers and travelers who have met savage tribes. The task with which science is faced in respect of the origins of society can only consist in the demonstration of those factors which can and must result in association and its progressive intensification. Praxeology solves the problem. If and as far as labor under the division of labor is more productive than isolated labor, and if and as far as man is able to realize this fact, human action itself tends toward cooperation and association; man becomes a social being not in sacrificing his own concerns for the sake of a mythical Moloch, society, but in aiming at an improvement in his own welfare. Experience teaches that this condition—higher productivity achieved under the division of labor—is present because its cause—the inborn inequality of men and the inequality in the geographical distribution of the natural factors of production—is real. Thus we are in a position to comprehend the course of social evolution.

  Current Errors Concerning the Law of Association

  People cavil much about Ricardo’s law of association, better known under the name law of comparative cost. The reason is obvious. This law is an offense to all those eager to justify protection and national economic isolation from any point of view other than the selfish interests of some producers or the issues of war-preparedness.

  Ricardo’s first aim in expounding this law was to refute an objection raised against freedom of international trade. The protectionist asks: What under free trade will be the fate of a country in which the conditions for any kind of production are less favorable than in all other countries? Now, in a world in which there is free mobility not only for products, but no less for capital goods and for labor, a country so little suited for production would cease to be used as the seat of any human industry. If people fare better without exploiting the—comparatively unsatisfactory—physical conditions of production offered by this country, they will not settle here and will leave it as uninhabited as the polar regions, the tundras and the deserts. But Ricardo deals with a world whose conditions are determined by settlement in earlier days, a world in which capital goods and labor are bound to the soil by definite institutions. In such a milieu free trade, i.e., the free mobility of commodities only, cannot bring about a state of affairs in which capital and labor are distributed on the surface of the earth according to the better or poorer physical opportunities afforded to the productivity of labor. Here the law of comparative cost comes into operation. Each country turns toward those branches of production for which its conditions offer comparatively, although not absolutely, the most favorable opportunities. For the inhabitants of a country it is more advantageous to abstain from the exploitation of some opportunities which—absolutely and technologically—are more propitious and to import commodities produced abroad under conditions which—absolutely and technologically—are less favorable than the unused domestic resources. The case is analogous to that of a surgeon who finds it convenient to employ for the cleaning of the operating room and the instruments a man whom he excels in this performance also and to devote himself exclusively to surgery, in which his superiority is higher.

  The theorem of comparative cost is in no way connected with the value theory of classical economics. It does not deal with value or with prices. It is an analytic judgment; the conclusion is implied in the two propositions that the technically movable factors of production differ with regard to their productivity in various places and are institutionally restricted in their mobility. The theorem, without prejudice to the correctness of its conclusions, can disregard problems of valuation because it is free to resort to a set of simple assumptions. These are: that only two products are to be produced; that these products are freely movable; that for the production of each of them two factors are required; that one of these factors (it may be either labor or capital goods) is identical in the production of both, while the other factor (a specific property of the soil) is different for each of the two processes; that the greater scarcity of the factor common to both processes determines the extent of the exploitation of the different factor. In the frame of these assumptions, which make it possible to establish substitution ratios between the expenditure of the common factor and the output, the theorem answers the question raised.

  The law of comparative cost is as independent of the classical theory of value as is the law of returns, which its reasoning resembles. In both cases we can content ourselves with comparing only physical input and physical output. With the law of returns we compare the output of the same product. With the law of comparative costs we compare the output of two different products. Such a comparison is feasible because we assume that for the production of each of them, apart from one specific factor, only nonspecific factors of the same kind are required.

  Some critics blame the law of comparative cost for this simplification of assumptions. They believe that the modern theory of value would require a reformulation of the law in conformity with the principles of subjective value. Only such a formulation could provide a satisfactory conclusive demonstration. However, they do not want to calculate in terms of money. They prefer to resort to those methods of utility analysis which they consider a means for making value calculations in terms of utility. It will be shown in the further progress of our investigation that these attempts to eliminate monetary terms from economic calculation are delusive. Their fundamental assumptions are untenable and contradictory and all formulas derived from them are vicious. No method of economic calculation is possible other than one based on money prices as determined by the market.7

  The meaning of the simple assumptions underlying the law of comparative cost is not precisely the same for the modern economists as it was for the classical economists. Some adherents of the classical school considered them as the starting point of a theory of value in international trade. We know now that they were mistaken in this belief. Besides, we realize that with regard to the determination of value and of prices there is no difference between domestic and foreign trade. What makes people distinguish between the home market and markets abroad is only a difference in the data, i.e., varying institutional conditions restricting the mobility of factors of production and of products.

  If we do not want to deal with the law of comparative cost under the simplified assumptions applied by Ricardo, we must openly employ money calculation. We must not fall prey to the illusion that a comparison between the expenditure of factors of production of various kinds and of the output of products of various kinds can be achieved without the aid of money calculation. If we consider the case of the surgeon and his handyman we must say: If the surgeon can employ his limited working time for the performance of operations for which he is compensated at $50 per hour, it is to his interest to employ a handyman to keep his instruments in good order and to pay him $2 per hour, although this man needs 3 hours to accomplish what the surgeon could do in 1 hour. In comparing the conditions of two countries we must say: If conditions are such that in England the production of 1 unit of each of the two commodities a and b requires the expenditure of 1 working day of the same kind of labor, while in India with the same investment of capital for a 2 days and for b 3 days are required, and if capital goods and a and b are freely movable from England to India and vice versa, while there is no mobility of labor, wage rates in India in the production of a must tend to be 50 per cent, and in the production of b 33^⅓ per cent, of the English rates. If the English rate is 6 shillings, the rates in India would be the equivalent of 3 shillings in the production of a and the equivalent of 2 shillings in the production of b. Such a discrepancy in the remuneration of labor of the same kind cannot last if there is mobility of labor on the domestic Indian labor market. Workers would shift from the production of b into the production of a; their migration would tend to lower the remuneration in the a industry and to raise it in the b industry. Finally Indian wage rates would be equal in both industries. The production of a would tend to expand and to supplant English competition. On the other hand the production of b would become unprofitable in India and would have to be discontinued, while it would expand in England. The same reasoning is valid if we assume that the difference in the conditions of production consists also or exclusively in the amount of capital investment needed.

  It has been asserted that Ricardo’s law was valid only for his age and is of no avail for our time which offers other conditions. Ricardo saw the difference between domestic trade and foreign trade in differences in the mobility of capital and labor. If one assumes that capital, labor, and products are movable, then there exists a difference between regional and interregional trade only as far as the cost of transportation comes into play. Then it is superfluous to develop a theory of international trade as distinguished from national trade. Capital and labor are distributed on the earth’s surface according to the better or poorer conditions which the various regions offer to production. There are areas more densely populated and better equipped with capital, there are others less densely populated and poorer in capital supply. There prevails on the whole earth a tendency toward an equalization of wage rates for the same kind of labor.

  Ricardo, however, starts from the assumption that there is mobility of capital and labor only within each country, and not between the various countries. He raises the question what the consequences of the free mobility of products must be under such conditions. (If there is no mobility of products either, then every country is economically isolated and autarkic, and there is no international trade at all.) The theory of comparative cost answers this question. Now, Ricardo’s assumptions by and large held good for his age. Later, in the course of the nineteenth century, conditions changed. The immobility of capital and labor gave way; international transfer of capital and labor became more and more common. Then came a reaction. Today capital and labor are again restricted in their mobility. Reality again corresponds to the Ricardian assumptions.

  However, the teachings of the classical theory of interregional trade are above any change in institutional conditions. They enable us to study the problems involved under any imaginable assumptions.

  5

  The Effects of the Division of Labor

  The division of labor is the outcome of man’s conscious reaction to the multiplicity of natural conditions. On the other hand it is itself a factor bringing about differentiation. It assigns to the various geographic areas specific functions in the complex of the processes of production. It makes some areas urban, others rural; it locates the various branches of manufacturing, mining, and agriculture in different places. Still more important, however, is the fact that it intensifies the innate inequality of men. Exercise and practice of specific tasks adjust individuals better to the requirements of their performance; men develop some of their inborn faculties and stunt the development of others. Vocational types emerge, people become specialists.

  The division of labor splits the various processes of production into minute tasks, many of which can be performed by mechanical devices. It is this fact that made the use of machinery possible and brought about the amazing improvements in technical methods of production. Mechanization is the fruit of the division of labor, its most beneficial achievement, not its motive and fountain spring. Power-driven specialized machinery could be employed only in a social environment under the division of labor. Every step forward on the road toward the use of more specialized, more refined, and more productive machines requires a further specialization of tasks.

  6

  The Individual Within Society

  If praxeology speaks of the solitary individual, acting on his own behalf only and independent of fellow men, it does so for the sake of a better comprehension of the problems of social cooperation. We do not assert that such isolated autarkic human beings have ever lived and that the social stage of man’s history was preceded by an age of independent individuals roaming like animals in search of food. The biological humanization of man’s nonhuman ancestors and the emergence of the primitive social bonds were effected in the same process. Man appeared on the scene of earthly events as a social being. The isolated asocial man is a fictitious construction.

  Seen from the point of view of the individual, society is the great means for the attainment of all his ends. The preservation of society is an essential condition of any plans an individual may want to realize by any action whatever. Even the refractory delinquent who fails to adjust his conduct to the requirements of life within the societal system of cooperation does not want to miss any of the advantages derived from the division of labor. He does not consciously aim at the destruction of society. He wants to lay his hands on a greater portion of the jointly produced wealth than the social order assigns to him. He would feel miserable if antisocial behavior were to become universal and its inevitable outcome, the return to primitive indigence, resulted.

  It is illusory to maintain that individuals in renouncing the alleged blessings of a fabulous state of nature and entering into society have foregone some advantages and have a fair claim to be indemnified for what they have lost. The idea that anybody would have fared better under an asocial state of mankind and is wronged by the very existence of society is absurd. Thanks to the higher productivity of social cooperation the human species has multiplied far beyond the margin of subsistence offered by the conditions prevailing in ages with a rudimentary degree of the division of labor. Each man enjoys a standard of living much higher than that of his savage ancestors. The natural condition of man is extreme poverty and insecurity. It is romantic nonsense to lament the passing of the happy days of primitive barbarism. In a state of savagery the complainants would either not have reached the age of manhood, or if they had, they would have lacked the opportunities and amenities provided by civilization. Jean Jacques Rousseau and Frederick Engels, if they had lived in the primitive state which they describe with nostalgic yearning, would not have enjoyed the leisure required for their studies and for the writing of their books.

  One of the privileges which society affords to the individual is the privilege of living in spite of sickness or physical disability. Sick animals are doomed. Their weakness handicaps them in their attempts to find food and to repel aggression on the part of other animals. Deaf, nearsighted, or crippled savages must perish. But such defects do not deprive a man of the opportunity to adjust himself to life in society. The majority of our contemporaries are afflicted with some bodily deficiencies which biology considers pathological. Our civilization is to a great extent the achievement of such men. The eliminative forces of natural selection are greatly reduced under social conditions. Hence some people say that civilization tends to deteriorate the hereditary qualities of the members of society.

  Such judgments are reasonable if one looks at mankind with the eyes of a breeder intent upon raising a race of men equipped with certain qualities. But society is not a stud-farm operated for the production of a definite type of men. There is no “natural” standard to establish what is desirable and what is undesirable in the biological evolution of man. Any standard chosen is arbitrary, purely subjective, in short a judgment of value. The terms racial improvement and racial degeneration are meaningless when not based on definite plans for the future of mankind.

  It is true, civilized man is adjusted to life in society and not to that of a hunter in virgin forests.

  The Fable of the Mystic Communion

  The praxeological theory of society is assailed by the fable of the mystic communion.

  Society, assert the supporters of this doctrine, is not the product of man’s purposeful action; it is not cooperation and division of tasks. It stems from unfathomable depths, from an urge ingrained in man’s essential nature. It is, says one group, engrossment by the Spirit which is Divine Reality and participation, by virtue of a unio mystica, in God’s power and love. Another group sees society as a biological phenomenon; it is the work of the voice of the blood, the bond uniting the offspring of common ancestors with these ancestors and with one another, and the mystical harmony between the ploughman and the soil he tills.

  That such psychical phenomena are really felt is true. There are people who experience the unio mystica and place this experience above everything else, and there are men who are convinced that they hear the voice of the blood and smell with heart and soul the unique scent of the cherished soil of their country. The mystical experience and the ecstatic rapture are facts which psychology must consider real, like any other psychical phenomenon. The error of the communion-doctrines does not consist in their assertion that such phenomena really occur, but in the belief that they are primary facts not dependent on any rational consideration.

  The voice of the blood which brings the father close to his child was not heard by those savages who did not know the causal relation between cohabitation and pregnancy. Today, as this relation is known to everybody, a man who has full confidence in his wife’s fidelity may perceive it. But if there are doubts concerning the wife’s fidelity, the voice of the blood is of no use. Nobody ever ventured to assert that doubts concerning paternity could be resolved by the voice of the blood. A mother who has kept watch over her child since its birth can hear the voice of the blood. If she loses touch with the infant at an early date, she may later identify it by some bodily marks, for instance those moles and scars which once were popular with novel writers. But the blood is mute if such observations and the conclusions derived from them do not make it speak. The voice of the blood, contend the German racists, mysteriously unifies all members of the German people. But anthropology reveals the fact that the German nation is a mixture of the descendants of various races, subraces, and strains and not a homogeneous stock descended from a common ancestry. The recently germanized Slav who has only a short time since changed his paternal family name for a German-sounding name believes that he is substantially attached to all Germans. But he does not experience any such inner urge impelling him to join the ranks of his brothers or cousins who remained Czechs or Poles.

  The voice of the blood is not an original and primordial phenomenon. It is prompted by rational considerations. Because a man believes that he is related to other people by a common ancestry, he develops those feelings and sentiments which are poetically described as the voice of the blood.

  The same is true with regard to religious ecstasy and mysticism of the soil. The unio mystica of the devout mystic is conditioned by familiarity with the basic teachings of his religion. Only a man who has learned about the greatness and glory of God can experience direct communion with Him. Mysticism of the soil is connected with the development of definite geopolitical ideas. Thus it may happen that inhabitants of the plains or the seashore include in the image of the soil with which they claim to be fervently joined and united also mountain districts which are unfamiliar to them and to whose conditions they could not adapt themselves, only because this territory belongs to the political body of which they are members, or would like to be members. On the other hand they often fail to include in this image of the soil whose voice they claim to hear neighboring areas of a geographic structure very similar to that of their own country if these areas happen to belong to a foreign nation.

  The various members of a nation or linguistic group and the clusters they form are not always united in friendship and good will. The history of every nation is a record of mutual dislike and even hatred between its subdivisions. Think of the English and the Scotch, the Yankees and the Southerners, the Prussians and the Bavarians. It was ideologies that overcame such animosities and inspired all members of a nation or linguistic group with those feelings of community and belonging together which present-day nationalists consider a natural and original phenomenon.

  The mutual sexual attraction of male and female is inherent in man’s animal nature and independent of any thinking and theorizing. It is permissible to call it original, vegetative, instinctive, or mysterious; there is no harm in asserting metaphorically that it makes one being out of two. We may call it a mystic communion of two bodies, a community. However, neither cohabitation, nor what precedes it and follows, generates social cooperation and societal modes of life. The animals too join together in mating, but they have not developed social relations. Family life is not merely a product of sexual inter-course. It is by no means natural and necessary that parents and children live together in the way in which they do in the family. The mating relation need not result in a family organization. The human family is an outcome of thinking, planning, and acting. It is this very fact which distinguishes it radically from those animal groups which we call per analogiam animal families.

  The mystical experience of communion or community is not the source of societal relations, but their product.

  The counterpart of the fable of the mystical communion is the fable of a natural and original repulsion between races or nations. It is asserted that an instinct teaches man to distinguish congeners from strangers and to detest the latter. Scions of noble races abominate any contact with members of lower races. To refute this statement one need only mention the fact of racial mixture. As there are in present-day Europe no pure stocks, we must conclude that between members of the various stocks which once settled in that continent there was sexual attraction and not repulsion. Millions of mulattoes and other half-breeds are living counterevidence to the assertion that there exists a natural repulsion between the various races.

  Like the mystical sense of communion, racial hatred is not a natural phenomenon innate in man. It is the product of ideologies. But even if such a thing as a natural and inborn hatred between various races existed, it would not render social cooperation futile and would not invalidate Ricardo’s theory of association. Social cooperation has nothing to do with personal love or with a general commandment to love one another. People do not cooperate under the division of labor because they love or should love one another. They cooperate because this best serves their own interests. Neither love nor charity nor any other sympathetic sentiments but rightly understood selfishness is what originally impelled man to adjust himself to the requirements of society, to respect the rights and freedoms of his fellow men and to substitute peaceful collaboration for enmity and conflict.

  7

  The Great Society

  Not every interhuman relation is a social relation. When groups of men rush upon one another in a war of outright extermination, when men fight against men as mercilessly as they crush pernicious animals and plants, there is, between the fighting parties, reciprocal effect and mutual relation, but no society. Society is joint action and cooperation in which each participant sees the other partner’s success as a means for the attainment of his own.

  The struggles in which primitive hordes and tribes fought one another for watering places, hunting and fishing grounds, pastures and booty were pitiless wars of annihilation. They were total wars. So in the nineteenth century were the first encounters of Europeans with the aborigines of territories newly made accessible. But already in the primeval age, long before the time of which historical records convey information, another mode of procedure began to develop. People preserved even in warfare some rudiments of social relations previously established; in fighting against peoples with whom they never before had had any contact, they began to take into account the idea that between human beings, notwithstanding their immediate enmity, a later arrangement and cooperation is possible. Wars were waged to hurt the foe; but the hostile acts were no longer merciless and pitiless in the full sense of these terms. The belligerents began to respect certain limits which in a struggle against men—as differentiated from that against beasts—should not be transcended. Above the implacable hatred and the frenzy of destruction and annihilation a societal element began to prevail. The idea emerged that every human adversary should be considered as a potential partner in a future cooperation, and that this fact should not be neglected in the conduct of military operations. War was no longer considered the normal state of interhuman relations. People recognized that peaceful cooperation is the best means to carry on the struggle for biological survival. We may even say that as soon as people realized that it is more advantageous to enslave the defeated than to kill them, the warriors, while still fighting, gave thought to the aftermath, the peace. Enslavement was by and large a preliminary step toward cooperation.

  The ascendancy of the idea that even in war not every act is to be considered permissible, that there are legitimate and illicit acts of warfare, that there are laws, i.e., societal relationships which are above all nations, even above those momentarily fighting one another, has finally established the Great Society embracing all men and all nations. The various regional societies were merged into one ecumenical society.

  Belligerents who do not wage war savagely in the manner of beasts, but according to “human” and social rules of warfare, renounce the use of some methods of destruction in order to attain the same concessions on the part of their foes. As far as such rules are complied with, social relations exist between the fighting parties. The hostile acts themselves are not only asocial, but antisocial. It is inexpedient to define the term social relationships in such a way as to include actions which aim at other people’s annihilation and at the frustration of their actions.8 Where the only relations between men are those directed at mutual detriment, there is neither society nor societal relations.

  Society is not merely interaction. There is interaction—reciprocal influence—between all parts of the universe: between the wolf and the sheep he devours; between the germ and the man it kills; between the falling stone and the thing upon which it falls. Society, on the other hand, always involves men acting in cooperation with other men in order to let all participants attain their own ends.

  8

  The Instinct of Aggression and Destruction

  It has been asserted that man is a beast of prey whose inborn natural instincts impel him to fight, to kill, and to destroy. Civilization, in creating unnatural humanitarian laxity which alienates man from his animal origin, has tried to quell these impulses and appetites. It has made civilized man a decadent weakling who is ashamed of his animality and proudly calls his depravity true humaneness. In order to prevent further degeneration of the species man, it is imperative to free him from the pernicious effects of civilization. For civilization is merely a cunning invention of inferior men. These underlings are too weak to be a match for the vigorous heroes, they are too cowardly to endure the well-deserved punishment of complete annihilation, and they are too lazy and too insolent to serve the masters as slaves. Thus they have resorted to a tricky makeshift. They have reversed the eternal standards of value, absolutely fixed by the immutable laws of the universe; they have propagated a morality which calls their own inferiority virtue and the eminence of the noble heroes vice. This moral rebellion of the slaves must be undone by a transvaluation of all values. The ethics of the slaves, this shameful product of the resentment of weaklings, must be entirely discarded; the ethics of the strong or, properly speaking, the nullification of any ethical restriction must be substituted for it. Man must become a worthy scion of his ancestors, the noble beasts of days gone by.

  It is usual to call such doctrines social or sociological Darwinism. We need not decide here whether this terminology is appropriate or not. At any rate it is a mistake to assign the epithets evolutionary and biological to teachings which blithely disparage the whole of mankind’s history from the ages in which man began to lift himself above the purely animal existence of his non-human ancestors as a continuous progression toward degeneration and decay. Biology does not provide any standard for the appraisal of changes occurring within living beings other than whether or not these changes succeeded in adjusting the individuals to the conditions of their environment and thereby in improving their chances in the struggle for survival. It is a fact that civilization, when judged from this point of view, is to be considered a benefit and not an evil. It has enabled man to hold his own in the struggle against all other living beings, both the big beasts of prey and the even more pernicious microbes; it has multiplied man’s means of sustenance; it has made the average man taller, more agile, and more versatile and it has stretched his average length of life; it has given man the uncontested mastery of the earth; it has multiplied population figures and raised the standard of living to a level never dreamed of by the crude cave dwellers of prehistoric ages. It is true that this evolution stunted the development of certain knacks and gifts which were once useful in the struggle for survival and have lost their usefulness under changed conditions. On the other hand it developed other talents and skills which are indispensable for life within the frame of society. However, a biological and evolutionary view must not cavil at such changes. For primitive man hard fists and pugnacity were as useful as the ability to be clever at arithmetic and to spell correctly are for modern man. It is quite arbitrary and certainly contrary to any biological standard to call only those characteristics which were useful to primitive man natural and adequate to human nature and to condemn the talents and skills badly needed by civilized man as marks of degeneration and biological deterioration. To advise man to return to the physical and intellectual features of his prehistoric ancestors is no more reasonable than to ask him to renounce his upright gait and to grow a tail again.

  It is noteworthy that the men who were foremost in extolling the eminence of the savage impulses of our barbarian forefathers were so frail that their bodies would not have come up to the requirements of “living dangerously.” Nietzsche even before his mental breakdown was so sickly that the only climate he could stand was that of the Engadin valley and of some Italian districts. He would not have been in a position to accomplish his work if civilized society had not protected his delicate nerves against the roughness of life. The apostles of violence wrote their books under the sheltering roof of “bourgeois security” which they derided and disparaged. They were free to publish their incendiary sermons because the liberalism which they scorned safeguarded freedom of the press. They would have been desperate if they had had to forego the blessings of the civilization scorned by their philosophy. And what a spectacle was that timid writer Georges Sorel, who went so far in his praise of brutality as to blame the modern system of education for weakening man’s inborn tendencies toward violence!9

  One may admit that in primitive man the propensity for killing and destroying and the disposition for cruelty were innate. We may also assume that under the conditions of earlier ages the inclination for aggression and murder was favorable to the preservation of life. Man was once a brutal beast. (There is no need to investigate whether prehistoric man was a carnivore or a herbivore.) But one must not forget that he was physically a weak animal; he would not have been a match for the big beasts of prey if he had not been equipped with a peculiar weapon, reason. The fact that man is a reasonable being, that he therefore does not yield without inhibitions to every impulse, but arranges his conduct according to reasonable deliberation, must not be called unnatural from a zoological point of view. Rational conduct means that man, in face of the fact that he cannot satisfy all his impulses, desires, and appetites, foregoes the satisfaction of those which he considers less urgent. In order not to endanger the working of social cooperation man is forced to abstain from satisfying those desires whose satisfaction would hinder the establishment of societal institutions. There is no doubt that such a renunciation is painful. However, man has made his choice. He has renounced the satisfaction of some desires incompatible with social life and has given priority to the satisfaction of those desires which can be realized only or in a more plentiful way under a system of the division of labor. He has entered upon the way toward civilization, social cooperation, and wealth.

  This decision is not irrevocable and final. The choice of the fathers does not impair the sons’ freedom to choose. They can reverse the resolution. Every day they can proceed to the transvaluation of values and prefer barbarism to civilization, or, as some authors say, the soul to the intellect, myths to reason, and violence to peace. But they must choose. It is impossible to have things incompatible with one another.

  Science, from the point of view of its valuational neutrality, does not blame the apostles of the gospel of violence for praising the frenzy of murder and the mad delights of sadism. Value judgments are subjective, and liberal society grants to everybody the right to express his sentiments freely. Civilization has not extirpated the original tendency toward aggression, bloodthirstiness, and cruelty which characterized primitive man. In many civilized men they are dormant and burst forth as soon as the restraints developed by civilization give way. Remember the unspeakable horrors of the Nazi concentration camps. The newspapers continually report abominable crimes manifesting the latent urges toward bestiality. The most popular novels and moving pictures are those dealing with bloodshed and violent acts. Bull fights and cock fights attract large crowds.

  If an author says: the rabble thirst for blood and I with them, he may be no less right than in asserting that primitive man too took delight in killing. But he errs if he passes over the fact that the satisfaction of such sadistic desires impairs the existence of society or if he asserts that “true” civilization and the “good” society are an achievement of people blithely indulging in their passion for violence, murder, and cruelty, that the repression of the impulses toward brutality endangers mankind’s evolution and that a substitution of barbarism for humanitarianism would save man from degeneration. The social division of labor and cooperation rests upon conciliatory settlement of disputes. Not war, as Heraclitus said, but peace is the source of all social relations. To man desires other than that for bloodshed are inborn. If he wants to satisfy these other desires, he must forego his urge to kill. He who wants to preserve life and health as well and as long as possible must realize that respect for other people’s lives and health better serves his aim than the opposite mode of conduct. One may regret that such is the state of affairs. But no such lamentations can alter the hard facts.

  It is useless to censure this statement by referring to irrationality. All instinctive impulses defy examination by reason because reason deals only with the means for attaining ends sought and not with ultimate ends. But what distinguishes man from other animals is precisely that he does not yield without any will of his own to an instinctive urge. Man uses reason in order to choose between the incompatible satisfactions of conflicting desires.

  One must not tell the masses: Indulge in your urge for murder; it is genuinely human and best serves your well-being. One must tell them: If you satisfy your thirst for blood, you must forego many other desires. You want to eat, to drink, to live in fine homes, to clothe yourselves, and a thousand other things which only society can provide. You cannot have everything, you must choose. The dangerous life and the frenzy of sadism may please you, but they are incompatible with the security and plenty which you do not want to miss either.

  Praxeology as a science cannot encroach upon the individual’s right to choose and to act. The final decisions rest with acting men, not with the theorists. Science’s contribution to life and action does not consist in establishing value judgments, but in clarification of the conditions under which man must act and in elucidation of the effects of various modes of action. It puts at the disposal of acting man all the information he needs in order to make his choices in full awareness of their consequences. It prepares an estimate of cost and yield, as it were. It would fail in this task if it were to omit from this statement one of the items which could influence people’s choices and decisions.

  Current Misinterpretations of Modern Natural Science, Especially of Darwinism

  Some present-day antiliberals, both of the right-wing and of the left-wing variety, base their teachings on misinterpretations of the achievements of modern biology.

  1. Men are unequal. Eighteenth-century liberalism and likewise present-day egalitarianism start from the “self-evident truth” that “all men are created equal, and that they are endowed by their Creator with certain unalienable Rights.” However, say the advocates of a biological philosophy of society, natural science has demonstrated in an irrefutable way that men are different. There is no room left in the framework of an experimental observation of natural phenomena for such a concept as natural rights. Nature is unfeeling and insensible with regard to any being’s life and happiness. Nature is iron necessity and regularity. It is metaphysical nonsense to link together the “slippery” and vague notion of liberty and the unchangeable absolute laws of cosmic order. Thus the fundamental idea of liberalism is unmasked as a fallacy.

  Now it is true that the liberal and democratic movement of the eighteenth and nineteenth centuries drew a great part of its strength from the doctrine of natural law and the innate imprescriptible rights of the individual. These ideas, first developed by ancient philosophy and Jewish theology, permeated Christian thinking. Some anti-Catholic sects made them the focal point of their political programs. A long line of eminent philosophers substantiated them. They became popular and were the most powerful moving force in the pro-democratic evolution. They are still supported today. Their advocates do not concern themselves with the incontestable fact that God or nature did not create men equal since many are born hale and hearty while others are crippled and deformed. With them all differences between men are due to education, opportunity, and social institutions.

  But the teachings of utilitarian philosophy and classical economics have nothing at all to do with the doctrine of natural right. With them the only point that matters is social utility. They recommend popular government, private property, tolerance, and freedom not because they are natural and just, but because they are beneficial. The core of Ricardo’s philosophy is the demonstration that social cooperation and division of labor between men who are in every regard superior and more efficient and men who are in every regard inferior and less efficient is beneficial to both groups. Bentham, the radical, shouted: “Natural rights is simple nonsense: natural and imprescriptible rights, rhetorical nonsense.”10 With him “the sole object of government ought to be the greatest happiness of the greatest possible number of the community.”11 Accordingly, in investigating what ought to be right he does not care about preconceived ideas concerning God’s or nature’s plans and intentions, forever hidden to mortal men; he is intent upon discovering what best serves the promotion of human welfare and happiness. Malthus showed that nature in limiting the means of subsistence does not accord to any living being a right of existence, and that by indulging heedlessly in the natural impulse of proliferation man would never have risen above the verge of starvation. He contended that human civilization and well-being could develop only to the extent that man learned to rein his sexual appetites by moral restraint. The Utilitarians do not combat arbitrary government and privileges because they are against natural law but because they are detrimental to prosperity. They recommend equality under the civil law not because men are equal but because such a policy is beneficial to the commonweal. In rejecting the illusory notions of natural law and human equality modern biology only repeated what the utilitarian champions of liberalism and democracy long before had taught in a much more persuasive way. It is obvious that no biological doctrine can ever invalidate what utilitarian philosophy says about the social utility of democratic government, private property, freedom, and equality under the law.

  The present-day prevalence of doctrines approving social disintegration and violent conflict is not the result of an alleged adaptation of social philosophy to the findings of biology but of the almost universal rejection of utilitarian philosophy and economic theory. People have substituted an ideology of irreconcilable class conflict and international conflict for the “orthodox” ideology of the harmony of the rightly understood, i.e., long-run, interests of all individuals, social groups, and nations. Men are fighting one another because they are convinced that the extermination and liquidation of adversaries is the only means of promoting their own well-being.

  2. The social implications of Darwinism. The theory of evolution as expounded by Darwin, says a school of social Darwinism, has clearly demonstrated that in nature there are no such things as peace and respect for the lives and welfare of others. In nature there is always struggle and merciless annihilation of the weak who do not succeed in defending themselves. Liberalism’s plans for eternal peace—both in domestic and in foreign relations—are the outcome of an illusory rationalism contrary to the natural order.

  However, the notion of the struggle for existence as Darwin borrowed it from Malthus and applied it in his theory, is to be understood in a metaphorical sense. Its meaning is that a living being actively resists the forces detrimental to its own life. This resistance, if it is to succeed, must be appropriate to the environmental conditions in which the being concerned has to hold its own. It need not always be a war of extermination such as in the relations between men and morbific microbes. Reason has demonstrated that, for man, the most adequate means of improving his condition is social cooperation and division of labor. They are man’s foremost tool in his struggle for survival. But they can work only where there is peace. Wars, civil wars, and revolutions are detrimental to man’s success in the struggle for existence because they disintegrate the apparatus of social cooperation.

  3. Reason and rational behavior called unnatural. Christian theology deprecated the animal functions of man’s body and depicted the “soul” as something outside of all biological phenomena. In an excessive reaction against this philosophy some moderns are prone to disparage everything in which man differs from other animals. In their eyes human reason is inferior to the animal instincts and impulses; it is unnatural and therefore bad. With them the terms rationalism and rational behavior have an opprobrious connotation. The perfect man, the real man, is a being who obeys his primordial instincts more than his reason.

  The obvious truth is that reason, man’s most characteristic feature, is also a biological phenomenon. It is neither more nor less natural than any other feature of the species Homo sapiens, for instance, the upright gait or the hairless skin.

  [1. ]F. H. Giddings, The Principles of Sociology (New York, 1926), p. 17.

  [2. ]R. M. MacIver, Society (New York, 1937), pp. 6–7.

  [3. ]Many economists, among them Adam Smith and Bastiat, believed in God. Hence they admired in the facts they had discovered the providential care of “the great Director of Nature.” Atheist critics blame them for this attitude. However, these critics fail to realize that to sneer at the references to the “invisible hand” does not invalidate the essential teachings of the rationalist and utilitarian social philosophy. One must comprehend that the alternative is this: Either association is a human process because it best serves the aims of the individuals concerned and the individuals themselves have the ability to realize the advantages they derive from their adjustment to life in social cooperation. Or a superior being enjoins upon reluctant men subordination to the law and to the social authorities. It is of minor importance whether one calls this supreme being God, Weltgeist, Destiny, History, Wotan, or Material Productive Forces and what title one assigns to its apostles, the dictators.

  [4. ]Cf. Max Stirner (Johann Kaspar Schmidt). The Ego and His Own, trans. by S. T. Byington (New York, 1907).

  [5. ]W. James, The Varieties of Religious Experience (35th impression, New York, 1925), p. 31.

  [6. ]Ibid., pp. 485–86.

  [7. ]See below, pp. 201–9.

  [8. ]Such is the terminology used by Leopold von Wiese (Allgemeine Soziologie [Munich, 1924], I, 10 ff.).

  [9. ]Georges Sorel, Réflexions sur la violence (3d ed., Paris, 1912), p. 269.

  [10. ]Bentham, Anarchical Fallacies; being an Examination of the Declaration of Rights issued during the French Revolution, in Works (ed. by Bowring), II, 501.

  [11. ]Bentham, Principles of the Civil Code, in Works, I, 301.

• Back to Top

  6: “The Market” in Human Action: A Treatise on Economics, vol. 2 [1949/2007]

  Ludwig von Mises, Human Action: A Treatise on Economics, in 4 vols., ed. Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Vol. 2. Chapter: CHAPTER 15: The Market

  Accessed from oll.libertyfund.org/title/1894/110381 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  CHAPTER 15

  The Market

  1

  The Characteristics of the Market Economy

  The market economy is the social system of the division of labor under private ownership of the means of production. Everybody acts on his own behalf; but everybody’s actions aim at the satisfaction of other people’s needs as well as at the satisfaction of his own. Everybody in acting serves his fellow citizens. Everybody, on the other hand, is served by his fellow citizens. Everybody is both a means and an end in himself, an ultimate end for himself and a means to other people in their endeavors to attain their own ends.

  This system is steered by the market. The market directs the individual’s activities into those channels in which he best serves the wants of his fellow men. There is in the operation of the market no compulsion and coercion. The state, the social apparatus of coercion and compulsion, does not interfere with the market and with the citizens’ activities directed by the market. It employs its power to beat people into submission solely for the prevention of actions destructive to the preservation and the smooth operation of the market economy. It protects the individual’s life, health, and property against violent or fraudulent aggression on the part of domestic gangsters and external foes. Thus the state creates and preserves the environment in which the market economy can safely operate. The Marxian slogan “anarchic production” pertinently characterizes this social structure as an economic system which is not directed by a dictator, a production tsar who assigns to each a task and compels him to obey this command. Each man is free; nobody is subject to a despot. Of his own accord the individual integrates himself into the cooperative system. The market directs him and reveals to him in what way he can best promote his own welfare as well as that of other people. The market is supreme. The market alone puts the whole social system in order and provides it with sense and meaning.

  The market is not a place, a thing, or a collective entity. The market is a process, actuated by the interplay of the actions of the various individuals cooperating under the division of labor. The forces determining the—continually changing—state of the market are the value judgments of these individuals and their actions as directed by these value judgments. The state of the market at any instant is the price structure, i.e., the totality of the exchange ratios as established by the interaction of those eager to buy and those eager to sell. There is nothing inhuman or mystical with regard to the market. The market process is entirely a resultant of human actions. Every market phenomenon can be traced back to definite choices of the members of the market society.

  The market process is the adjustment of the individual actions of the various members of the market society to the requirements of mutual cooperation. The market prices tell the producers what to produce, how to produce, and in what quantity. The market is the focal point to which the activities of the individuals converge. It is the center from which the activities of the individuals radiate.

  The market economy must be strictly differentiated from the second thinkable—although not realizable—system of social cooperation under the division of labor: the system of social or governmental ownership of the means of production. This second system is commonly called socialism, communism, planned economy, or state capitalism. The market economy or capitalism, as it is usually called, and the socialist economy preclude one another. There is no mixture of the two systems possible or thinkable; there is no such thing as a mixed economy, a system that would be in part capitalistic and in part socialist. Production is directed by the market or by the decrees of a production tsar or a committee of production tsars.

  If within a society based on private ownership by the means of production some of these means are publicly owned and operated—that is, owned and operated by the government or one of its agencies—this does not make for a mixed system which would combine socialism and capitalism. The fact that the state or municipalities own and operate some plants does not alter the characteristic features of the market economy. These publicly owned and operated enterprises are subject to the sovereignty of the market. They must fit themselves, as buyers of raw materials, equipment, and labor, and as sellers of goods and services, into the scheme of the market economy. They are subject to the laws of the market and thereby depend on the consumers who may or may not patronize them. They must strive for profits or, at least, to avoid losses. The government may cover losses of its plants or shops by drawing on public funds. But this neither eliminates nor mitigates the supremacy of the market; it merely shifts it to another sector. For the means for covering the losses must be raised by the imposition of taxes. But this taxation has its effects on the market and influences the economic structure according to the laws of the market. It is the operation of the market, and not the government collecting the taxes, that decides upon whom the incidence of the taxes falls and how they affect production and consumption. Thus the market, not a government bureau, determines the working of these publicly operated enterprises.

  Nothing that is in any way connected with the operation of a market is in the praxeological or economic sense to be called socialism. The notion of socialism as conceived and defined by all socialists implies the absence of a market for factors of production and of prices of such factors. The “socialization” of individual plants, shops, and farms—that is, their transfer from private into public ownership—is a method of bringing about socialism by successive measures. It is a step on the way toward socialism, but not in itself socialism. (Marx and the orthodox Marxians flatly deny the possibility of such a gradual approach to socialism. According to their doctrine the evolution of capitalism will one day reach a point in which at one stroke capitalism is transformed into socialism.)

  Government-operated enterprises and the Russian Soviet economy are, by the mere fact that they buy and sell on markets, connected with the capitalist system. They themselves bear witness to this connection by calculating in terms of money. They thus utilize the intellectual methods of the capitalist system that they fanatically condemn.

  For monetary economic calculation is the intellectual basis of the market economy. The tasks set to acting within any system of the division of labor cannot be achieved without economic calculation. The market economy calculates in terms of money prices. That it is capable of such calculation was instrumental in its evolution and conditions its present-day operation. The market economy is real because it can calculate.

  2

  Capital Goods and Capital

  There is an impulse inwrought in all living beings that directs them toward the assimilation of matter that preserves, renews, and strengthens their vital energy. The eminence of acting man is manifested in the fact that he consciously and purposefully aims at maintaining and enhancing his vitality. In the pursuit of this aim his ingenuity leads him to the construction of tools that first aid him in the appropriation of food, then, at a later stage, induce him to design methods of increasing the quantity of foodstuffs available, and, finally, enable him to provide for the satisfaction of the most urgently felt among those desires that are specifically human. As Böhm-Bawerk described it: Man chooses roundabout methods of production that require more time but compensate for this delay by generating more and better products.

  At the outset of every step forward on the road to a more plentiful existence is saving—the provisionment of products that makes it possible to prolong the average period of time elapsing between the beginning of the production process and its turning out of a product ready for use and consumption. The products accumulated for this purpose are either intermediary stages in the technological process, i.e., tools and half-finished products, or goods ready for consumption that make it possible for man to substitute, without suffering want during the waiting period, a more time-absorbing process for another absorbing a shorter time. These goods are called capital goods. Thus, saving and the resulting accumulation of capital goods are at the beginning of every attempt to improve the material conditions of man; they are the foundation of human civilization. Without saving and capital accumulation there could not be any striving toward nonmaterial ends.1

  From the notion of capital goods one must clearly distinguish the concept of capital.2 The concept of capital is the fundamental concept of economic calculation, the foremost mental tool of the conduct of affairs in the market economy. Its correlative is the concept of income.

  The notions of capital and income as applied in accountancy and in the mundane reflections of which accountancy is merely a refinement, contrast the means and the ends. The calculating mind of the actor draws a boundary line between the consumer’s goods which he plans to employ for the immediate satisfaction of his wants and the goods of all orders—including those of the first order3 —which he plans to employ for providing by further acting, for the satisfaction of future wants. The differentiation of means and ends thus becomes a differentiation of acquisition and consumption, of business and household, of trading funds and of household goods. The whole complex of goods destined for acquisition is evaluated in money terms, and this sum—the capital—is the starting point of economic calculation. The immediate end of acquisitive action is to increase or, at least, to preserve the capital. That amount which can be consumed within a definite period without lowering the capital is called income. If consumption exceeds the income available, the difference is called capital consumption. If the income available is greater than the amount consumed, the difference is called saving. Among the main tasks of economic calculation are those of establishing the magnitudes of income, saving, and capital consumption.

  The reflection which led acting man to the notions implied in the concepts of capital and income are latent in every premeditation and planning of action. Even the most primitive husbandmen are dimly aware of the consequences of acts which to a modern accountant would appear as capital consumption. The hunter’s reluctance to kill a pregnant hind and the uneasiness felt even by the most ruthless warriors in cutting fruit trees were manifestations of a mentality which was influenced by such considerations. These considerations were present in the age-old legal institution of usufruct and in analogous customs and practices. But only people who are in a position to resort to monetary calculation can evolve to full clarity the distinction between an economic substance and the advantages derived from it, and can apply it neatly to all classes, kinds, and orders of goods and services. They alone can establish such distinctions with regard to the perpetually changing conditions of highly developed processing industries and the complicated structure of the social cooperation of hundreds of thousands of specialized jobs and performances.

  Looking backward from the cognition provided by modern accountancy to the conditions of the savage ancestors of the human race, we may say metaphorically that they too used “capital.” A contemporary accountant could apply all the methods of his profession to their primitive tools of hunting and fishing, to their cattle breeding and their tilling of the soil, if he knew what prices to assign to the various items concerned. Some economists concluded therefrom that “capital” is a category of all human production, that it is present in every thinkable system of the conduct of production processes—i.e., no less in Robinson Crusoe’s involuntary hermitage than in a socialist society—and that it does not depend upon the practice of monetary calculation.4 This is, however, a confusion. The concept of capital cannot be separated from the context of monetary calculation and from the social structure of a market economy in which alone monetary calculation is possible. It is a concept which makes no sense outside the conditions of a market economy. It plays a role exclusively in the plans and records of individuals acting on their own account in such a system of private ownership of the means of production, and it developed with the spread of economic calculation in monetary terms.5

  Modern accountancy is the fruit of a long historical evolution. Today there is, among businessmen and accountants, unanimity with regard to the meaning of capital. Capital is the sum of the money equivalent of all assets minus the sum of the money equivalent of all liabilities as dedicated at a definite date to the conduct of the operations of a definite business unit. It does not matter in what these assets may consist, whether they are pieces of land, buildings, equipment, tools, goods of any kind and order, claims, receivables, cash, or whatever.

  It is a historical fact that in the early days of accountancy the tradesmen, the pacemakers on the way toward monetary calculation, did not for the most part include the money equivalent of their buildings and land in the notion of capital. It is another historical fact that agriculturists were slow in applying the capital concept to their land. Even today in the most advanced countries only a part of the farmers are familiar with the practice of sound accountancy. Many farmers acquiesce in a system of bookkeeping that neglects to pay heed to the land and its contribution to production. Their book entries do not include the money equivalent of the land and are consequently indifferent to changes in this equivalent. Such accounts are defective because they fail to convey that information which is the sole aim sought by capital accounting. They do not indicate whether or not the operation of the farm has brought about a deterioration in the land’s capacity to contribute to production, that is, in its objective use value. If an erosion of the soil has taken place, their books ignore it, and thus the calculated income (net yield) is greater than a more complete method of bookkeeping would have shown.

  It is necessary to mention these historical facts because they influenced the endeavors of the economists to construct the notion of real capital.

  The economists were and are still today confronted with the superstitious belief that the scarcity of factors of production could be brushed away, either entirely or at least to some extent, by increasing the amount of money in circulation and by credit expansion. In order to deal adequately with this fundamental problem of economic policy they considered it necessary to construct a notion of real capital and to oppose it to the notion of capital as applied by the businessman whose calculation refers to the whole complex of his acquisitive activities. At the time the economists embarked upon these endeavors the place of the money equivalent of land in the concept of capital was still questioned. Thus the economists thought it reasonable to disregard land in constructing their notion of real capital. They defined real capital as the totality of the produced factors of production available. Hairsplitting discussions were started as to whether inventories of consumers’ goods held by business units are or are not real capital. But there was almost unanimity that cash is not real capital.

  Now this concept of a totality of the produced factors of production is an empty concept. The money equivalent of the various factors of production owned by a business unit can be determined and summed up. But if we abstract from such an evaluation in money terms, the totality of the produced factors of production is merely an enumeration of physical quantities of thousands and thousands of various goods. Such an inventory is of no use to acting. It is a description of a part of the universe in terms of technology and topography and has no reference whatever to the problems raised by the endeavors to improve human well-being. We may acquiesce in the terminological usage of calling the produced factors of production capital goods. But this does not render the concept of real capital any more meaningful.

  The worst outgrowth of the use of the mythical notion of real capital was that economists began to speculate about a spurious problem called the productivity of (real) capital. A factor of production is by definition a thing that is able to contribute to the success of a process of production. Its market price reflects entirely the value that people attach to this contribution. The services expected from the employment of a factor of production (i.e., its contribution to productivity) are in market transactions paid according to the full value people attach to them. These factors are considered valuable only on account of these services. These services are the only reason why prices are paid for them. Once these prices are paid, nothing remains that can bring about further payments on the part of anybody as a compensation for additional productive services of these factors of production. It was a blunder to explain interest as an income derived from the productivity of capital.6

  No less detrimental was a second confusion derived from the real capital concept. People began to mediate upon a concept of social capital as different from private capital. Starting from the imaginary construction of a socialist economy, they were intent upon defining a capital concept suitable to the economic activities of the general manager of such a system. They were right in assuming that this manager would be eager to know whether his conduct of affairs was successful (viz., from the point of view of his own valuations and the ends aimed at in accordance with these valuations) and how much he could expend for his wards’ consumption without diminishing the available stock of factors of production and thus impairing the yield of further production. A socialist government would badly need the concepts of capital and income as a guide for its operations. However, in an economic system in which there is no private ownership of the means of production, no market, and no prices for such goods the concepts of capital and income are mere academic postulates devoid of any practical application. In a socialist economy there are capital goods, but no capital.

  The notion of capital makes sense only in the market economy. It serves the deliberations and calculations of individuals or groups of individuals operating on their own account in such an economy. It is a device of capitalists, entrepreneurs, and farmers eager to make profits and to avoid losses. It is not a category of all acting. It is a category of acting within a market economy.

  3

  Capitalism

  All civilizations have up to now been based on private ownership of the means of production. In the past civilization and private property have been linked together. Those who maintain that economics is an experimental science and nevertheless recommend public control of the means of production, lamentably contradict themselves. If historical experience could teach us anything, it would be that private property is inextricably linked with civilization. There is no experience to the effect that socialism could provide a standard of living as high as that provided by capitalism.7

  The system of market economy has never been fully and purely tried. But there prevailed in the orbit of Western civilization since the Middle Ages by and large a general tendency toward the abolition of institutions hindering the operation of the market economy. With the successive progress of this tendency, population figures multiplied and the masses’ standard of living was raised to an unprecedented and hitherto undreamed of level. The average American worker enjoys amenities for which Croesus, Crassus, the Medici, and Louis XIV would have envied him.

  The problems raised by the socialist and interventionist critique of the market economy are purely economic and can be dealt with only in the way in which this book tries to deal with them: by a thorough analysis of human action and all thinkable systems of social cooperation. The psychological problem of why people scorn and disparage capitalism and call everything they dislike “capitalistic” and everything they praise “socialistic” concerns history and must be left to the historians. But there are several other issues which we must stress at this point.

  The advocates of totalitarianism consider “capitalism” a ghastly evil, an awful illness that came upon mankind. In the eyes of Marx it was an inevitable stage of mankind’s evolution, but for all that the worst of evils; fortunately salvation is imminent and will free man forever from this disaster. In the opinion of other people it would have been possible to avoid capitalism if only men had been more moral or more skillful in the choice of economic policies. All such lucubrations have one feature in common. They look upon capitalism as if it were an accidental phenomenon which could be eliminated without altering conditions that are essential in civilized man’s acting and thinking. As they neglect to bother about the problem of economic calculation, they are not aware of the consequences which the abolition of the monetary calculus is bound to bring about. They do not realize that socialist men, for whom arithmetic will be of no use in planning action, will differ entirely in their mentality and in their mode of thinking from our contemporaries. In dealing with socialism, we must not overlook this mental transformation, even if we were ready to pass over in silence the disastrous consequences which would result for man’s material well-being.

  The market economy is a man-made mode of acting under the division of labor. But this does not imply that it is something accidental or artificial and could be replaced by another mode. The market economy is the product of a long evolutionary process. It is the outcome of man’s endeavors to adjust his action in the best possible way to the given conditions of his environment that he cannot alter. It is the strategy, as it were, by the application of which man has triumphantly progressed from savagery to civilization.

  Some authors argue: Capitalism was the economic system which brought about the marvelous achievements of the last two hundred years; therefore it is done for because what was beneficial in the past cannot be so for our time and for the future. Such reasoning is in open contradiction to the principles of experimental cognition. There is no need at this point to raise again the question of whether or not the science of human action can adopt the methods of the experimental natural sciences. Even if it were permissible to answer this question in the affirmative, it would be absurd to argue as these à rebours [(French) the wrong way] experimentalists do. Experimental science argues that because a was valid in the past, it will be valid in the future too. It must never argue the other way around and assert that because a was valid in the past, it is not valid in the future.

  It is customary to blame the economists for an alleged disregard of history. The economists, it is contended, consider the market economy as the ideal and eternal pattern of social cooperation. They concentrate their studies upon investigating the conditions of the market economy and neglect everything else. They do not bother about the fact that capitalism emerged only in the last two hundred years and that even today it is restricted to a comparatively small area of the earth’s surface and to a minority of peoples. There were and are, say these critics, other civilizations with a different mentality and different modes of conducting economic affairs. Capitalism is, when seen sub specie aeternitatis [(Latin) from the viewpoint or mental image of eternity], a passing phenomenon, an ephemeral stage of historical evolution, just the transition from precapitalistic ages to a post-capitalistic future.

  All these criticisms are spurious. Economics is, of course, not a branch of history or of any other historical science. It is the theory of all human action, the general science of the immutable categories of action and of their operation under all thinkable special conditions under which man acts. It provides as such the indispensable mental tool for dealing with historical and ethnographic problems. A historian or an ethnographer who neglects in his work to take full advantage of the results of economics is doing a poor job. In fact he does not approach the subject matter of his research unaffected by what he disregards as theory. He is at every step of his gathering of allegedly unadulterated facts, in arranging these facts, and in his conclusions derived from them, guided by confused and garbled remnants of perfunctory economic doctrines constructed by botchers in the centuries preceding the elaboration of an economic science and long since entirely exploded.

  The analysis of the problems of the market society, the only pattern of human action in which calculation can be applied in planning action, opens access to the analysis of all thinkable modes of action and of all economic problems with which historians and ethnographers are confronted. All noncapitalistic methods of economic management can be studied only under the hypothetical assumption that in them too cardinal numbers can be used in recording past action and planning future action. This is why economists place the study of the pure market economy in the center of their investigations.

  It is not the economists who lack the “historical sense” and ignore the factor of evolution, but their critics. The economists have always been fully aware of the fact that the market economy is the product of a long historical process which began when the human race emerged from the ranks of the other primates. The champions of what is mistakenly called “historicism” are intent upon undoing the effects of evolutionary changes. In their eyes everything the existence of which they cannot trace back to a remote past or cannot discover in the customs of some primitive Polynesian tribes is artificial, even decadent. They consider the fact that an institution was unknown to savages as a proof of its uselessness and rottenness. Marx and Engels and the Prussian professors of the Historical School exulted when they learned that private property is “only” a historical phenomenon. For them this was the proof that their socialist plans were realizable.8

  The creative genius is at variance with his fellow citizens. As the pioneer of things new and unheard of he is in conflict with their uncritical acceptance of traditional standards and values. In his eyes the routine of the regular citizen, the average or common man, is simply stupidity. For him “bourgeois” is a synonym of imbecility.9 The frustrated artists who take delight in aping the genius’s mannerism in order to forget and to conceal their own impotence adopt this terminology. These Bohemians call everything they dislike “bourgeois.” Since Marx has made the term “capitalist” equivalent to “bourgeois,” they use both words synonymously. In the vocabularies of all languages the words “capitalistic” and “bourgeois” signify today all that is shameful, degrading, and infamous.10 Contrariwise, people call all that they deem good and praiseworthy “socialist.” The regular scheme of arguing is this: A man arbitrarily calls anything he dislikes “capitalistic,” and then deduces from this appellation that the thing is bad.

  This semantic confusion goes still further. Sismondi, the romantic eulogists of the Middle Ages, all socialist authors, the Prussian Historical School, and the American Institutionalists taught that capitalism is an unfair system of exploitation sacrificing the vital interests of the majority of people for the sole benefit of a small group of profiteers. No decent man can advocate this “mad” system. The economists who contend that capitalism is beneficial not only to a small group but to everyone are “sycophants of the bourgeoisie.” They are either too dull to recognize the truth or bribed apologists of the selfish class interests of the exploiters.

  Capitalism, in the terminology of these foes of liberty, democracy, and the market economy, means the economic policy advocated by big business and millionaires. Confronted with the fact that some—but certainly not all—wealthy entrepreneurs and capitalists nowadays favor measures restricting free trade and competition and resulting in monopoly, they say: Contemporary capitalism stands for protectionism, cartels, and the abolition of competition. It is true, they add, that at a definite period of the past British capitalism favored free trade both on the domestic market and in international relations. This was because at that time the class interests of the British bourgeoisie were best served by such a policy. Conditions, however, changed and today capitalism, i.e., the doctrine advocated by the exploiters, aims at another policy.

  It has already been pointed out that this doctrine badly distorts both economic theory and historical facts.11 There were and there will always be people whose selfish ambitions demand protection for vested interests and who hope to derive advantage from measures restricting competition. Entrepreneurs grown old and tired and the decadent heirs of people who succeeded in the past dislike the agile parvenus who challenge their wealth and their eminent social position. Whether or not their desire to make economic conditions rigid and to hinder improvements can be realized, depends on the climate of public opinion. The ideological structure of the nineteenth century, as fashioned by the prestige of the teachings of the liberal economists, rendered such wishes vain. When the technological improvements of the age of liberalism revolutionized the traditional methods of production, transportation, and marketing, those whose vested interests were hurt did not ask for protection because it would have been a hopeless venture. But today it is deemed a legitimate task of government to prevent an efficient man from competing with the less efficient. Public opinion sympathizes with the demands of powerful pressure groups to stop progress. The butter producers are with considerable success fighting against margarine and the musicians against recorded music. The labor unions are deadly foes of every new machine. It is not amazing that in such an environment less efficient businessmen aim at protection against more efficient competitors.

  It would be correct to describe this state of affairs in this way: Today many or some groups of business are no longer liberal; they do not advocate a pure market economy and free enterprise, but, on the contrary, are asking for various measures of government interference with business. But it is entirely misleading to say that the meaning of the concept of capitalism has changed and that “mature capitalism”—as the American Institutionalists call it—or “late capitalism”—as the Marxians call it—is characterized by restrictive policies to protect the vested interests of wage earners, farmers, shopkeepers, artisans, and sometimes also of capitalists and entrepreneurs. The concept of capitalism is as an economic concept immutable; if it means anything, it means the market economy. One deprives oneself of the semantic tools to deal adequately with the problems of contemporary history and economic policies if one acquiesces in a different terminology. This faulty nomenclature becomes understandable only if we realize that the pseudo-economists and the politicians who apply it want to prevent people from knowing what the market economy really is. They want to make people believe that all the repulsive manifestations of restrictive government policies are produced by “capitalism.”

  4

  The Sovereignty of the Consumers

  The direction of all economic affairs is in the market society a task of the entrepreneurs. Theirs is the control of production. They are at the helm and steer the ship. A superficial observer would believe that they are supreme. But they are not. They are bound to obey unconditionally the captain’s orders. The captain is the consumer. Neither the entrepreneurs nor the farmers nor the capitalists determine what has to be produced. The consumers do that. If a businessman does not strictly obey the orders of the public as they are conveyed to him by the structure of market prices, he suffers losses, he goes bankrupt, and is thus removed from his eminent position at the helm. Other men who did better in satisfying the demand of the consumers replace him.

  The consumers patronize those shops in which they can buy what they want at the cheapest price. Their buying and their abstention from buying decides who should own and run the plants and the farms. They make poor people rich and rich people poor. They determine precisely what should be produced, in what quality, and in what quantities. They are merciless bosses, full of whims and fancies, changeable and unpredictable. For them nothing counts other than their own satisfaction. They do not care a whit for past merit and vested interests. If something is offered to them that they like better or that is cheaper, they desert their old purveyors. In their capacity as buyers and consumers they are hard-hearted and callous, without consideration for other people.

  Only the sellers of goods and services of the first order are in direct contact with the consumers and directly depend on their orders. But they transmit the orders received from the public to all those producing goods and services of the higher orders. For the manufacturers of consumers’ goods, the retailers, the service trades, and the professions are forced to acquire what they need for the conduct of their own business from those purveyors who offer them at the cheapest price. If they were not intent upon buying in the cheapest market and arranging their processing of the factors of production so as to fill the demands of the consumers in the best and cheapest way, they would be forced to go out of business. More efficient men who succeeded better in buying and processing the factors of production would supplant them. The consumer is in a position to give free rein to his caprices and fancies. The entrepreneurs, capitalists, and farmers have their hands tied; they are bound to comply in their operations with the orders of the buying public. Every deviation from the lines prescribed by the demand of the consumers debits their account. The slightest deviation, whether willfully brought about or caused by error, bad judgment, or inefficiency, restricts their profits or makes them disappear. A more serious deviation results in losses and thus impairs or entirely absorbs their wealth. Capitalists, entrepreneurs, and landowners can only preserve and increase their wealth by filling best the orders of the consumers. They are not free to spend money which the consumers are not prepared to refund to them in paying more for the products. In the conduct of their business affairs they must be unfeeling and stony-hearted because the consumers, their bosses, are themselves unfeeling and stony-hearted.

  The consumers determine ultimately not only the prices of the consumers’ goods, but no less the prices of all factors of production. They determine the income of every member of the market economy. The consumers, not the entrepreneurs, pay ultimately the wages earned by every worker, the glamorous movie star as well as the charwoman. With every penny spent the consumers determine the direction of all production processes and the details of the organization of all business activities. This state of affairs has been described by calling the market a democracy in which every penny gives a right to cast a ballot.12 It would be more correct to say that a democratic constitution is a scheme to assign to the citizens in the conduct of government the same supremacy the market economy gives them in their capacity as consumers. However, the comparison is imperfect. In the political democracy only the votes cast for the majority candidate or the majority plan are effective in shaping the course of affairs. The votes polled by the minority do not directly influence policies. But on the market no vote is cast in vain. Every penny spent has the power to work upon the production processes. The publishers cater not only to the majority by publishing detective stories, but also to the minority reading lyrical poetry and philosophical tracts. The bakeries bake bread not only for healthy people, but also for the sick on special diets. The decision of a consumer is carried into effect with the full momentum he gives it through his readiness to spend a definite amount of money.

  It is true, in the market the various consumers have not the same voting right. The rich cast more votes than the poorer citizens. But this inequality is itself the outcome of a previous voting process. To be rich, in a pure market economy, is the outcome of success in filling best the demands of the consumers. A wealthy man can preserve his wealth only by continuing to serve the consumers in the most efficient way.

  Thus the owners of the material factors of production and the entrepreneurs are virtually mandataries or trustees of the consumers, revocably appointed by an election daily repeated.

  There is in the operation of a market economy only one instance in which the proprietary class is not completely subject to the supremacy of the consumers. Monopoly prices are an infringement of the sway of the consumers.

  The Metaphorical Employment of the Terminology of Political Rule

  The orders given by businessmen in the conduct of their affairs can be heard and seen. Nobody can fail to become aware of them. Even messenger boys know that the boss runs things around the shop. But it requires a little more brains to notice the entrepreneur’s dependence on the market. The orders given by the consumers are not tangible, they cannot be perceived by the senses. Many people lack the discernment to take cognizance of them. They fall victim to the delusion that entrepreneurs and capitalists are irresponsible autocrats whom nobody calls to account for their actions.13

  The outgrowth of this mentality is the practice of applying to business the terminology of political rule and military action. Successful businessmen are called kings or dukes, their enterprises an empire, a kingdom, or a dukedom. If this idiom were only a harmless metaphor, there would be no need to criticize it. But it is the source of serious errors which play a sinister role in contemporary doctrines.

  Government is an apparatus of compulsion and coercion. It has the power to obtain obedience by force. The political sovereign, be it an autocrat or the people as represented by its mandataries, has power to crush rebellions as long as his ideological might subsists.

  The position which entrepreneurs and capitalists occupy in the market economy is of a different character. A “chocolate king” has no power over the consumers, his patrons. He provides them with chocolate of the best possible quality and at the cheapest price. He does not rule the consumers, he serves them. The consumers are not tied to him. They are free to stop patronizing his shops. He loses his “kingdom” if the consumers prefer to spend their pennies elsewhere. Nor does he “rule” his workers. He hires their services by paying them precisely that amount which the consumers are ready to restore to him in buying the product. Still less do the capitalists and entrepreneurs exercise political control. The civilized nations of Europe and America were long controlled by governments which did not considerably hinder the operation of the market economy. Today these countries too are dominated by parties which are hostile to capitalism and believe that every harm inflicted upon capitalists and entrepreneurs is extremely beneficial to the people.

  In an unhampered market economy the capitalists and entrepreneurs cannot expect an advantage from bribing officeholders and politicians. On the other hand, the officeholders and politicians are not in a position to blackmail businessmen and to extort graft from them. In an interventionist country powerful pressure groups are intent upon securing for their members privileges at the expense of weaker groups and individuals. Then the businessmen may deem it expedient to protect themselves against discriminatory acts on the part of the executive officers and the legislature by bribery; once used to such methods, they may try to employ them in order to secure privileges for themselves. At any rate the fact that businessmen bribe politicians and officeholders and are blackmailed by such people does not indicate that they are supreme and rule the countries. It is those ruled—and not the rulers—who bribe and are paying tribute.

  The majority of businessmen are prevented from resorting to bribery either by their moral convictions or by fear. They venture to preserve the free enterprise system and to defend themselves against discrimination by legitimate democratic methods. They form trade associations and try to influence public opinion. The results of these endeavors have been rather poor, as is evidenced by the triumphant advance of anticapitalist policies. The best that they have been able to achieve is to delay for a while some especially obnoxious measures.

  Demagogues misrepresent this state of affairs in the crassest way. They tell us that these associations of bankers and manufacturers are the true rulers of their countries and that the whole apparatus of what they call “plutodemocratic” government is dominated by them. A simple enumeration of the laws passed in the last decades by any country’s legislature is enough to explode such legends.

  5

  Competition

  In nature there prevail irreconcilable conflicts of interests. The means of subsistence are scarce. Proliferation tends to outrun subsistence. Only the fittest plants and animals survive. The antagonism between an animal starving to death and another that snatches the food away from it is implacable.

  Social cooperation under the division of labor removes such antagonisms. It substitutes partnership and mutuality for hostility. The members of society are united in a common venture.

  The term competition as applied to the conditions of animal life signifies the rivalry between animals which manifests itself in their search for food. We may call this phenomenon biological competition. Biological competition must not be confused with social competition, i.e., the striving of individuals to attain the most favorable position in the system of social cooperation. As there will always be positions which men value more highly than others, people will strive for them and try to outdo rivals. Social competition is consequently present in every conceivable mode of social organization. If we want to think of a state of affairs in which there is no social competition, we must construct the image of a socialist system in which the chief in his endeavors to assign to everybody his place and task in society is not aided by any ambition on the part of his subjects. The individuals are entirely indifferent and do not apply for special appointments. They behave like the stud horses which do not try to put themselves in a favorable light when the owner picks out the stallion to impregnate his best brood mare. But such people would no longer be acting men.

  Catallactic competition is emulation between people who want to surpass one another. It is not a fight, although it is usual to apply to it in a metaphorical sense the terminology of war and internecine conflict, of attack and defense, of strategy and tactics. Those who fail are not annihilated; they are removed to a place in the social system that is more modest, but more adequate to their achievements than that which they had planned to attain.

  In a totalitarian system, social competition manifests itself in the endeavors of people to court the favor of those in power. In the market economy, competition manifests itself in the fact that the sellers must outdo one another by offering better or cheaper goods and services, and that the buyers must outdo one another by offering higher prices. In dealing with this variety of social competition which may be called catallactic competition, we must guard ourselves against various popular fallacies.

  The classical economists favored the abolition of all trade barriers preventing people from competing on the market. Such restrictive laws, they explained, result in shifting production from those places in which natural conditions of production are more favorable to places in which they are less favorable. They protect the less efficient man against his more efficient rival. They tend to perpetuate backward technological methods of production. In short they curtail production and thus lower the standard of living. In order to make all people more prosperous, the economists argued, competition should be free to everybody. In this sense they used the term free competition. There was nothing metaphysical in their employment of the term free. They advocated the nullification of privileges barring people from access to certain trades and markets. All the sophisticated lucubrations caviling at the metaphysical connotations of the adjective free as applied to competition are spurious; they have no reference whatever to the catallactic problem of competition.

  As far as natural conditions come into play, competition can only be “free” with regard to those factors of production which are not scarce and therefore not objects of human action. In the catallactic field competition is always restricted by the inexorable scarcity of the economic goods and services. Even in the absence of institutional barriers erected to restrict the number of those competing, the state of affairs is never such as to enable everyone to compete in all sectors of the market. In each sector only comparatively small groups can engage in competition.

  Catallactic competition, one of the characteristic features of the market economy, is a social phenomenon. It is not a right, guaranteed by the state and the laws, that would make it possible for every individual to choose ad libitum the place in the structure of the division of labor he likes best. To assign to everybody his proper place in society is the task of the consumers. Their buying and abstention from buying is instrumental in determining each individual’s social position. Their supremacy is not impaired by any privileges granted to the individuals qua producers. Entrance into a definite branch of industry is virtually free to newcomers only as far as the consumers approve of this branch’s expansion or as far as the newcomers succeed in supplanting those already occupied in it by filling better or more cheaply the demands of the consumers. Additional investment is reasonable only to the extent that it fills the most urgent among the not yet satisfied needs of the consumers. If the existing plants are sufficient, it would be wasteful to invest more capital in the same industry. The structure of market prices pushes the new investors into other branches.

  It is necessary to emphasize this point because the failure to grasp it is at the root of many popular complaints about the impossibility of competition. Some sixty years ago people used to declare: You cannot compete with the railroad companies; it is impossible to challenge their position by starting competing lines; in the field of land transportation there is no longer competition. The truth was that at that time the already operating lines were by and large sufficient. For additional capital investment the prospects were more favorable in improving the serviceableness of the already operating lines and in other branches of business than in the construction of new railroads. However, this did not interfere with further technological progress in transportation technique. The bigness and the economic “power” of the railroad companies did not impede the emergence of the motor car and the airplane.

  Today people assert the same with regard to various branches of big business: You cannot challenge their position, they are too big and too powerful. But competition does not mean that anybody can prosper by simply imitating what other people do. It means the opportunity to serve the consumers in a better or cheaper way without being restrained by privileges granted to those whose vested interests the innovation hurts. What a newcomer who wants to defy the vested interests of the old established firms needs most is brains and ideas. If his project is fit to fill the most urgent of the unsatisfied needs of the consumers or to purvey them at a cheaper price than their old purveyors, he will succeed in spite of the much talked of bigness and power of the old firms.

  Catallactic competition must not be confused with prize fights and beauty contests. The purpose of such fights and contests is to discover who is the best boxer or the prettiest girl. The social function of catallactic competition is, to be sure, not to establish who is the smartest boy and to reward the winner by a title and medals. Its function is to safeguard the best satisfaction of the consumers attainable under the given state of the economic data.

  Equality of opportunity is a factor neither in prize fights and beauty contests nor in any other field of competition, whether biological or social. The immense majority of people are by the physiological structure of their bodies deprived of a chance to attain the honors of a boxing champion or a beauty queen. Only very few people can compete on the labor market as opera singers and movie stars. The most favorable opportunity to compete in the field of scientific achievement is provided to the university professors. Yet, thousands and thousands of professors pass away without leaving any trace in the history of ideas and scientific progress, while many of the handicapped outsiders win glory through marvelous contributions.

  It is usual to find fault with the fact that catallactic competition is not open to everybody in the same way. The start is much more difficult for a poor boy than for the son of a wealthy man. But the consumers are not concerned about the problem of whether or not the men who shall serve them start their careers under equal conditions. Their only interest is to secure the best possible satisfaction of their needs. As the system of hereditary property is more efficient in this regard, they prefer it to other less efficient systems. They look at the matter from the point of view of social expediency and social welfare, not from the point of view of an alleged, imaginary, and unrealizable “natural” right of every individual to compete with equal opportunity. The realization of such a right would require placing at a disadvantage those born with better intelligence and greater will power than the average man. It is obvious that this would be absurd.

  The term competition is mainly employed as the antithesis of monopoly. In this mode of speech the term monopoly is applied in different meanings which must be clearly separated.

  The first connotation of monopoly, very frequently implied in the popular use of the term, signifies a state of affairs in which the monopolist, whether an individual or a group of individuals, exclusively controls one of the vital conditions of human survival. Such a monopolist has the power to starve to death all those who do not obey his orders. He dictates and the others have no alternative but either to surrender or to die. With regard to such a monopoly there is no market or any kind of catallactic competition. The monopolist is the master and the rest are slaves entirely dependent on his good graces. There is no need to dwell upon this kind of monopoly. It has no reference whatever to a market economy. It is enough to cite one instance. A world-embracing socialist state would exercise such an absolute and total monopoly; it would have the power to crush its opponents by starving them to death.14

  The second connotation of monopoly differs from the first in that it describes a state of affairs compatible with the conditions of a market economy. A monopolist in this sense is an individual or a group of individuals, fully combining for joint action, who has the exclusive control of the supply of a definite commodity. If we define the term monopoly in this way, the domain of monopoly appears very vast. The products of the processing industries are more or less different from one another. Each factory turns out products different from those of the other plants. Each hotel has a monopoly on the sale of its services on the site of its premises. The professional services rendered by a physician or a lawyer are never perfectly equal to those rendered by any other physician or lawyer. Except for certain raw materials, foodstuffs, and other staple goods, monopoly is everywhere on the market.

  However, the mere phenomenon of monopoly is without any significance and relevance for the operation of the market and the determination of prices. It does not give the monopolist any advantage in selling his products. Under copyright law every rhymester enjoys a monopoly in the sale of his poetry. But this does not influence the market. It may happen that no price whatever can be realized for his stuff and that his books can only be sold at their waste paper value.

  Monopoly in this second connotation of the term becomes a factor in the determination of prices only if the demand curve for the monopoly good concerned is shaped in a particular way. If conditions are such that the monopolist can secure higher net proceeds by selling a smaller quantity of his product at a higher price than by selling a greater quantity of his supply at a lower price, there emerges a monopoly price higher than the potential market price would have been in the absence of monopoly. Monopoly prices are an important market phenomenon, while monopoly as such is only important if it can result in the formation of monopoly prices.

  It is customary to call prices which are not monopoly prices competitive prices. While it is questionable whether or not this terminology is expedient, it is generally accepted and it would be difficult to change it. But one must guard oneself against its misinterpretation. It would be a serious blunder to deduce from the antithesis between monopoly price and competitive price that the monopoly price is the outgrowth of the absence of competition. There is always catallactic competition on the market. Catallactic competition is no less a factor in the determination of monopoly prices than it is in the determination of competitive prices. The shape of the demand curve that makes the appearance of monopoly prices possible and directs the monopolists’ conduct is determined by the competition of all other commodities competing for the buyers’ dollars. The higher the monopolist fixes the price at which he is ready to sell, the more potential buyers turn their dollars toward other vendible goods. On the market every commodity competes with all other commodities.

  There are people who maintain that the catallactic theory of prices is of no use for the study of reality because there has never been “free” competition or because, at least today, there is no longer any such thing. All these doctrines are wrong.15 They misconstrue the phenomena and simply do not know what competition really is. It is a fact that the history of the last decades is a record of policies aiming at the restriction of competition. It is the manifest intention of these schemes to grant privileges to certain groups of producers by protecting them against the competition of more efficient competitors. In many instances these policies have brought about the conditions required for the emergence of monopoly prices. In many other instances this was not the case and the result was only a state of affairs preventing many capitalists, entrepreneurs, farmers, and workers from entering those branches of industry in which they would have rendered the most valuable services to their fellow citizens. Catallactic competition has been seriously restricted, but the market economy is still in operation although sabotaged by government and labor union interference. The system of catallactic competition is still functioning although the productivity of labor has been seriously reduced.

  It is the ultimate end of these anticompetition policies to substitute for capitalism a socialist system of planning in which there is no catallactic competition at all. While shedding crocodile tears about the decline of competition, the planners want to abolish this “mad” competitive system. They have attained their goal in some countries. But in the rest of the world they have only restricted competition in some branches of business by increasing the number of people competing in other branches.

  The forces aiming at a restriction of competition play a great role in our day. It is an important task of the history of our age to deal with them. Economic theory has no need to refer to them in particular. The fact that there are trade barriers, privileges, cartels, government monopolies and labor unions is merely a datum of economic history. It does not require special theorems for its interpretation.

  6

  Freedom

  Philosophers and lawyers have bestowed much pain upon attempts to define the concept of freedom or liberty. It can hardly be maintained that these endeavors have been successful.

  The concept of freedom makes sense only as far as it refers to interhuman relations. There were authors who told stories about an original—natural—freedom which man was supposed to have enjoyed in a fabulous state of nature that preceded the establishment of social relations. Yet such mentally and economically self-sufficient individuals or families, roaming about the country, were only free as long as they did not run into a stronger fellow’s way. In the pitiless biological competition the stronger was always right, and the weaker was left no choice except unconditional surrender. Primitive man was certainly not born free.

  Only within the frame of a social system can a meaning be attached to the term freedom. As a praxeological term, freedom refers to the sphere within which an acting individual is in a position to choose between alternative modes of action. A man is free in so far as he is permitted to choose ends and the means to be used for the attainment of those ends. A man’s freedom is most rigidly restricted by the laws of nature as well as by the laws of praxeology. He cannot attain ends which are incompatible with one another. If he chooses to indulge in gratifications that produce definite effects upon the functioning of his body or his mind, he must put up with these consequences. It would be inexpedient to say that man is not free because he cannot enjoy the pleasures of indulgence in certain drugs without being affected by their inevitable results, commonly considered as highly undesirable. While this is admitted by and large by all reasonable people, there is no such unanimity with regard to the appreciation of the laws of praxeology.

  Man cannot have both the advantages derived from peaceful cooperation under the principle of the division of labor within society and the licence of embarking upon conduct that is bound to disintegrate society. He must choose between the observance of certain rules that make life within society possible and the poverty and insecurity of the “dangerous life” in a state of perpetual warfare among independent individuals. This is no less rigid a law determining the outcome of all human action than are the laws of physics.

  Yet there is a far-reaching difference between the sequels resulting from a disregard of the laws of nature and those resulting from a disregard of the laws of praxeology. Of course, both categories of law take care of themselves without requiring any enforcement on the part of man. But the effects of a choice made by an individual are different. A man who absorbs poison harms himself alone. But a man who chooses to resort to robbery upsets the whole social order. While he alone enjoys the short-term gains derived from his action, the disastrous long-term effects harm all the people. His deed is a crime because it has detrimental effects on his fellow men. If society were not to prevent such conduct, it would soon become general and put an end to social cooperation and all the boons the latter confers upon everybody.

  In order to establish and to preserve social cooperation and civilization, measures are needed to prevent asocial individuals from committing acts that are bound to undo all that man has accomplished in his progress from the Neanderthal level. In order to preserve the state of affairs in which there is protection of the individual against the unlimited tyranny of stronger and smarter fellows, an institution is needed that curbs all antisocial elements. Peace—the absence of perpetual fighting by everyone against everyone—can be attained only by the establishment of a system in which the power to resort to violent action is monopolized by a social apparatus of compulsion and coercion and the application of this power in any individual case is regulated by a set of rules—the man-made laws as distinguished both from the laws of nature and those of praxeology. The essential implement of a social system is the operation of such an apparatus commonly called government.

  The concepts of freedom and bondage make sense only when referring to the way in which government operates. It would be highly inexpedient and misleading to say that a man is not free because, if he wants to stay alive, his power to choose between a drink of water and one of potassium cyanide is restricted by nature. It would be no less inconvenient to call a man unfree because the law imposes sanctions upon his desire to kill another man and because the police and the penal courts enforce them. As far as the government—the social apparatus of compulsion and oppression—confines the exercise of its violence and the threat of such violence to the suppression and prevention of antisocial action, there prevails what reasonably and meaningfully can be called liberty. What is restrained is merely conduct that is bound to disintegrate social cooperation and civilization, thus throwing all people back to conditions that existed at the time Homo sapiens emerged from the purely animal existence of its nonhuman ancestors. Such coercion does not substantially restrict man’s power to choose. Even if there were no government enforcing man-made laws, the individual could not have both the advantages derived from the existence of social cooperation on the one hand, and, on the other, the pleasures of freely indulging in the rapacious animal instincts of aggression.

  In the market economy, the laissez-faire type of social organization, there is a sphere within which the individual is free to choose between various modes of acting without being restrained by the threat of being punished. If, however, the government does more than protect people against violent or fraudulent aggression on the part of antisocial individuals, it reduces the sphere of the individual’s freedom to act beyond the degree to which it is restricted by praxeological law. Thus we may define freedom as that state of affairs in which the individual’s discretion to choose is not constrained by governmental violence beyond the margin within which the praxeological law restricts it anyway.

  This is what is meant if one defines freedom as the condition of an individual within the frame of the market economy. He is free in the sense that the laws and the government do not force him to renounce his autonomy and self-determination to a greater extent than the inevitable praxeological law does. What he foregoes is only the animal freedom of living without any regard to the existence of other specimens of his species. What the social apparatus of compulsion and coercion achieves is that individuals, whom malice, short-sightedness or mental inferiority prevent from realizing that by indulging in acts that are destroying society they are hurting themselves and all other human beings, are compelled to avoid such acts.

  From this point of view one has to deal with the often-raised problem of whether conscription and the levy of taxes mean a restriction of freedom. If the principles of the market economy were acknowledged by all people all over the world, there would not be any reason to wage war and the individual states could live in undisturbed peace.16 But as conditions are in our age, a free nation is continually threatened by the aggressive schemes of totalitarian autocracies. If it wants to preserve its freedom, it must be prepared to defend its independence. If the government of a free country forces every citizen to cooperate fully in its designs to repel the aggressors and every able-bodied man to join the armed forces, it does not impose upon the individual a duty that would step beyond the tasks the praxeological law dictates. In a world full of unswerving aggressors and enslavers, integral unconditional pacifism is tantamount to unconditional surrender to the most ruthless oppressors. He who wants to remain free, must fight unto death those who are intent upon depriving him of his freedom. As isolated attempts on the part of each individual to resist are doomed to failure, the only workable way is to organize resistance by the government. The essential task of government is defense of the social system not only against domestic gangsters but also against external foes. He who in our age opposes armaments and conscription is, perhaps unbeknown to himself, an abettor of those aiming at the enslavement of all.

  The maintenance of a government apparatus of courts, police officers, prisons, and of armed forces requires considerable expenditure. To levy taxes for these purposes is fully compatible with the freedom the individual enjoys in a free market economy. To assert this does not, of course, amount to a justification of the confiscatory and discriminatory taxation methods practiced today by the self-styled progressive governments. There is need to stress this fact, because in our age of interventionism and the steady “progress” toward totalitarianism the governments employ the power to tax for the destruction of the market economy.

  Every step a government takes beyond the fulfillment of its essential functions of protecting the smooth operation of the market economy against aggression, whether on the part of domestic or foreign disturbers, is a step forward on a road that directly leads into the totalitarian system where there is no freedom at all.

  Liberty and freedom are the conditions of man within a contractual society. Social cooperation under a system of private ownership of the factors of production means that within the range of the market the individual is not bound to obey and to serve an overload. As far as he gives and serves other people, he does so of his own accord in order to be rewarded and served by the receivers. He exchanges goods and services, he does not do compulsory labor and does not pay tribute. He is certainly not independent. He depends on the other members of society. But this dependence is mutual. The buyer depends on the seller and the seller on the buyer.

  The main concern of many writers of the nineteenth and twentieth centuries was to misrepresent and to distort this obvious state of affairs. The workers, they said, are at the mercy of their employers. Now, it is true that the employer has the right to fire the employee. But if he makes use of this right in order to indulge in his whims, he hurts his own interests. It is to his own disadvantage if he discharges a better man in order to hire a less efficient one. The market does not directly prevent anybody from arbitrarily inflicting harm on his fellow citizens; it only puts a penalty upon such conduct. The shopkeeper is free to be rude to his customers provided he is ready to bear the consequences. The consumers are free to boycott a purveyor provided they are ready to pay the costs. What impels every man to the utmost exertion in the service of his fellow men and curbs innate tendencies toward arbitrariness and malice is, in the market, not compulsion and coercion on the part of gendarmes, hangmen, and penal courts; it is self-interest. The member of a contractual society is free because he serves others only in serving himself. What restrains him is only the inevitable natural phenomenon of scarcity. For the rest he is free in the range of the market.

  There is no kind of freedom and liberty other than the kind which the market economy brings about. In a totalitarian hegemonic society the only freedom that is left to the individual, because it cannot be denied to him, is the freedom to commit suicide.

  The state, the social apparatus of coercion and compulsion, is by necessity a hegemonic bond. If government were in a position to expand its power ad libitum, it could abolish the market economy and substitute for it all-around totalitarian socialism. In order to prevent this, it is necessary to curb the power of government. This is the task of all constitutions, bills of rights, and laws. This is the meaning of all struggles which men have fought for liberty.

  The detractors of liberty are in this sense right in calling it a “bourgeois” issue and in blaming the rights guaranteeing liberty for being negative. In the realm of state and government, liberty means restraint imposed upon the exercise of the police power.

  There would be no need to dwell upon this obvious fact if the champions of the abolition of liberty had not purposely brought about a semantic confusion. They realized that it was hopeless for them to fight openly and sincerely for restraint and servitude. The notions liberty and freedom had such prestige that no propaganda could shake their popularity. Since time immemorial in the realm of Western civilization liberty has been considered as the most precious good. What gave to the West its eminence was precisely its concern about liberty, a social ideal foreign to the oriental peoples. The social philosophy of the Occident is essentially a philosophy of freedom. The main content of the history of Europe and the communities founded by European emigrants and their descendants in other parts of the world was the struggle for liberty. “Rugged” individualism is the signature of our civilization. No open attack upon the freedom of the individual had any prospect of success.

  Thus the advocates of totalitarianism chose other tactics. They reversed the meaning of words. They call true or genuine liberty the condition of the individuals under a system in which they have no right other than to obey orders. In the United States, they call themselves true liberals because they strive after such a social order. They call democracy the Russian methods of dictatorial government. They call the labor union methods of violence and coercion “industrial democracy.” They call freedom of the press a state of affairs in which only the government is free to publish books and newspapers. They define liberty as the opportunity to do the “right” things, and, of course, they arrogate to themselves the determination of what is right and what is not. In their eyes government omnipotence means full liberty. To free the police power from all restraints is the true meaning of their struggle for freedom.

  The market economy, say these self-styled liberals, grants liberty only to a parasitic class of exploiters, the bourgeoisie. These scoundrels enjoy the freedom to enslave the masses. The wage earner is not free; he must toil for the sole benefit of his masters, the employers. The capitalists appropriate to themselves what according to the inalienable rights of man should belong to the worker. Under socialism the worker will enjoy freedom and human dignity because he will no longer have to slave for a capitalist. Socialism means the emancipation of the common man, means freedom for all. It means, moreover, riches for all.

  These doctrines have been able to triumph because they did not encounter effective rational criticism. Some economists did a brilliant job in unmasking their crass fallacies and contradictions. But the public ignores the teachings of economics. The arguments advanced by average politicians and writers against socialism are either silly or irrelevant. It is useless to stand upon an alleged “natural” right of individuals to own property if other people assert that the foremost “natural” right is that of income equality. Such disputes can never be settled. It is beside the point to criticize nonessential, attendant features of the socialist program. One does not refute socialism by attacking the socialists’ stand on religion, marriage, birth control, and art. Moreover, in dealing with such matters the critics of socialism were often in the wrong.

  In spite of these serious shortcomings of the defenders of economic freedom it was impossible to fool all the people all the time about the essential features of socialism. The most fanatical planners were forced to admit that their projects involve the abolition of many freedoms people enjoy under capitalism and “plutodemocracy.” Pressed hard, they resorted to a new subterfuge. The freedom to be abolished, they emphasize, is merely the spurious “economic” freedom of the capitalists that harms the common man. Outside the “economic sphere” freedom will not only be fully preserved, but considerably expanded. “Planning for Freedom” has lately become the most popular slogan of the champions of totalitarian government and the Russification of all nations.

  The fallacy of this argument stems from the spurious distinction between two realms of human life and action, entirely separated from one another, viz., the “economic” sphere and the “noneconomic” sphere. With regard to this issue there is no need to add anything to what has been said in the preceding parts of this book. However, there is another point to be stressed.

  Freedom, as people enjoyed it in the democratic countries of Western civilization in the years of the old liberalism’s triumph, was not a product of constitutions, bills of rights, laws, and statutes. Those documents aimed only at safeguarding liberty and freedom, firmly established by the operation of the market economy, against encroachments on the part of officeholders. No government and no civil law can guarantee and bring about freedom otherwise than by supporting and defending the fundamental institutions of the market economy. Government means always coercion and compulsion and is by necessity the opposite of liberty. Government is a guarantor of liberty and is compatible with liberty only if its range is adequately restricted to the preservation of what is called economic freedom. Where there is no market economy, the best-intentioned provisions of constitutions and laws remain a dead letter.

  The freedom of man under capitalism is an effect of competition. The worker does not depend on the good graces of an employer. If his employer discharges him, he finds another employer.17 The consumer is not at the mercy of the shopkeeper. He is free to patronize another shop if he likes. Nobody must kiss other people’s hands or fear their disfavor. Interpersonal relations are businesslike. The exchange of goods and services is mutual; it is not a favor to sell or to buy, it is a transaction dictated by selfishness on both sides.

  It is true that in his capacity as a producer every man depends either directly—e.g., the entrepreneur—or indirectly—e.g., the hired worker—on the demands of the consumers. However, this dependence upon the supremacy of the consumers is not unlimited. If a man has a weighty reason for defying the sovereignty of the consumers, he can try it. There is in the range of the market a very substantial and effective right to resist oppression. Nobody is forced to go into the liquor industry or into a gun factory if his conscience objects. He may have to pay a price for his conviction; there are in this world no ends the attainment of which is gratuitous. But it is left to a man’s own decision to choose between a material advantage and the call of what he believes to be his duty. In the market economy the individual alone is the supreme arbiter in matters of his satisfaction.18

  Capitalist society has no means of compelling a man to change his occupation or his place of work other than to reward those complying with the wants of the consumers by higher pay. It is precisely this kind of pressure which many people consider as unbearable and hope to see abolished under socialism. They are too dull to realize that the only alternative is to convey to the authorities full power to determine in what branch and at what place a man should work.

  In his capacity as consumer man is no less free. He alone decides what is more and what is less important for him. He chooses how to spend his money according to his own will.

  The substitution of economic planning for the market economy removes all freedom and leaves to the individual merely the right to obey. The authority directing all economic matters controls all aspects of a man’s life and activities. It is the only employer. All labor becomes compulsory labor because the employee must accept what the chief deigns to offer him. The economic tsar determines what and how much of each the consumer may consume. There is no sector of human life in which a decision is left to the individual’s value judgments. The authority assigns a definite task to him, trains him for his job, and employs him at the place and in the manner it deems expedient.

  As soon as the economic freedom which the market economy grants to its members is removed, all political liberties and bills of rights become humbug. Habeas corpus and trial by jury are a sham if, under the pretext of economic expediency, the authority has full power to relegate every citizen it dislikes to the arctic or to a desert and to assign him “hard labor” for life. Freedom of the press is a mere blind if the authority controls all printing offices and paper plants. And so are all the other rights of men.

  A man is free as far as he shapes his life according to his own plans. A man whose fate is determined by the plans of a superior authority, in which the exclusive power to plan is vested, is not free in the sense in which this term “free” was used and understood by all people until the semantic revolution of our day brought about a confusion of tongues.

  7

  Inequality of Wealth and Income

  The inequality of individuals with regard to wealth and income is an essential feature of the market economy.

  The fact that freedom is incompatible with equality of wealth and income has been stressed by many authors. There is no need to enter into an examination of the emotional arguments advanced in these writings. Neither is it necessary to raise the question of whether the renunciation of liberty could in itself guarantee the establishment of equality of wealth and income and whether or not a society could subsist on the basis of such an equality. Our task is merely to describe the role inequality plays in the framework of the market society.

  In the market society direct compulsion and coercion are practiced only for the sake of preventing acts detrimental to social cooperation. For the rest individuals are not molested by the police power. The law-abiding citizen is free from the interference of jailers and hangmen. What pressure is needed to impel an individual to contribute his share to the cooperative effort of production is exercised by the price structure of the market. This pressure is indirect. It puts on each individual’s contribution a premium graduated according to the value which the consumers attach to this contribution. In rewarding the individual’s effort according to its value, it leaves to everybody the choice between a more or less complete utilization of his own faculties and abilities. This method cannot, of course, eliminate the disadvantages of inherent personal inferiority. But it provides an incentive to everybody to exert his faculties and abilities to the utmost.

  The only alternative to this financial pressure as exercised by the market is direct pressure and compulsion as exercised by the police power. The authorities must be entrusted with the task of determining the quantity and quality of work that each individual is bound to perform. As individuals are unequal with regard to their abilities, this requires an examination of their personalities on the part of the authorities. The individual becomes an inmate of a penitentiary, as it were, to whom a definite task is assigned. If he fails to achieve what the authorities have ordered him to do, he is liable to punishment.

  It is important to realize in what the difference consists between direct pressure exercised for the prevention of crime and that exercised for the extortion of a definite performance. In the former case all that is required from the individual is to avoid a certain mode of conduct, precisely determined by law. As a rule it is easy to establish whether or not this interdiction has been observed. In the second case the individual is liable to accomplish a definite task; the law forces him toward an indefinite action, the determination of which is left to the decision of the executive power. The individual is bound to obey whatever the administration orders him to do. Whether or not the command issued by the executive power was adequate to his forces and faculties and whether or not he has complied with it to the best of his abilities is extremely difficult to establish. Every citizen is with regard to all aspects of his personality and with regard to all manifestations of his conduct subject to the decisions of the authorities. In the market economy in a trial before a penal court the prosecutor is obliged to produce sufficient evidence that the defendant is guilty. But in matters of the performance of compulsory work it devolves upon the defendant to prove that the task assigned to him was beyond his abilities or that he has done all that can be expected of him. The administrators combine in their persons the offices of the legislator, the executor of the law, the public prosecutor, and the judge. The defendants are entirely at their mercy. This is what people have in mind when speaking of lack of freedom.

  No system of the social division of labor can do without a method that makes individuals responsible for their contributions to the joint productive effort. If this responsibility is not brought about by the price structure of the market and the inequality of wealth and income it begets, it must be enforced by the methods of direct compulsion as practiced by the police.

  8

  Entrepreneurial Profit and Loss

  Profit, in a broader sense, is the gain derived from action; it is the increase in satisfaction (decrease in uneasiness) brought about; it is the difference between the higher value attached to the result attained and the lower value attached to the sacrifices made for its attainment; it is, in other words, yield minus costs. To make profit is invariably the aim sought by any action. If an action fails to attain the ends sought, yield either does not exceed costs or lags behind costs. In the latter case the outcome means a loss, a decrease in satisfaction.

  Profit and loss in this original sense are psychic phenomena and as such not open to measurement and a mode of expression which could convey to other people precise information concerning their intensity. A man can tell a fellow man that a suits him better than b; but he cannot communicate to another man, except in vague and indistinct terms, how much the satisfaction derived from a exceeds that derived from b.

  In the market economy all those things that are bought and sold against money are marked with money prices. In the monetary calculus profit appears as a surplus of money received over money expended and loss as a surplus of money expended over money received. Profit and loss can be expressed in definite amounts of money. It is possible to ascertain in terms of money how much an individual has profited or lost. However, this is not a statement about this individual’s psychic profit or loss. It is a statement about a social phenomenon, about the individual’s contribution to the societal effort as it is appraised by the other members of society. It does not tell us anything about the individual’s increase or decrease in satisfaction or happiness. It merely reflects his fellow men’s evaluation of his contribution to social cooperation. This evaluation is ultimately determined by the efforts of every member of society to attain the highest possible psychic profit. It is the resultant of the composite effect of all these people’s subjective and personal value judgments as manifested in their conduct on the market. But it must not be confused with these value judgments as such.

  We cannot even think of a state of affairs in which people act without the intention of attaining psychic profit and in which their actions result neither in psychic profit nor in psychic loss.19 In the imaginary construction of an evenly rotating economy there are neither money profits nor money losses. But every individual derives a psychic profit from his actions, or else he would not act at all. The farmer feeds and milks his cows and sells the milk because he values the things he can buy against the money thus earned more highly than the costs expended. The absence of money profits or losses in such an evenly rotating system is due to the fact that, if we disregard the differences brought about by the higher valuation of present goods as compared with future goods, the sum of the prices of all complementary factors needed for production precisely equals the price of the product.

  In the changing world of reality differences between the sum of the prices of the complementary factors of production and the prices of the products emerge again and again. It is these differences that bring about money profits and money losses. As far as such changes affect the sellers of labor and those of the original nature-given factors of production and of the capitalists as moneylenders, we will deal with them later. At this point we are dealing with the promoters’ entrepreneurial profit and loss. It is this problem that people have in mind when employing the terms profit and loss in mundane speech.

  Like every acting man, the entrepreneur is always a speculator. He deals with the uncertain conditions of the future. His success or failure depends on the correctness of his anticipation of uncertain events. If he fails in his understanding of things to come, he is doomed. The only source from which an entrepreneur’s profits stem is his ability to anticipate better than other people the future demand of the consumers. If everybody is correct in anticipating the future state of the market of a certain commodity, its price and the prices of the complementary factors of production concerned would already today be adjusted to this future state. Neither profit nor loss can emerge for those embarking upon this line of business.

  The specific entrepreneurial function consists in determining the employment of the factors of production. The entrepreneur is the man who dedicates them to special purposes. In doing so he is driven solely by the selfish interest in making profits and in acquiring wealth. But he cannot evade the law of the market. He can succeed only by best serving the consumers. His profit depends on the approval of his conduct by the consumers.

  One must not confuse entrepreneurial profit and loss with other factors affecting the entrepreneur’s proceeds.

  The entrepreneur’s technological ability does not affect the specific entrepreneurial profit or loss. As far as his own technological activities contribute to the returns earned and increase his net income, we are confronted with a compensation for work rendered. It is wages paid to the entrepreneur for his labor. Neither does the fact that not every process of production succeeds technologically in bringing about the product expected influence the specific entrepreneurial profit or loss. Such failures are either avoidable or unavoidable. In the first case they are due to the technologically inefficient conduct of affairs. Then the losses resulting are to be debited to the entrepreneur’s personal insufficiency, i.e., either to his lack of technological ability or to his lack of the ability to hire adequate helpers. In the second case the failures are due to the fact that the present state of technological knowledge prevents us from fully controlling the conditions on which success depends. This deficiency may be caused either by incomplete knowledge concerning the conditions of success or by ignorance of methods for controlling fully some of the known conditions. The price of the factors of production takes into account this unsatisfactory state of our knowledge and technological power. The price of arable land, for instance, takes into full account the fact that there are bad harvests, as it is determined by the anticipated average yield. The fact that the bursting of bottles reduces the output of champagne does not affect entrepreneurial profit and loss. It is merely one of the factors determining the cost of production and the price of champagne.20

  Accidents affecting the process of production, the means of production, or the products while they are still in the hands of the entrepreneur are an item in the bill of production costs. Experience, which conveys to the businessman all other technological knowledge, provides him also with information about the average reduction in the quantity of physical output which such accidents are likely to bring about. By opening contingency reserves, he converts their effects into regular costs of production. With regard to contingencies the expected incidence of which is too rare and too irregular to be dealt with in this way by individual firms of normal size, concerted action on the part of sufficiently large groups of firms takes care of the matter. The individual firms cooperate under the principle of insurance against damage caused by fire, flood, or other similar contingencies. Then an insurance premium is substituted for an appropriation to a contingency reserve. At any rate, the risks incurred by accidents do not introduce uncertainty into the conduct of the technological processes.21 If an entrepreneur neglects to deal with them duly, he gives proof of his technical insufficiency. The losses thus incurred are to be debited to bad techniques applied, not to his entrepreneurial function.

  The elimination of those entrepreneurs who fail to give to their enterprises the adequate degree of technological efficiency or whose technological ignorance vitiates their cost calculation is effected on the market in the same way in which those deficient in the performance of the specific entrepreneurial functions are eliminated. It may happen that an entrepreneur is so successful in his specific entrepreneurial function that he can compensate losses caused by his technological failure. It may also happen that an entrepreneur can counterbalance losses due to failure in his entrepreneurial function by the advantages derived from his technological superiority or from the differential rent yielded by the higher productivity of the factors of production he employs. But one must not confuse the various functions which are combined in the conduct of a business unit. The technologically more efficient entrepreneur earns higher wage rates or quasi-wage rates than the less efficient in the same way in which the more efficient worker earns more than the less efficient. The more efficient machine and the more fertile soil produce higher physical returns per unit of costs expended; they yield a differential rent when compared with the less efficient machine and the less fertile soil. The higher wage rates and the higher rent are, ceteris paribus, the corollary of higher physical output. But the specific entrepreneurial profits and losses are not produced by the quantity of physical output. They depend on the adjustment of output to the most urgent wants of the consumers. What produces them is the extent to which the entrepreneur has succeeded or failed in anticipating the future—necessarily uncertain—state of the market.

  The entrepreneur is also jeopardized by political dangers. Government policies, revolutions, and wars can damage or annihilate his enterprise. Such events do not affect him alone; they affect the market economy as such and all individuals, although not all of them to the same extent. For the individual entrepreneur they are data which he cannot alter. If he is efficient, he will anticipate them in time. But it is not always possible for him to adjust his operations in such a way as to avoid damage. If the dangers expected concern only a part of the territory which is accessible to his entrepreneurial activities, he can avoid operating in the menaced areas and can prefer countries in which the danger is less imminent. But if he cannot emigrate, he must stay where he is. If all entrepreneurs were fully convinced that the total victory of Bolshevism was impending, they would nevertheless not abandon their entrepreneurial activities. The expectation of imminent expropriation will impel the capitalists to consume their funds. The entrepreneurs will be forced to adjust their plans to the market situation created by such capital consumption and the threatened nationalization of their shops and plants. But they will not stop operating. If some entrepreneurs go out of business, others will take their place—newcomers or old entrepreneurs expanding the size of their enterprises. In the market economy there will always be entrepreneurs. Policies hostile to capitalism may deprive the consumers of the greater part of the benefits they would have reaped from unhampered entrepreneurial activities. But they cannot eliminate the entrepreneurs as such if they do not entirely destroy the market economy.

  The ultimate source from which entrepreneurial profit and loss are derived is the uncertainty of the future constellation of demand and supply.

  If all entrepreneurs were to anticipate correctly the future state of the market, there would be neither profits nor losses. The prices of all the factors of production would already today be fully adjusted to tomorrow’s prices of the products. In buying the factors of production the entrepreneur would have to expend (with due allowance for the difference between the prices of present goods and future goods) no less an amount than the buyers will pay him later for the product. An entrepreneur can make a profit only if he anticipates future conditions more correctly than other entrepreneurs. Then he buys the complementary factors of production at prices the sum of which, including allowance for the time difference, is smaller than the price at which he sells the product.

  If we want to construct the image of changing economic conditions in which there are neither profits nor losses, we must resort to an unrealizable assumption: perfect foresight of all future events on the part of all individuals. If those primitive hunters and fishermen to whom it is customary to ascribe the first accumulation of produced factors of production had known in advance all the future vicissitudes of human affairs, and if they and all their descendants until the last day of judgment, equipped with the same omniscience, had appraised all factors of production accordingly, entrepreneurial profits and losses would never have emerged. Entrepreneurial profits and losses are created through the discrepancy between the expected prices and the prices later really fixed on the markets. It is possible to confiscate profits and to transfer them from the individuals to whom they have accrued to other people. But neither profits nor losses can ever disappear from a changing world not populated solely with omniscient people.

  9

  Entrepreneurial Profits and Losses in a Progressing Economy

  In the imaginary construction of a stationary economy the total sum of all entrepreneurs’ profits equals the total sum of all entrepreneurs’ losses. What one entrepreneur profits is in the total economic system counterbalanced by another entrepreneur’s loss. The surplus which all the consumers together expend for the acquisition of a certain commodity is counterbalanced by the reduction in their expenditure for the acquisition of other commodities.22

  It is different in a progressing economy.

  We call a progressing economy an economy in which the per capita quota of capital invested is increasing. In using this term we do not imply value judgments. We adopt neither the “materialistic” view that such a progression is good nor the “idealistic” view that it is bad or at least irrelevant from a “higher point of view.” Of course, it is a well-known fact that the immense majority of people consider the consequences of progress in this sense as the most desirable state of affairs and yearn for conditions which can be realized only in a progressing economy.

  In the stationary economy the entrepreneurs, in the pursuit of their specific functions, cannot achieve anything other than to withdraw factors of production, provided that they are still convertible,23 from one line of business in order to employ them in another line, or to direct the restoration of the equivalent of capital goods used up in the course of production processes toward the expansion of certain branches of industry at the expense of other branches. In the progressing economy the range of entrepreneurial activities includes, moreover, the determination of the employment of the additional capital goods accumulated by new savings. The injection of these additional capital goods is bound to increase the total sum of the income produced, i.e., of that supply of consumers’ goods which can be consumed without diminishing the capital available and thereby without reducing the output of future production. The increase of income is effected either by an expansion of production without altering the technological methods of production or by an improvement in technological methods which would not have been feasible under the previous conditions of a less ample supply of capital goods.

  It is out of this additional wealth that the surplus of the total sum of entrepreneurial profits over the total sum of entrepreneurial losses flows. But it can be easily demonstrated that this surplus can never exhaust the total increase in wealth brought about by economic progress. The laws of the market divide this additional wealth between the entrepreneurs and the suppliers of labor and those of certain material factors of production in such a way that the lion’s share goes to the nonentrepreneurial groups.

  First of all we must realize that entrepreneurial profits are not a lasting phenomenon but only temporary. There prevails an inherent tendency for profits and losses to disappear. The market is always moving toward the emergence of the final prices and the final state of rest. If new changes in the data were not to interrupt this movement and not to create the need for a new adjustment of production to the altered conditions, the prices of all complementary factors of production would—due allowance being made for time preference—finally equal the price of the product, and nothing would be left for profits or losses. In the long run every increase of productivity benefits exclusively the workers and some groups of the owners of land and of capital goods.

  In the groups of the owners of capital goods there are benefited:

  • 1. Those whose saving has increased the quantity of capital goods available. They own this additional wealth, the outcome of their restraint in consuming.
  • 2. The owners of those capital goods already previously existing which, thanks to the improvement in technological methods of production, are now better utilized than before. Such gains are, of course, temporary only. They are bound to disappear as they cause a tendency toward an intensified production of the capital goods concerned.

  On the other hand, the increase in the quantity of capital goods available lowers the marginal productivity of these capital goods; it thus brings about a fall in the prices of the capital goods and thereby hurts the interests of all those capitalists who did not share at all or not sufficiently in the process of saving and the accumulation of the additional supply of capital goods.

  In the group of the landowners all those are benefited for whom the new state of affairs results in a higher productivity of their farms, forests, fisheries, mines, and so on. On the other hand, all those are hurt whose property may become submarginal on account of the higher return yielded by the land owned by those benefited.

  In the group of labor all derive a lasting gain from the increase in the marginal productivity of labor. But, on the other hand, in the short run some may suffer disadvantages. These are people who were specialized in the performance of work which becomes obsolete as a result of technological improvement and are fitted only for jobs in which—in spite of the general rise in wage rates—they earn less than before.

  All these changes in the prices of the factors of production begin immediately with the initiation of the entrepreneurial actions designed to adjust the processes of production to the new state of affairs. In dealing with this problem as with the other problems of changes in the market data, we must guard ourselves against the popular fallacy of drawing a sharp line between short-run and long-run effects. What happens in the short run is precisely the first stages of the chain of successive transformations which tend to bring about the long-run effects. The long-run effect is in our case the disappearance of entrepreneurial profits and losses. The short-run effects are the preliminary stages of this process of elimination which finally, if not interrupted by a further change in the data, would result in the emergence of the evenly rotating economy.

  It is necessary to comprehend that the very appearance of an excess in the total amount of entrepreneurial profits over the total amount of entrepreneurial losses depends upon the fact that this process of the elimination of entrepreneurial profit and loss begins at the same time as the entrepreneurs begin to adjust the complex of production activities to the changed data. There is never in the whole sequence of events an instant in which the advantages derived from the increase in the amount of capital available and from technical improvements benefit the entrepreneurs only. If the wealth and the income of the other strata were to remain unaffected, these people could buy the additional products only by restricting their purchases of other products accordingly. Then the profits of one group of entrepreneurs would exactly equal the losses incurred by other groups.

  What happens is this: The entrepreneurs embarking upon the utilization of the newly accumulated capital goods and the improved technological methods of production are in need of complementary factors of production. Their demand for these factors is a new additional demand which must raise their prices. Only as far as this rise in prices and wage rates occurs, are the consumers in a position to buy the new products without curtailing the purchase of other goods. Only so far can a surplus of the total sum of all entrepreneurial profits over all entrepreneurial losses come into existence.

  The vehicle of economic progress is the accumulation of additional capital goods by means of saving and improvement in technological methods of production the execution of which is almost always conditioned by the availability of such new capital. The agents of progress are the promoting entrepreneurs intent upon profiting by means of adjusting the conduct of affairs to the best possible satisfaction of the consumers. In the performance of their projects for the realization of progress they are bound to share the benefits derived from progress with the workers and also with a part of the capitalists and landowners and to increase the portion allotted to these people step by step until their own share melts away entirely.

  From this it becomes evident that it is absurd to speak of a “rate of profit” or a “normal rate of profit” or an “average rate of profit.” Profit is not related to or dependent on the amount of capital employed by the entrepreneur. Capital does not “beget” profit. Profit and loss are entirely determined by the success or failure of the entrepreneur to adjust production to the demand of the consumers. There is nothing “normal” in profits and there can never be an “equilibrium” with regard to them. Profit and loss are, on the contrary, always a phenomenon of a deviation from “normalcy,” of changes unforeseen by the majority, and of a “disequilibrium.” They have no place in an imaginary world of normalcy and equilibrium. In a changing economy there prevails always an inherent tendency for profits and losses to disappear. It is only the emergence of new changes which revives them again. Under stationary conditions the “average rate” of profits and losses is zero. An excess of the total amount of profits over that of losses is a proof of the fact that there is economic progress and an improvement in the standard of living of all strata of the population. The greater this excess is, the greater is the increment in general prosperity.

  Many people are utterly unfit to deal with the phenomenon of entrepreneurial profit without indulging in envious resentment. In their eyes the source of profit is exploitation of the wage earners and the consumers, i.e., an unfair reduction in wage rates and a no less unfair increase in the prices of the products. By rights there should not be any profits at all.

  Economics is indifferent with regard to such arbitrary value judgments. It is not interested in the problem of whether profits are to be approved or condemned from the point of view of an alleged natural law and of an alleged eternal and immutable code of morality about which personal intuition or divine revelation are supposed to convey precise information. Economics merely establishes the fact that entrepreneurial profits and losses are essential phenomena of the market economy. There cannot be a market economy without them. It is certainly possible for the police to confiscate all profits. But such a policy would by necessity convert the market economy into a senseless chaos. Man has, there is no doubt, the power to destroy many things, and he has made in the course of history ample use of this faculty. He could destroy the market economy too.

  If those self-styled moralists were not blinded by their envy, they would not deal with profit without dealing simultaneously with its corollary, loss. They would not pass over in silence the fact that the preliminary conditions of economic improvement are an achievement of those whose saving accumulates the additional capital goods and of the inventors, and that the utilization of these conditions for the realization of economic improvement is effected by the entrepreneurs. The rest of the people do not contribute to progress, but they are benefited by the horn of plenty which other people’s activities pour upon them.

  What has been said about the progressing economy is mutatis mutandis to be applied to the conditions of a retrogressing economy, i.e., an economy in which the per capita quota of capital invested is decreasing. In such an economy there is an excess in the total sum of entrepreneurial losses over that of profits. People who cannot free themselves from the fallacy of thinking in concepts of collectives and whole groups might raise the question of how in such a retrogressing economy there could be any entrepreneurial activity at all. Why should anybody embark upon an enterprise if he knows in advance that mathematically his chances of earning profits are smaller than those of suffering losses? However, this mode of posing the problem is fallacious. Like everyone else, entrepreneurs do not act as members of a class, but as individuals. No entrepreneur bothers a whit about the fate of the totality of the entrepreneurs. It is irrelevant to the individual entrepreneur what happens to other people whom theories, according to a certain characteristic, assign to the same class they assign him. In the living, perpetually changing market society there are always profits to be earned by efficient entrepreneurs. The fact that in a retrogressing economy the total amount of losses exceeds the total amount of profits does not deter a man who has confidence in his own superior efficiency. A prospective entrepreneur does not consult the calculus of probability which is of no avail in the field of understanding. He trusts his own ability to understand future market conditions better than his less gifted fellow men.

  The entrepreneurial function, the striving of entrepreneurs after profits, is the driving power in the market economy. Profit and loss are the devices by means of which the consumers exercise their supremacy on the market. The behavior of the consumers makes profits and losses appear and thereby shifts ownership of the means of production from the hands of the less efficient into those of the more efficient. It makes a man the more influential in the direction of business activities the better he succeeds in serving the consumers. In the absence of profit and loss the entrepreneurs would not know what the most urgent needs of the consumers are. If some entrepreneurs were to guess it, they would lack the means to adjust production accordingly.

  Profit-seeking business is subject to the sovereignty of the consumers, while nonprofit institutions are sovereign unto themselves and not responsible to the public. Production for profit is necessarily production for use, as profits can only be earned by providing the consumers with those things they most urgently want to use.

  The moralists’ and sermonizers’ critique of profits misses the point. It is not the fault of the entrepreneurs that the consumers—the people, the common man—prefer liquor to Bibles and detective stories to serious books, and that governments prefer guns to butter. The entrepreneur does not make greater profits in selling “bad” things than in selling “good” things. His profits are the greater the better he succeeds in providing the consumers with those things they ask for most intensely. People do not drink intoxicating beverages in order to make the “alcohol capital” happy, and they do not go to war in order to increase the profits of the “merchants of death.” The existence of the armaments industries is a consequence of the warlike spirit, not its cause.

  It is not the business of the entrepreneurs to make people substitute sound ideologies for unsound. It rests with the philosophers to change people’s ideas and ideals. The entrepreneur serves the consumers as they are today, however wicked and ignorant.

  We may admire those who abstain from making gains they could reap in producing deadly weapons or hard liquor. However, their laudable conduct is a mere gesture without any practical effects. Even if all entrepreneurs and capitalists were to follow their example, wars and dipsomania would not disappear. As was the case in the precapitalistic ages, governments would produce the weapons in their own arsenals and drinkers would distill their own liquor.

  The Moral Condemnation of Profit

  Profit is earned by the adjustment of the utilization of the human and material factors of production to changes in conditions. It is those benefited by this adjustment who, scrambling for the products concerned and offering and paying for them prices that exceed the costs expended by the seller, generate the profits. Entrepreneurial profit is not a “reward” granted by the customer to the supplier who served him better than the sluggish routinists; it is the result of the eagerness of the buyers to outbid others who are equally anxious to acquire a share of the limited supply.

  The dividends of corporations are popularly called profits. Actually they are interest on the capital invested plus that part of profits that is not ploughed back into the enterprise. If the enterprise does not operate successfully, either no dividends are paid or the dividends contain only interest on the whole or a part of the capital.

  Socialists and interventionists call profit and interest unearned income, the result of depriving the workers of a considerable part of the fruits of their effort. As they see it, the products come into existence through toiling as such and nothing else, and should by rights benefit the toilers alone.

  Yet bare labor produces very little if not aided by the employment of the outcome of previous saving and accumulation of capital. The products are the outgrowth of a cooperation of labor with tools and other capital goods directed by provident entrepreneurial design. The savers, whose saving accumulated and maintains the capital, and the entrepreneurs, who channel the capital into those employments in which it best serves the consumers, are no less indispensable for the process of production than the toilers. It is nonsensical to impute the whole product to the purveyors of labor and to pass over in silence the contribution of the purveyors of capital and of entrepreneurial ideas. What brings forth usable goods is not physical effort as such, but physical effort aptly directed by the human mind toward a definite goal. The greater (with the advance of general well-being) the role of capital goods, and the more efficient their utilization in the cooperation of the factors of production, the more absurd becomes the romantic glorification of the mere performing of manual routine jobs. The marvelous economic improvements of the last two hundred years were an achievement of the capitalists who provided the capital goods required and of the elite of technologists and entrepreneurs. The masses of the manual workers were benefited by changes which they not only did not generate but which, more often than not, they tried to cut short.

  Some Observations on the Underconsumption Bogey and on the Purchasing Power Argument

  In speaking of underconsumption, people mean to describe a state of affairs in which a part of the goods produced cannot be consumed because the people who could consume them are by their poverty prevented from buying them. These goods remain unsold or can be swapped only at prices not covering the cost of production. Hence various disarrangements and disturbances arise, the total complex of which is called economic depression.

  Now it happens again and again that entrepreneurs err in anticipating the future state of the market. Instead of producing those goods for which the demand of the consumers is most intense, they produce less urgently needed goods or things which cannot be sold at all. These inefficient entrepreneurs suffer losses while their more efficient competitors who anticipated the wishes of the consumers earn profits. The losses of the former group of entrepreneurs are not caused by a general abstention from buying on the part of the public; they are due to the fact that the public prefers to buy other goods.

  If it were true, as the underconsumption myth implies, that the workers are too poor to buy the products because the entrepreneurs and the capitalists unfairly appropriate to themselves what by rights should go to the wage earners, the state of affairs would not be altered. The “exploiters” are not supposed to exploit from sheer wantonness. They want, it is insinuated, to increase at the expense of the “exploited” either their own consumption or their own investments. They do not withdraw their booty from the universe. They spend it either in buying luxuries for their own household or in buying producers’ goods for the expansion of their enterprises. Of course, their demand is directed toward goods other than those the wage earners would have bought if the profits had been confiscated and distributed among them. Entrepreneurial errors with regard to the state of the market of various classes of commodities as created by such “exploitation” are in no way different from any other entrepreneurial shortcomings. Entrepreneurial errors result in losses for the inefficient entrepreneurs which are counterbalanced by the profits of the efficient entrepreneurs. They make business bad for some groups of industries and good for other groups. They do not bring about a general depression of trade.

  The underconsumption myth is baseless self-contradictory balderdash. Its reasoning crumbles away as soon as one begins to examine it. It is untenable even if one, for the sake of argument, accepts the “exploitation” doctrine as correct.

  The purchasing power argument runs in a slightly different manner. It contends that a rise in wage rates is a prerequisite of the expansion of production. If wage rates do not rise, there is no use for business to increase the quantity and to improve the quality of the goods produced. For the additional products would find no buyers or only such buyers as restrict their purchases of other goods. What is needed first for the realization of economic progress is to make wage rates rise continually. Government or labor union pressure and compulsion aiming at the enforcement of higher wage rates are the main vehicles of progress.

  As has been demonstrated above the emergence of an excess in the total sum of entrepreneurial profits over the total sum of entrepreneurial losses is inseparably bound up with the fact that a portion of the benefits derived from the increase in the quantity of capital goods available and from the improvement of technological procedures goes to the nonentrepreneurial groups. The rise in the prices of complementary factors of production, first among them wage rates, is neither a concession which the entrepreneurs willy-nilly must make to the rest of the people nor a clever device of the entrepreneurs in order to make profits. It is an unavoidable and necessary phenomenon in the chain of successive events which the endeavors of the entrepreneurs to make profits by adjusting the supply of the consumers’ goods to the new state of affairs are bound to bring about. The same process which results in an excess of entrepreneurial profits over losses causes first—i.e., before such an excess appears—the emergence of a tendency toward a rise in wage rates and in the prices of many material factors of production. And it is again the same process that would in the further course of events make this excess of profits over losses disappear, provided that no further changes, increasing the amount of capital goods available, were to occur. The excess of profits over losses is not a consequence of the rise in the prices of the factors of production. The two phenomena—the rise in the prices of the factors of production and the excess of profits over losses—are both steps in the process of adjustment of production to the increase in the quantity of capital goods and to the technological changes which the entrepreneurial actions actuate. Only to the extent that the other strata of the population are enriched by this adjustment can an excess of profits over losses temporarily come into being.

  The basic error of the purchasing power argument consists in misconstruing this causal relation. It turns things upside down when considering the rise in wage rates as the force bringing about economic improvement.

  We will discuss at a later stage of this book the consequences of the attempts of the governments and of organized labor violence to enforce wage rates higher than those determined by a nonhampered market.24 Here we must only add one more explanatory remark.

  When speaking of profits and losses, prices and wage rates, what we have in mind is always real profits and losses, real prices and real wage rates. It is the arbitrary interchange of money terms and real terms that has led many people astray. This problem too will be dealt with exhaustively in later chapters. Let us incidentally only mention the fact that a rise in real wage rates is compatible with a drop in nominal wage rates.

  10

  Promoters, Managers, Technicians, and Bureaucrats

  The entrepreneur hires the technicians, i.e., people who have the ability and the skill to perform definite kinds and quantities of work. The class of technicians includes the great inventors, the champions in the field of applied science, the constructors and designers as well as the performers of the most simple tasks. The entrepreneur joins their ranks as far as he himself takes part in the technical execution of his entrepreneurial plans. The technician contributes his own toil and trouble; but it is the entrepreneur qua entrepreneur who directs his labor toward definite goals. And the entrepreneur himself acts as a mandatary, as it were, of the consumers.

  The entrepreneurs are not omnipresent. They cannot themselves attend to the manifold tasks which are incumbent upon them. Adjustment of production to the best possible supplying of the consumers with the goods they are asking for most urgently does not merely consist in determining the general plan for the utilization of resources. There is, of course, no doubt that this is the main function of the promoter and speculator. But besides the great adjustments, many small adjustments are necessary too. Each of them may seem trifling and of little bearing upon the total result. But the cumulative effect of shortcomings in many of these minor matters can be such as to frustrate entirely the success of a correct solution of the great problems. At any rate, it is certain that every failure to handle the smaller problems results in a squandering of scarce factors of production and consequently in impairing the best possible satisfaction of the consumers.

  It is important to conceive in what respects the problem we have in mind differs from the technological tasks of the technicians. The execution of every project upon which the entrepreneur has embarked in making his decision with regard to the general plan of action requires a multiplicity of minute decisions. Each of these decisions must be effected in such a way as to prefer that solution of the problem which—without interfering with the designs of the general plan for the whole project—is the most economical one. It must avoid superfluous costs in the same way as does the general plan. The technician from his purely technological point of view either may not see any difference in the alternatives offered by various methods for the solution of such a detail or may give preference to one of these methods on account of its greater output in physical quantities. But the entrepreneur is actuated by the profit motive. This enjoins upon him the urge to prefer the most economical solution, i.e., that solution which avoids employing factors of production whose employment would impair the satisfaction of the more intensely felt wants of the consumers. He will prefer among the various methods, with regard to which the technicians are neutral, the one the application of which requires the smallest cost. He may reject the technicians’ suggestion to choose a more costly method securing a greater physical output if his calculation shows that the increase in output would not outweigh the increase in cost required. Not only in the great decisions and plans but no less in the daily decisions of small problems as they turn up in the current conduct of affairs, the entrepreneur must perform his task of adjusting production to the demand of the consumers as reflected in the prices of the market.

  Economic calculation as practiced in the market economy, and especially the system of double-entry bookkeeping, make it possible to relieve the entrepreneur of involvement in too much detail. He can devote himself to his great tasks without being entangled in a multitude of trifles beyond any mortal man’s range of sight. He can appoint assistants to whose solicitude he entrusts the care of subordinate entrepreneurial duties. And these assistants in their turn can be aided according to the same principle by assistants appointed for a smaller sphere of duties. In this way a whole managerial hierarchy can be built up.

  A manager is a junior partner of the entrepreneur, as it were, no matter what the contractual and financial terms of his employment are. The only relevant thing is that his own financial interests force him to attend to the best of his abilities to the entrepreneurial functions which are assigned to him within a limited and precisely determined sphere of action.

  It is the system of double-entry bookkeeping that makes the functioning of the managerial system possible. Thanks to it, the entrepreneur is in a position to separate the calculation of each part of his total enterprise in such a way that he can determine the role it plays within his whole enterprise. Thus he can look at each section as if it were a separate entity and can appraise it according to the share it contributes to the success of the total enterprise. Within this system of business calculation each section of a firm represents an integral entity, a hypothetical independent business, as it were. It is assumed that this section “owns” a definite part of the whole capital employed in the enterprise, that it buys from other sections and sells to them, that it has its own expenses and its own revenues, that its dealings result either in a profit or in a loss which is imputed to its own conduct of affairs as distinguished from the result of the other sections. Thus the entrepreneur can assign to each section’s management a great deal of independence. The only directive he gives to a man whom he entrusts with the management of a circumscribed job is to make as much profit as possible. An examination of the accounts shows how successful or unsuccessful the managers were in executing this directive. Every manager and submanager is responsible for the working of his section or subsection. It is to his credit if the accounts show a profit, and it is to his disadvantage if they show a loss. His own interests impel him toward the utmost care and exertion in the conduct of his section’s affairs. If he incurs losses, he will be replaced by a man whom the entrepreneur expects to be more successful, or the whole section will be discontinued. At any rate, the manager will lose his job. If he succeeds in making profits, his income will be increased, or at least he will not be in danger of losing it. Whether or not a manager is entitled to a share in the profit imputed to his section is not important with regard to the personal interest he takes in the results of his section’s dealings. His welfare is at any rate closely connected with that of his section. His task is not like that of the technician, to perform a definite piece of work according to a definite precept. It is to adjust—within the limited scope left to his discretion—the operation of his section to the state of the market. Of course, just as an entrepreneur may combine in his person entrepreneurial functions and those of a technician, such a union of various functions can also occur with a manager.

  The managerial function is always subservient to the entrepreneurial function. It can relieve the entrepreneur of a part of his minor duties; it can never evolve into a substitute for entrepreneurship. The fallacy to the contrary is due to the error confusing the category of entrepreneurship as it is defined in the imaginary construction of functional distribution with conditions in a living and operating market economy. The function of the entrepreneur cannot be separated from the direction of the employment of factors of production for the accomplishment of definite tasks. The entrepreneur controls the factors of production; it is this control that brings him either entrepreneurial profit or loss.

  It is possible to reward the manager by paying for his services in proportion to the contribution of his section to the profit earned by the entrepreneur. But this is of no avail. As has been pointed out, the manager is under any circumstances interested in the success of that part of the business which is entrusted to his care. But the manager cannot be made answerable for the losses incurred. These losses are suffered by the owners of the capital employed. They cannot be shifted to the manager.

  Society can freely leave the care for the best possible employment of capital goods to their owners. In embarking upon definite projects these owners expose their own property, wealth, and social position. They are even more interested in the success of their entrepreneurial activities than is society as a whole. For society as a whole the squandering of capital invested in a definite project means only the loss of a small part of its total funds; for the owner it means much more, for the most part the loss of his total fortune. But if a manager is given a completely free hand, things are different. He speculates in risking other people’s money. He sees the prospects of an uncertain enterprise from another angle than that of the man who is answerable for the losses. It is precisely when he is rewarded by a share of the profits that he becomes foolhardy because he does not share in the losses too.

  The illusion that management is the totality of entrepreneurial activities and that management is a perfect substitute for entrepreneurship is the outgrowth of a misinterpretation of the conditions of the corporations, the typical form of present-day business. It is asserted that the corporation is operated by the salaried managers, while the shareholders are merely passive spectators. All the powers are concentrated in the hands of hired employees. The shareholders are idle and useless; they harvest what the managers have sown.

  This doctrine disregards entirely the role that the capital and money market, the stock and bond exchange, which a pertinent idiom simply calls the “market,” plays in the direction of corporate business. The dealings of this market are branded by popular anticapitalistic bias as a hazardous game, as mere gambling. In fact, the changes in the prices of common and preferred stock and of corporate bonds are the means applied by the capitalists for the supreme control of the flow of capital. The price structure as determined by the speculations on the capital and money markets and on the big commodity exchanges not only decides how much capital is available for the conduct of each corporation’s business; it creates a state of affairs to which the managers must adjust their operations in detail.

  The general direction of a corporation’s conduct of business is exercised by the stockholders and their elected mandataries, the directors. The directors appoint and discharge the managers. In smaller companies and sometimes even in bigger ones the offices of the directors and the managers are often combined in the same persons. A successful corporation is ultimately never controlled by hired managers. The emergence of an omnipotent managerial class is not a phenomenon of the unhampered market economy. It was, on the contrary, an outgrowth of the interventionist policies consciously aiming at an elimination of the influence of the shareholders and at their virtual expropriation. In Germany, Italy, and Austria it was a preliminary step on the way toward the substitution of government control of business for free enterprise, as has been the case in Great Britain with regard to the Bank of England and the railroads. Similar tendencies are prevalent in the American public utilities. The marvelous achievements of corporate business were not a result of the activities of a salaried managerial oligarchy; they were accomplished by people who were connected with the corporation by means of the ownership of a considerable part or of the greater part of its stock and whom part of the public scorned as promoters and profiteers.

  The entrepreneur determines alone, without any managerial interference, in what lines of business to employ capital and how much capital to employ. He determines the expansion and contraction of the size of the total business and its main sections. He determines the enterprise’s financial structure. These are the essential decisions which are instrumental in the conduct of business. They always fall upon the entrepreneur, in corporations as well as in other types of a firm’s legal structure. Any assistance given to the entrepreneur in this regard is of ancillary character only; he takes information about the past state of affairs from experts in the fields of law, statistics, and technology; but the final decision implying a judgment about the future state of the market rests with him alone. The execution of the details of his projects may then be entrusted to managers.

  The social functions of the managerial elite are no less indispensable for the operation of the market economy than are the functions of the elite of inventors, technologists, engineers, designers, scientists, and experimenters. In the ranks of the managers many of the most eminent men serve the cause of economic progress. Successful managers are remunerated by high salaries and often by a share in the enterprise’s gross profits. Many of them in the course of their careers become themselves capitalists and entrepreneurs. Nonetheless, the managerial function is different from the entrepreneurial function.

  It is a serious mistake to identify entrepreneurship with management as in the popular antithesis of “management” and “labor.” This confusion is, of course, intentional. It is designed to obscure the fact that the functions of entrepreneurship are entirely different from those of the managers attending to the minor details of the conduct of business. The structure of business, the allocation of capital to the various branches of production and firms, the size and the line of operation of each plant and shop are considered as given facts and it is implied that no further changes will be effected with regard to them. The only task is to go on in the old routine. In such a stationary world, of course, there is no need for innovators and promoters; the total amount of profits is counterbalanced by the total amount of losses. To explode the fallacies of this doctrine it is enough to compare the structure of American business in 1960 with that of 1940.

  But even in a stationary world it would be nonsensical to give “labor,” as a popular slogan demands, a share in management. The realization of such a postulate would result in syndicalism.25

  There is furthermore a readiness to confuse the manager with a bureaucrat. Bureaucratic management, as distinguished from profit management, is the method applied in the conduct of administrative affairs, the result of which has no cash value on the market. The successful performance of the duties entrusted to the care of a police department is of the greatest importance for the preservation of social cooperation and benefits each member of society. But it has no price on the market, it cannot be bought or sold; it can therefore not be confronted with the expenses incurred in the endeavors to secure it. It results in gains, but these gains are not reflected in profits liable to expression in terms of money. The methods of economic calculation, and especially those of double-entry bookkeeping, are not applicable to them. Success or failure of a police department’s activities cannot be ascertained according to the arithmetical procedures of profit-seeking business. No accountant can establish whether or not a police department or one of its subdivisions has succeeded.

  The amount of money to be expended in every branch of profitseeking business is determined by the behavior of the consumers. If the automobile industry were to treble the capital employed, it would certainly improve the services it renders to the public. There would be more cars available. But this expansion of the industry would withhold capital from other branches of production in which it could fill more urgent wants of the consumers. This fact would render the expansion of the automobile industry unprofitable and increase profits in other branches of business. In their endeavors to strive after the highest profit obtainable, entrepreneurs are forced to allocate to each branch of business only as much capital as can be employed in it without impairing the satisfaction of more urgent wants of the consumers. Thus the entrepreneurial activities are automatically, as it were, directed by the consumers’ wishes as they are reflected in the price structure of consumers’ goods.

  No such limitation is enjoined upon the allocation of funds for the performance of the tasks incumbent upon government activities. There is no doubt that the services rendered by the police department of the City of New York could be considerably improved by trebling the budgetary allocation. But the question is whether or not this improvement would be considerable enough to justify either the restriction of the services rendered by other departments—e.g., those of the department of sanitation—or the restriction of the private consumption of the taxpayers. This question cannot be answered by the accounts of the police department. These accounts provide information only about the expenses incurred. They cannot provide any information about the results obtained, as these results cannot be expressed in money equivalents. The citizens must directly determine the amount of services they want to get and are ready to pay for. They discharge this task by electing councilmen and officeholders who are prepared to comply with their intentions.

  Thus the mayor and the chiefs of the city’s various departments are restricted by the budget. They are not free to act upon what they themselves consider the most beneficial solution of the various problems the citizenry has to face. They are bound to spend the funds allocated for the purposes the budget has assigned them. They must not use them for other tasks. Auditing in the field of public administration is entirely different from that in the field of profit-seeking business. Its goal is to establish whether or not the funds allocated have been expended in strict compliance with the provisions of the budget.

  In profit-seeking business the discretion of the managers and submanagers is restricted by considerations of profit and loss. The profit motive is the only directive needed to make them subservient to the wishes of the consumers. There is no need to restrict their discretion by minute instructions and rules. If they are efficient, such meddling with details would at best be superfluous, if not pernicious in tying their hands. If they are inefficient, it would not render their activities more successful. It would only provide them with a lame excuse that the failure was caused by inappropriate rules. The only instruction required is self-understood and does not need to be especially mentioned: Seek profit.

  Things are different in public administration, in the conduct of government affairs. In this field the discretion of the officeholders and their subaltern aids is not restricted by considerations of profit and loss. If their supreme boss—no matter whether he is the sovereign people or a sovereign despot—were to leave them a free hand, he would renounce his own supremacy in their favor. These officers would become irresponsible agents, and their power would supersede that of the people or the despot. They would do what pleased them, not what their bosses wanted them to do. To prevent this outcome and to make them subservient to the will of their bosses, it is necessary to give them detailed instructions regulating their conduct of affairs in every respect. Then it becomes their duty to handle all affairs in strict compliance with these rules and regulations. Their freedom to adjust their acts to what seems to them the most appropriate solution of a concrete problem is limited by these norms. They are bureaucrats, i.e., men who in every instance must observe a set of inflexible regulations.

  Bureaucratic conduct of affairs is conduct bound to comply with detailed rules and regulations fixed by the authority of a superior body. It is the only alternative to profit management. Profit management is inapplicable in the pursuit of affairs which have no cash value on the market and in the non-profit conduct of affairs which could also be operated on a profit basis. The former is the case of the administration of the social apparatus of coercion and compulsion; the latter is the case in the conduct of an institution on a non-profit basis, e.g., a school, a hospital, or a postal system. Whenever the operation of a system is not directed by the profit motive, it must be directed by bureaucratic rules.

  Bureaucratic conduct of affairs is, as such, not an evil. It is the only appropriate method of handling governmental affairs, i.e., the social apparatus of compulsion and coercion. As government is necessary, bureaucratism is—in this field—no less necessary. Where economic calculation is unfeasible, bureaucratic methods are indispensable. A socialist government must apply them to all affairs.

  No business, whatever its size or specific task, can ever become bureaucratic so long as it is entirely and solely operated on a profit basis. But as soon as it abandons profit seeking and substitutes for it what is called the service principle—i.e., the rendering of services without regard as to whether or not the prices to be obtained for them cover the expenses—it must substitute bureaucratic methods for those of entrepreneurial management.26

  11

  The Selective Process

  The selective process of the market is actuated by the composite effort of all members of the market economy. Driven by the urge to remove his own uneasiness as much as possible, each individual is intent, on the one hand, upon attaining that position in which he can contribute most to the best satisfaction of everyone else and, on the other hand, upon taking best advantage of the services offered by everyone else. This means that he tries to sell on the dearest market and to buy on the cheapest market. The resultant of these endeavors is not only the price structure but no less the social structure, the assignment of definite tasks to the various individuals. The market makes people rich or poor, determines who shall run the big plants and who shall scrub the floors, fixes how many people shall work in the copper mines and how many in the symphony orchestras. None of these decisions is made once and for all; they are revocable every day. The selective process never stops. It goes on adjusting the social apparatus of production to the changes in demand and supply. It reviews again and again its previous decisions and forces everybody to submit to a new examination of his case. There is no security and no such thing as a right to preserve any position acquired in the past. Nobody is exempt from the law of the market, the consumers’ sovereignty.

  Ownership of the means of production is not a privilege, but a social liability. Capitalists and landowners are compelled to employ their property for the best possible satisfaction of the consumers. If they are slow and inept in the performance of their duties, they are penalized by losses. If they do not learn the lesson and do not reform their conduct of affairs, they lose their wealth. No investment is safe forever. He who does not use his property in serving the consumers in the most efficient way is doomed to failure. There is no room left for people who would like to enjoy their fortunes in idleness and thoughtlessness. The proprietor must aim to invest his funds in such a way that principal and yield are at least not impaired.

  In the ages of caste privileges and trade barriers there were revenues not dependent on the market. Princes and lords lived at the expense of the humble slaves and serfs who owed them tithes, statute labor, and tributes. Ownership of land could only be acquired either by conquest or by largesse on the part of a conqueror. It could be forfeited only by recantation on the part of the donor or by conquest on the part of another conqueror. Even later, when the lords and their liegemen began to sell their surpluses on the market, they could not be ousted by the competition of more efficient people. Competition was free only within very narrow limits. The acquisition of manorial estates was reserved to the nobility, that of urban real property to the citizens of the township, that of farm land to the peasants. Competition in the arts and crafts was restricted by the guilds. The consumers were not in a position to satisfy their wants in the cheapest way, as price control made underbidding impossible to the sellers. The buyers were at the mercy of their purveyors. If the privileged producers refused to resort to the employment of the most adequate raw materials and of the most efficient methods of processing, the consumers were forced to endure the consequences of such stubbornness and conservatism.

  The landowner who lives in perfect self-sufficiency from the fruits of his own farming is independent of the market. But the modern farmer who buys equipment, fertilizers, seed, labor, and other factors of production and sells agricultural products is subject to the law of the market. His income depends on the consumers and he must adjust his operations to their wishes.

  The selective function of the market works also with regard to labor. The worker is attracted by that kind of work in which he can expect to earn most. As is the case with material factors of production, the factor labor too is allocated to those employments in which it best serves the consumers. There prevails the tendency not to waste any quantity of labor for the satisfaction of less urgent demand if more urgent demand is still unsatisfied. Like all other strata of society, the worker is subject to the supremacy of the consumers. If he disobeys, he is penalized by a cut in earnings.

  The selection of the market does not establish social orders, castes, or classes in the Marxian sense. Nor do the entrepreneurs and promoters form an integrated social class. Each individual is free to become a promoter if he relies upon his own ability to anticipate future market conditions better than his fellow citizens and if his attempts to act at his own peril and on his own responsibility are approved by the consumers. One enters the ranks of the promoters by spontaneously pushing forward and thus submitting to the trial to which the market subjects, without respect for persons, everybody who wants to become a promoter or to remain in this eminent position. Everybody has the opportunity to take his chance. A newcomer does not need to wait for an invitation or encouragement from anyone. He must leap forward on his own account and must himself know how to provide the means needed.

  It has been contended again and again that under the conditions of “late” or “mature” capitalism it is no longer possible for penniless people to climb the ladder to wealth and entrepreneurial position. No attempt has ever been made to prove this thesis. Since it was first advanced, the composition of the entrepreneurial and capitalist groups has changed considerably. A great part of the former entrepreneurs and their heirs have been eliminated and other people, newcomers, have taken their places. It is, of course, true that in the last years institutions have been purposely developed which, if not abolished very soon, will make the functioning of the market in every regard impossible.

  The point of view from which the consumers choose the captains of industry and business is exclusively their qualification to adjust production to the needs of the consumers. They do not bother about other features and merits. They want a shoe manufacturer to fabricate good and cheap shoes. They are not intent upon entrusting the conduct of the shoe trade to handsome amiable boys, to people of good drawing-room manners, of artistic gifts, of scholarly habits, or of any other virtues or talents. A proficient businessman may often be deficient in many accomplishments which contribute to the success of a man in other spheres of life.

  It is quite common nowadays to deprecate the capitalists and entrepreneurs. A man is prone to sneer at those who are more prosperous than himself. These people, he contends, are richer only because they are less scrupulous than he. If he were not restrained by due consideration for the laws of morality and decency, he would be no less successful than they are. Thus men glory in the aureole of self-complacency and Pharisaic self-righteousness.

  Now it is true that under the conditions brought about by interventionism many people can acquire wealth by graft and bribery. In many countries interventionism has so undermined the supremacy of the market that it is more advantageous for a businessman to rely upon the aid of those in political office than upon the best satisfaction of the needs of the consumers. But it is not this that the popular critics of other people’s wealth have in mind. They contend that the methods by which wealth is acquired in a pure market society are objectionable from the ethical point of view.

  Against such statements it is necessary to emphasize that, so far as the operation of the market is not sabotaged by the interference of governments and other factors of coercion, success in business is the proof of services rendered to the consumers. The poor man need not be inferior to the prosperous businessman in other regards; he may sometimes be outstanding in scientific, literary, and artistic achievements or in civic leadership. But in the social system of production he is inferior. The creative genius may be right in his disdain for commercial success; it may be true that he would have been prosperous in business if he had not preferred other things. But the clerks and workers who boast of their moral superiority deceive themselves and find consolation in this self-deception. They do not admit that they have been tried and found wanting by their fellow citizens, the consumers.

  It is often asserted that the poor man’s failure in the competition of the market is caused by his lack of education. Equality of opportunity, it is said, could be provided only by making education at every level accessible to all. There prevails today the tendency to reduce all differences among various peoples to their education and to deny the existence of inborn inequalities in intellect, will power, and character. It is not generally realized that education can never be more than indoctrination with theories and ideas already developed. Education, whatever benefits it may confer, is transmission of traditional doctrines and valuations; it is by necessity conservative. It produces imitation and routine, not improvement and progress. Innovators and creative geniuses cannot be reared in schools. They are precisely the men who defy what the school has taught them.

  In order to succeed in business a man does not need a degree from a school of business administration. These schools train the subalterns for routine jobs. They certainly do not train entrepreneurs. An entrepreneur cannot be trained. A man becomes an entrepreneur in seizing an opportunity and filling the gap. No special education is required for such a display of keen judgment, foresight, and energy. The most successful businessmen were often uneducated when measured by the scholastic standards of the teaching profession. But they were equal to their social function of adjusting production to the most urgent demand. Because of these merits the consumers chose them for business leadership.

  12

  The Individual and the Market

  It is customary to speak metaphorically of the automatic and anonymous forces actuating the “mechanism” of the market. In employing such metaphors people are ready to disregard the fact that the only factors directing the market and the determination of prices are purposive acts of men. There is no automatism; there are only men consciously and deliberately aiming at ends chosen. There are no mysterious mechanical forces; there is only the human will to remove uneasiness. There is no anonymity; there are you and I and Bill and Joe and all the rest. And each of us is both a producer and a consumer.

  The market is a social body; it is the foremost social body. The market phenomena are social phenomena. They are the resultant of each individual’s active contribution. But they are different from each such contribution. They appear to the individual as something given which he himself cannot alter. He does not always see that he himself is a part, although a small part, of the complex of elements determining each momentary state of the market. Because he fails to realize this fact, he feels himself free, in criticizing the market phenomena, to condemn with regard to his fellow men a mode of conduct which he considers as quite right with regard to himself. He blames the market for its callousness and disregard of persons and asks for social control of the market in order to “humanize” it. He asks on the one hand for measures to protect the consumer against the producers. But on the other hand he insists even more passionately upon the necessity of protecting himself as a producer against the consumers. The outcome of these contradictory demands is the modern methods of government interference whose most outstanding examples were the Sozialpolitik of imperial Germany and the American New Deal.

  It is an old fallacy that it is a legitimate task of civil government to protect the less efficient producer against the competition of the more efficient. One asks for a “producers’ policy” as distinct from a “consumers’ policy.” While flamboyantly repeating the truism that the only aim of production is to provide ample supplies for consumption, people emphasize with no less eloquence that the “industrious” producer should be protected against the “idle” consumer.

  However, producers and consumers are identical. Production and consumption are different stages in acting. Catallactics embodies these differences in speaking of producers and consumers. But in reality they are the same people. It is, of course, possible to protect a less efficient producer against the competition of more efficient fellows. Such a privilege conveys to the privileged the benefits which the unhampered market provides only to those who succeed in best filling the wants of the consumers. But it necessarily impairs the satisfaction of the consumers. If only one producer or a small group is privileged, the beneficiaries enjoy an advantage at the expense of the rest of the people. But if all producers are privileged to the same extent, everybody loses in his capacity as consumer as much as he gains in his capacity as a producer. Moreover, all are injured because the supply of products drops if the most efficient men are prevented from employing their skill in that field in which they could render the best services to the consumers.

  If a consumer believes that it is expedient or right to pay a higher price for domestic cereals than for cereals imported from abroad, or for manufactures processed in plants operated by small business or employing unionized workers than for those of another provenance, he is free to do so. He would only have to satisfy himself that the commodity offered for sale meets the conditions upon which he makes the allowance of a higher price depend. Laws which forbid counterfeiting of labels of origin and trademarks would succeed in attaining the ends aimed at by tariffs, labor legislation, and privileges granted to small business. But it is beyond doubt that the consumers are not prepared to act in this way. The fact that a commodity is marked as imported does not impair its salability if it is better or cheaper, or both. As a rule the buyers want to buy as cheaply as possible without regard for the origin of the article or some particular characteristics of the producers.

  The psychological root of the producers’ policy as practiced today in all parts of the world is to be seen in spurious economic doctrines. These doctrines flatly deny that the privileges granted to less efficient producers burden the consumer. Their advocates contend that such measures are prejudicial only to those against whom they discriminate. When pressed further, they are forced to admit that the consumers are damaged too, they maintain that the losses of the consumers are more than compensated by an increase in their money income which the measures in question are bound to bring about.

  Thus in the predominantly industrial countries of Europe the protectionists were first eager to declare that the tariff on agricultural products hurts exclusively the interests of the farmers of the predominantly agricultural countries and of the grain dealers. It is certain that these exporting interests are damaged too. But it is no less certain that the consumers of the country that adopts the tariff policy are losing with them. They must pay higher prices for their food. Of course, the protectionist retorts, that this is not a burden. For, he argues, the additional amount that the domestic consumer pays increases the farmers’ income and their purchasing power; they will spend the whole surplus in buying more of the products manufactured by the nonagricultural strata of the population. This paralogism can easily be exploded by referring to the well-known anecdote of the man who asks an innkeeper for a gift of ten dollars; it will not cost him anything because the beggar promises to spend the whole amount in his inn. But for all that, the protectionist fallacy got hold of public opinion, and this alone explains the popularity of the measures inspired by it. Many people simply do not realize that the only effect of protection is to divert production from those places in which it could produce more per unit of capital and labor expended to places in which it produces less. It makes people poorer, not more prosperous.

  The ultimate foundation of modern protectionism and of the striving for economic autarky of each country is to be found in this mistaken belief that they are the best means to make every citizen, or at least the immense majority of them, richer. The term riches means in this connection an increase in the individual’s real income and an improvement in his standard of living. It is true that the policy of national economic insulation is a necessary corollary of the endeavors to interfere with domestic business, and that it is an outcome of warlike tendencies as well as one of the factors producing these tendencies. But the fact remains that it would never have been possible to sell the idea of protection to the voters if one had not been able to convince them that protection not only does not impair their standard of living but raises it considerably.

  It is important to emphasize this fact because it utterly explodes a myth propagated by many popular books. According to these myths, contemporary man is no longer motivated by the desire to improve his material well-being and to raise his standard of living. The assertions of the economists to the contrary are mistaken. Modern man gives priority to “noneconomic” or “irrational” things and is ready to forego material betterment whenever its attainment stands in the way of those “ideal” concerns. It is a serious blunder, common mostly with economists and businessmen, to interpret the events of our time from an “economic” point of view and to criticize current ideologies with regard to the alleged economic fallacies implied. People long for other things more than for a good life.

  It is hardly possible to misconstrue the history of our age more crassly. Our contemporaries are driven by a fanatical zeal to get more amenities and by an unrestrained appetite to enjoy life. A characteristic social phenomenon of our day is the pressure group, an alliance of people eager to promote their own material well-being by the employment of all means, legal or illegal, peaceful or violent. For the pressure group nothing matters but the increase of its members’ real income. It is not concerned with any other aspects of life. It does not bother whether or not the realization of its program hurts the vital interests of other men, of their own nation or country, and of the whole of mankind. But, of course, every pressure group is anxious to justify its demands as beneficial to the general public welfare and to stigmatize its critics as abject scoundrels, idiots, and traitors. In the pursuit of its plans it displays a quasi-religious ardor.

  Without exception all political parties promise their supporters a higher real income. There is no difference in this respect between nationalists and internationalists and between the supporters of a market economy and the advocates of either socialism or interventionism. If a party asks its supporters to make sacrifices for its cause, it always explains these sacrifices as the necessary temporary means for the attainment of the ultimate goal, the improvement of the material well-being of its members. Each party considers it as an insidious plot against its prestige and its survival if somebody ventures to question the capacity of its projects to make the group members more prosperous. Each party regards with a deadly hatred the economists embarking upon such a critique.

  All varieties of the producers’ policy are advocated on the ground of their alleged ability to raise the party members’ standard of living. Protectionism and economic self-sufficiency, labor union pressure and compulsion, labor legislation, minimum wage rates, public spending, credit expansion, subsidies, and other makeshifts are always recommended by their advocates as the most suitable or the only means to increase the real income of the people for whose votes they canvass. Every contemporary statesman or politician invariably tells his voters: My program will make you as affluent as conditions may permit, while my adversaries’ program will bring you want and misery.

  It is true that some secluded intellectuals in their esoteric circles talk differently. They proclaim the priority of what they call eternal absolute values and feign in their declamations—not in their personal conduct—a disdain of things secular and transitory. But the public ignores such utterances. The main goal of present-day political action is to secure for the respective pressure group memberships the highest material well-being. The only way for a leader to succeed is to instill in people the conviction that his program best serves the attainment of this goal.

  What is wrong with the producers’ policies is their faulty economics.

  If one is prepared to indulge in the fashionable tendency to explain human things by resorting to the terminology of psychopathology, one might be tempted to say that modern man in contrasting a producers’ policy with a consumers’ policy has fallen victim to a kind of schizophrenia. He fails to realize that he is an undivided and indivisible person, i.e., an individual, and as such no less a consumer than a producer. The unity of his consciousness is split into two parts; his mind is inwardly divided against himself. But it matters little whether or not we adopt this mode of describing the fact that the economic doctrine resulting in these policies is faulty. We are not concerned with the pathological source from which an error may stem, but with the error as such and with its logical roots. The unmasking of the error by means of ratiocination is the primary fact. If a statement were not exposed as logically erroneous, psychopathology would not be in a position to qualify the state of mind from which it stems as pathological. If a man imagines himself to be the king of Siam, the first thing which the psychiatrist has to establish is whether or not he really is what he believes himself to be. Only if this question is answered in the negative can the man be considered insane.

  It is true that most of our contemporaries are committed to a fallacious interpretation of the producer-consumer nexus. In buying they behave as if they were connected with the market only as buyers, and vice versa in selling. As buyers they advocate stern measures to protect them against the sellers, and as sellers they advocate no less harsh measures against the buyers. But this antisocial conduct which shakes the very foundations of social cooperation is not an outgrowth of a pathological state of mind. It is the outcome of a narrow-mindedness which fails to conceive the operation of the market economy and to anticipate the ultimate effects of one’s own actions.

  It is permissible to contend that the immense majority of our contemporaries are mentally and intellectually not adjusted to life in the market society, although they themselves and their fathers have unwittingly created this society by their actions. But this maladjustment consists in nothing else than in the failure to recognize erroneous doctrines as such.

  13

  Business Propaganda

  The consumer is not omniscient. He does not know where he can obtain at the cheapest price what he is looking for. Very often he does not even know what kind of commodity or service is suitable to remove most efficaciously the particular uneasiness he wants to remove. At best he is familiar with the market conditions of the immediate past and arranges his plans on the basis of this information. To convey to him information about the actual state of the market is the task of business propaganda.

  Business propaganda must be obtrusive and blatant. It is its aim to attract the attention of slow people, to rouse latent wishes, to entice men to substitute innovation for inert clinging to traditional routine. In order to succeed, advertising must be adjusted to the mentality of the people courted. It must suit their tastes and speak their idiom. Advertising is shrill, noisy, coarse, puffing, because the public does not react to dignified allusions. It is the bad taste of the public that forces the advertisers to display bad taste in their publicity campaigns. The art of advertising has evolved into a branch of applied psychology, a sister discipline of pedagogy.

  Like all things designed to suit the taste of the masses, advertising is repellent to people of delicate feeling. This abhorrence influences the appraisal of business propaganda. Advertising and all other methods of business propaganda are condemned as one of the most outrageous outgrowths of unlimited competition. It should be forbidden. The consumers should be instructed by impartial experts; the public schools, the “nonpartisan” press, and cooperatives should perform this task.

  The restriction of the right of businessmen to advertise their products would restrict the freedom of the consumers to spend their income according to their own wants and desires. It would make it impossible for them to learn as much as they can and want about the state of the market and the conditions which they may consider as relevant in choosing what to buy and what not to buy. They would no longer be in a position to decide on the basis of the opinion which they themselves have formed about the seller’s appraisal of his products; they would be forced to act on the recommendation of other people. It is not unlikely that these mentors would save them some mistakes. But the individual consumers would be under the tutelage of guardians. If advertising is not restricted, the consumers are by and large in the position of a jury which learns about the case by hearing the witnesses and examining directly all other means of evidence. If advertising is restricted, they are in the position of a jury to whom an officer reports about the result of his own examination of evidence.

  It is a widespread fallacy that skillful advertising can talk the consumers into buying everything that the advertiser wants them to buy. The consumer is, according to this legend, simply defenseless against “high-pressure” advertising. If this were true, success or failure in business would depend on the mode of advertising only. However, nobody believes that any kind of advertising would have succeeded in making the candlemakers hold the field against the electric bulb, the horsedrivers against the motorcars, the goose quill against the steel pen and later against the fountain pen. But whoever admits this implies that the quality of the commodity advertised is instrumental in bringing about the success of an advertising campaign. Then there is no reason to maintain that advertising is a method of cheating the gullible public.

  It is certainly possible for an advertiser to induce a man to try an article which he would not have bought if he had known its qualities beforehand. But as long as advertising is free to all competing firms, the article which is better from the point of view of the consumers’ appetites will finally outstrip the less appropriate article, whatever methods of advertising may be applied. The tricks and artifices of advertising are available to the seller of the better product no less than to the seller of the poorer product. But only the former enjoys the advantage derived from the better quality of his product.

  The effects of advertising of commodities are determined by the fact that as a rule the buyer is in a position to form a correct opinion about the usefulness of an article bought. The housewife who has tried a particular brand of soap or canned food learns from experience whether it is good for her to buy and consume that product in the future too. Therefore advertising pays the advertiser only if the examination of the first sample bought does not result in the consumer’s refusal to buy more of it. It is agreed among businessmen that it does not pay to advertise products other than good ones.

  Entirely different are conditions in those fields in which experience cannot teach us anything. The statements of religious, metaphysical, and political propaganda can be neither verified nor falsified by experience. With regard to the life beyond and the absolute, any experience is denied to men living in this world. In political matters experience is always the experience of complex phenomena which is open to different interpretations; the only yardstick which can be applied to political doctrines is aprioristic reasoning. Thus political propaganda and business propaganda are essentially different things, although they often resort to the same technical methods.

  There are many evils for which contemporary technology and therapeutics have no remedy. There are incurable diseases and there are irreparable personal defects. It is a sad fact that some people try to exploit their fellow men’s plight by offering them patent medicines. Such quackeries do not make old people young and ugly girls pretty. They only raise hopes. It would not impair the operation of the market if the authorities were to prevent such advertising, the truth of which cannot be evidenced by the methods of the experimental natural sciences. But whoever is ready to grant to the government this power would be inconsistent if he objected to the demand to submit the statements of churches and sects to the same examination. Freedom is indivisible. As soon as one starts to restrict it, one enters upon a decline on which it is difficult to stop. If one assigns to the government the task of making truth prevail in the advertising of perfumes and toothpaste, one cannot contest it the right to look after truth in the more important matters of religion, philosophy, and social ideology.

  The idea that business propaganda can force the consumers to submit to the will of the advertisers is spurious. Advertising can never succeed in supplanting better or cheaper goods by poorer goods.

  The costs incurred by advertising are, from the point of view of the advertiser, a part of the total bill of production costs. A businessman expends money for advertising if and as far as he expects that the increase in sales resulting will increase the total net proceeds. In this regard there is no difference between the costs of advertising and all other costs of production. An attempt has been made to distinguish between production costs and sales costs. An increase in production costs, it has been said, increases supply, while an increase in sales costs (advertising costs included) increases demand.27 This is a mistake. All costs of production are expended with the intention of increasing demand. If the manufacturer of candy employs a better raw material, he aims at an increase in demand in the same way as he does in making the wrappings more attractive and his stores more inviting and in spending more for advertisements. In increasing production costs per unit of the product the idea is always to increase demand. If a businessman wants to increase supply, he must increase the total cost of production, which often results in lowering production costs per unit.

  14

  The “Volkswirtschaft”

  The market economy as such does not respect political frontiers. Its field is the world.

  The term Volkswirtschaft was long applied by the German champions of government omnipotence. Only much later did the British and the French begin to speak of the “British economy” and “l’économie francaise” as distinct from the economies of other nations. But neither the English nor the French language produced an equivalent of the term Volkswirtschaft. With the modern trend toward national planning and national autarky, the doctrine involved in this German word became popular everywhere. Nonetheless, only the German language is able to express in one word all the ideas implied.

  The Volkswirtschaft is a sovereign nation’s total complex of economic activities directed and controlled by the government. It is socialism realized within the political frontiers of each nation. In employing this term people are fully aware of the fact that real conditions differ from the state of affairs which they deem the only adequate and desirable state. But they judge everything that happens in the market economy from the point of view of their ideal. They assume that there is an irreconcilable conflict between the interests of the Volkswirtschaft and those of the selfish individuals eager to seek profit. They do not hesitate to assign priority to the interests of the Volkswirtschaft over those of the individuals. The righteous citizen should always place the volkswirtschaftliche interests above his own selfish interests. He should act of his own accord as if he were an officer of the government executing its orders. Gemeinnutz geht vor Eigennutz (the welfare of the nation takes precedence over the selfishness of the individuals) was the fundamental principle of Nazi economic management. But as people are too dull and too vicious to comply with this rule, it is the task of government to enforce it. The German princes of the seventeenth and eighteenth century, foremost among them the Hohenzollern Electors of Brandenburg and Kings of Prussia, were fully equal to this task. In the nineteenth century, even in Germany the liberal ideologies imported from the West superseded the well-tried and natural policies of nationalism and socialism. However, Bismarck’s and his successors’ Sozialpolitik and finally Nazism restored them.

  The interests of a Volkswirtschaft are seen as implacably opposed not only to those of the individuals, but no less to those of the Volkswirtschaft of any foreign nation. The most desirable state of a Volkswirtschaft is complete economic self-sufficiency. A nation which depends on any imports from abroad lacks economic independence; its sovereignty is only a sham. Therefore a nation which cannot produce at home all that it needs is bound to conquer all the territories required. To be really sovereign and independent a nation must have Lebensraum, i.e., a territory so large and rich in natural resources that it can live in autarky at a standard no lower than that of any other nation.

  Thus the idea of the Volkswirtschaft is the most radical denial of all the principles of the market economy. It was this idea that guided, more or less, the economic policies of all nations in the last decades. It was the pursuit of this idea that brought about the terrific wars of our century and may kindle still more pernicious wars in the future.

  From the early beginnings of human history the two opposite principles of the market economy and of the Volkswirtschaft fought each other. Government, i.e., a social apparatus of coercion and compulsion, is a necessary requisite of peaceful cooperation. The market economy cannot do without a police power safeguarding its smooth functioning by the threat or the application of violence against peace-breakers. But the indispensable administrators and their armed satellites are always tempted to use their arms for the establishment of their own totalitarian rule. For ambitious kings and generalissimos the very existence of a sphere of the individuals’ lives not subject to regimentation is a challenge. Princes, governors, and generals are never spontaneously liberal. They become liberal only when forced to by the citizens.

  The problems raised by the plans of the socialists and the interventionists will be dealt with in later parts of this book. Here we have only to answer the question of whether or not any of the essential features of the Volkswirtschaft are compatible with the market economy. For the champions of the idea of the Volkswirtschaft do not consider their scheme merely as a pattern for the establishment of a future social order. They declare emphatically that even under the system of the market economy, which, of course, in their eyes is a debased and vicious product of policies contrary to human nature, the Volkswirtschaften of the various nations are integrated units whose interests are irreconcilably opposed to those of all other nations’ Volkswirtschaften. As they see it, what separates one Volkswirtschaft from all the others is not, as the economists would have us believe, merely political institutions. It is not the trade and migration barriers established by government interference with business and the differences in legislation and in the protection granted to the individuals by the courts and tribunals that bring about the distinction between domestic trade and foreign trade. This diversity, they say, is, on the contrary, the necessary outcome of the very nature of things, of an inextricable factor; it cannot be removed by any ideology and produces its effects whether the laws and the administrators and judges are prepared to take notice of it or not. Thus in their eyes the Volkswirtschaft appears as a nature-given reality, while the world-embracing ecumenic society of men, the world economy (Weltwirtschaft), is only an imaginary phantom of a spurious doctrine, a plan devised for the destruction of civilization.

  The truth is that individuals in their acting, in their capacity as producers and consumers, as sellers and buyers, do not make any distinction as between the domestic market and the foreign market. They make a distinction as between local trade and trading with more distant places as far as the costs of transportation play a role. If government interference, such as tariffs, renders international transactions more expensive, they take this fact into account in the same way in which they pay regard to shipping costs. A tariff on caviar has no effect other than would a rise in the cost of transportation. A rigid prohibition of the importation of caviar produces a state of affairs no different from that which would prevail if caviar could not stand shipping without an essential deterioration in its quality.

  There has never been in the history of the West such a thing as regional or national autarky. There was, as we may admit, a period in which the division of labor did not go beyond the members of a family household. There was autarky of families and tribes which did not practice interpersonal exchange. But as soon as interpersonal exchange emerged, it crossed the boundaries of the political communities. Barter between the inhabitants of regions more remote from one another, between the members of various tribes, villages, and political communities preceded the practice of barter between neighbors. What people wanted first to acquire by barter and trade were things they could not produce themselves out of their own resources. Salt, other minerals and metals, the deposits of which are unequally distributed over the earth’s surface, cereals which one could not grow on the domestic soil, and artifacts which only the inhabitants of some regions were able to manufacture were the first objects of trade. Trade started as foreign trade. Only later did domestic exchange develop between neighbors. The first holes that opened the closed household economy to interpersonal exchange were made by the products of distant regions. No consumer cared on his own account whether the salt and the metals he bought were of “domestic” or of “foreign” provenance. If it had been otherwise, the governments would not have had any reason to interfere by means of tariffs and other barriers to foreign trade.

  But even if a government succeeds in making the barriers separating its domestic market from foreign markets insurmountable and thus establishes perfect national autarky, it does not create a Volkswirtschaft. A market economy which is perfectly autarkic remains for all that a market economy; it forms a closed and isolated catallactic system. The fact that its citizens miss the advantages which they could derive from the international division of labor is simply a datum of their economic conditions. Only if such an isolated country goes outright socialist, does it convert its market economy into a Volkswirtschaft.

  Fascinated by the propaganda of Neo-Mercantilism, people apply idioms which are in contrast to the principles they take as guides in their acting and to all the characteristics of the social order in which they are living. Long ago the British began to call plants and farms located in Great Britain, and even those located in the Dominions, in the East Indies, and in the colonies, “ours.” But if a man did not just want to make a show of his patriotic zeal and to impress other people, he was not prepared to pay a higher price for the products of his “own” plants than for those of the “foreign” plants. Even if he had behaved in this way, the designation of the plants located within the political boundaries of his nation as “ours” would not be adequate. In what sense could a Londoner, before the nationalization, call coal mines located in England which he did not own “our” mines and those of the Ruhr “foreign” mines? Whether he bought “British” coal or “German” coal, he always had to pay the full market price. It is not “America” that buys champagne from “France.” It is always an individual American who buys it from an individual Frenchman.

  As far as there is still some room left for the actions of individuals, as far as there is private ownership and exchange of goods and services between individuals, there is no Volkswirtschaft. Only if full government control is substituted for the choices of individuals does the Volkswirtschaft emerge as a real entity.

  [1. ]Capital goods have been defined also as produced factors of production and as such have been opposed to the nature given or original factors of production, i.e., natural resources (land) and human labor. This terminology must be used with great caution as it can be easily misinterpreted and lead to the erroneous concept of real capital criticized below.

  [2. ]But, of course, no harm can result if, following the customary terminology, one occasionally adopts for the sake of simplicity the terms “capital accumulation” (or “supply of capital,” “capital shortage,” etc.) for the terms “accumulation of capital goods,” “supply of capital goods,” etc.

  [3. ]For this man these goods are not goods of the first order, but goods of a higher order, factors of further production.

  [4. ]Cf. e.g., R. v. Strigl, Kapital und Produktion (Vienna, 1934), p. 3. [The Strigl book is now available in English translation: Richard von Strigl, Capital & Production. Translated by Margaret Rudelich Hoppe and Hans-Hermann Hoppe. Edited with an introduction by Jörg Guido Hu¨ls-mann (Auburn, Ala.: The Ludwig von Mises Institute, 2000). The page cited in the footnote (p. 3 in the German) is p. 2 in the English translation.]

  [5. ]Cf. Frank A. Fetter in Encyclopaedia of the Social Sciences, III, 190.

  [6. ]Cf. below, pp. 526–34.

  [7. ]For an examination of the Russian “experiment” see Mises, Planned Chaos (Irvington-on-Hudson, 1947). See “The Teachings of Soviet Experiment,” pp. 80–87. Planned Chaos (reprinted as the Epilogue to later editions of Mises, Socialism [New Haven, 1951] pp. 527–92), see “The Teachings . . .” pp. 582–89; [Indianapolis, 1981], see “The Teachings . . .” pp. 532–38.

  [8. ]The most amazing product of this widespread mode of thought is the book of a Prussian professor, Bernhard Laum (Die geschlossene Wirtschaft [Tübingen, 1933]). Laum assembles a vast collection of quotations from ethnographical writings showing that many primitive tribes considered economic autarky as natural, necessary, and morally good. He concludes from this that autarky is the natural and most expedient state of economic management and that the return to autarky which he advocates is “a biologically necessary process.” (p. 491).

  [9. ]Guy de Maupassant analyzed Flaubert’s alleged hatred of the bourgeois in Etude sur Gustave Flaubert (reprinted in Oeuvres complètes de Gustave Flaubert [Paris, 1885], Vol. VII). Flaubert, says Maupassant, “aimait le monde” (p. 67); that is, he liked to move in the circle of Paris society composed of aristocrats, wealthy bourgeois, and the élite of artists, writers, philosophers, scientists, statesmen, and entrepreneurs (promoters). He used the term bourgeois as synonymous with imbecility and defined it this way: “I call a bourgeois whoever has mean thoughts (pense bassement).” Hence it is obvious that in employing the term bourgeois Flaubert did not have in mind the bourgeoisie as a social class, but a kind of imbecility he most frequently found in this class. He was full of contempt for the common man (“le bon peuple”) as well. However, as he had more frequent contacts with the “gens du monde” than with workers, the stupidity of the former annoyed him more than that of the latter (p. 59). These observations of Maupassant held good not only for Flaubert, but for the “anti-bourgeois” sentiments of all artists. Incidentally, it must be emphasized that from a Marxian point of view Flaubert is a “bourgeois” writer and his novels are an “ideological superstructure” of the “capitalist or bourgeois mode of production.”

  [10. ]The Nazis used “Jewish” as a synonym of both “capitalist” and “bourgeois.”

  [11. ]Cf. above, pp. 80–84.

  [12. ]Cf. Frank A. Fetter, The Principles of Economics (3d ed. New York, 1913), pp. 394, 410.

  [13. ]Beatrice Webb, Lady Passfield, herself the daughter of a wealthy businessman, may be quoted as an outstanding example of this mentality. Cf. My Apprenticeship (New York, 1926), p. 42.

  [14. ]Cf. Trotsky (1937) as quoted by Hayek, The Road to Serfdom (London, 1944), p. 89.

  [15. ]For a refutation of the fashionable doctrines of imperfect and of monopolistic competition cf. F. A. Hayek, Individualism and Economic Order (Chicago, 1948), pp. 92–118.

  [16. ]See below, p. 685.

  [17. ]See below, pp. 598–600.

  [18. ]In the political sphere resistance to oppression on the part of the established government is the ultima ratio [(Latin) final reason or argument] of those oppressed. However illegal and unbearable the oppression, however lofty and noble the motives of the rebels, and however beneficial the consequences of their violent resistance, a revolution is always an illegal act, disintegrating the established order of state and government. It is an essential mark of civil government that it is in its territory the only agency which is in a position to resort to measures of violence or to declare legitimate whatever violence is practiced by other agencies. A revolution is an act of warfare between the citizens, it abolishes the very foundations of legality and is at best restrained by the questionable international customs concerning belligerency. If victorious, it can afterwards establish a new legal order and a new government. But it can never enact a legal “right to resist oppression.” Such an impunity granted to people venturing armed resistance to the armed forces of the government is tantamount to anarchy and incompatible with any mode of government. The Constituent Assembly of the first French Revolution was foolish enough to decree such a right; but it was not so foolish as to take its own decree seriously.

  [19. ]If an action neither improves nor impairs the state of satisfaction, it still involves a psychic loss because of the uselessness of the expended psychic effort. The individual concerned would have been better off if he had inertly enjoyed life.

  [20. ]Cf. Mangoldt, Die Lehre vom Unternehmergewinn (Leipzig, 1855), p. 82. The fact that out of 100 liters of plain wine one cannot produce 100 liters of champagne, but a smaller quantity, has the same significance as the fact that 100 kilograms of sugar beet do not yield 100 kilograms of sugar but a smaller quantity.

  [21. ]Cf. Knight, Risk, Uncertainty and Profit (Boston, 1921), pp. 211–13.

  [22. ]If we were to apply the faulty concept of a “national income” as used in popular speech, we would have to say that no part of national income goes into profits.

  [23. ]The problem of the convertibility of capital goods is dealt with below, pp. 503–5.

  [24. ]Cf. below, pp. 769–79.

  [25. ]Cf. below, pp. 812–20.

  [26. ]For a detailed treatment of the problems involved, cf. Mises, Bureaucracy (New Haven, 1944). [Bureaucracy has since been reprinted by Arlington House (New Rochelle, N.Y., 1969) and the Libertarian Press (Grove City, Pa., 1983).]

  [27. ]Cf. Chamberlin, The Theory of Monopolistic Competition (Cambridge, Mass., 1935), pp. 123 ff.

• Back to Top

  7: “Interest, Credit Expansion, and the Trade Cycle” in Human Action: A Treatise on Economics, vol. 2 [1949/2007]

  Ludwig von Mises, Human Action: A Treatise on Economics, in 4 vols., ed. Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Vol. 2. Chapter: CHAPTER 20: Interest, Credit Expansion, and the Trade Cycle

  Accessed from oll.libertyfund.org/title/1894/110527 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  CHAPTER 20

  Interest, Credit Expansion, and the Trade Cycle

  1

  The Problems

  In the market economy in which all acts of interpersonal exchange are performed by the intermediary of money, the category of originary interest manifests itself primarily in the interest on money loans.

  It has been pointed out already that in the imaginary construction of the evenly rotating economy the rate of originary interest is uniform. There prevails in the whole system only one rate of interest. The rate of interest on loans coincides with the rate of originary interest as manifested in the ratio between prices of present and of future goods. We may call this rate the neutral rate of interest.

  The evenly rotating economy presupposes neutral money. As money can never be neutral, special problems arise.

  If the money relation—i.e., the ratio between the demand for and the supply of money for cash holding—changes, all prices of goods and services are affected. These changes, however, do not affect the prices of the various goods and services at the same time and to the same extent. The resulting modifications in the wealth and income of various individuals can also alter the data determining the height of originary interest. The final state of the rate of originary interest to the establishment of which the system tends after the appearance of changes in the money relation, is no longer that final state toward which it had tended before. Thus, the driving force of money has the power to bring about lasting changes in the final rate of originary interest and neutral interest.

  Then there is a second, even more momentous, problem which, of course, may also be looked upon as another aspect of the same problem. Changes in the money relation may under certain circumstances first affect the loan market in which the demand for and the supply of loans influence the market rate of interest on loans, which we may call the gross money (or market) rate of interest. Can such changes in the gross money rate cause the net rate of interest included in it to deviate lastingly from the height which corresponds to the rate of originary interest, i.e., the difference between the valuation of present and future goods? Can events on the loan market partially or totally eliminate originary interest? No economist will hesitate to answer these questions in the negative. But then a further problem arises: How does the interplay of the market factors readjust the gross money rate to the height conditioned by the rate of originary interest?

  These are great problems. These were the problems economists tried to solve in discussing banking, fiduciary media and circulation credit, credit expansion, gratuitousness or nongratuitousness of credit, the cyclical movements of trade, and all other problems of indirect exchange.

  2

  The Entrepreneurial Component in the Gross Market Rate of Interest

  The market rates of interest on loans are not pure interest rates. Among the components contributing to their determination there are also elements which are not interest. The moneylender is always an entrepreneur. Every grant of credit is a speculative entrepreneurial venture, the success or failure of which is uncertain. The lender is always faced with the possibility that he may lose a part or the whole of the principal lent. His appraisal of this danger determines his conduct in bargaining with the prospective debtor about the terms of the contract.

  There can never be perfect safety either in moneylending or in other classes of credit transactions and deferred payments. Debtors, guarantors, and warrantors may become insolvent; collateral and mortgages may become worthless. The creditor is always a virtual partner of the debtor or a virtual owner of the pledged and mortgaged property. He can be affected by changes in the market data concerning them. He has linked his fate with that of the debtor or with the changes occurring in the price of the collateral. Capital as such does not bear interest; it must be well employed and invested not only in order to yield interest; but also lest it disappear entirely. The dictum pecunia pecuniam parere non potest (money cannot beget money) is meaningful in this sense, which, of course, differs radically from the sense which ancient and medieval philosophers attached to it. Gross interest can be reaped only by creditors who have been successful in their lending. If they earn any net interest at all, it is included in a yield which contains more than merely net interest. Net interest is a magnitude which only analytical thinking can extract from the gross proceeds of the creditor.

  The entrepreneurial component included in the creditor’s gross proceeds is determined by all those factors which are operative in every entrepreneurial venture. It is, moreover, codetermined by the legal and institutional setting. The contracts which place the debtor and his fortune or the collateral as a buffer between the creditor and the disastrous consequences of malinvestment of the capital lent, are conditioned by laws and institutions. The creditor is less exposed to loss and failure than the debtor only in so far as this legal and institutional framework makes it possible for him to enforce his claims against refractory debtors. There is, however, no need for economics to enter into a detailed scrutiny of the legal aspects involved in bonds and debentures, preferred stock, mortgages, and other kinds of credit transactions.

  The entrepreneurial component is present in all species of loans. It is customary to distinguish between consumption or personal loans on the one hand, and productive or business loans on the other. The characteristic mark of the former class is that it enables the borrower to spend expected future proceeds. In acquiring a claim to a share in these future proceeds, the lender becomes virtually an entrepreneur, as in acquiring a claim to a share in the future proceeds of a business. The particular uncertainty of the outcome of his lending consists in the uncertainty about these future proceeds.

  It is furthermore customary to distinguish between private and public loans, i.e., loans to governments and subdivisions of governments. The particular uncertainty inherent in such loans concerns the life of secular power. Empires may crumble and governments may be overthrown by revolutionaries who are not prepared to assume responsibility for the debts contracted by their predecessors. That there is, besides, something basically vicious in all kinds of long-term government debts, has been pointed out already.1

  Over all species of deferred payments hangs, like the sword of Damocles, the danger of government interference. Public opinion has always been biased against creditors. It identifies creditors with the idle rich and debtors with the industrious poor. It abhors the former as ruthless exploiters and pities the latter as innocent victims of oppression. It considers government action designed to curtail the claims of the creditors as measures extremely beneficial to the immense majority at the expense of a small minority of hard-boiled usurers. It did not notice at all that nineteenth-century capitalist innovations have wholly changed the composition of the classes of creditors and debtors. In the days of Solon the Athenian, of ancient Rome’s agrarian laws, and of the Middle Ages, the creditors were by and large the rich and the debtors the poor. But in this age of bonds and debentures, mortgage banks, saving banks, life insurance policies, and social security benefits, the masses of people with more moderate income are rather themselves creditors. On the other hand, the rich, in their capacity as owners of common stock, of plants, farms, and real estate, are more often debtors than creditors. In asking for the expropriation of creditors, the masses are unwittingly attacking their own particular interests.

  With public opinion in this state, the creditor’s unfavorable chance of being harmed by anticreditor measures is not balanced by a favorable chance of being privileged by antidebtor measures. This unbalance would bring about a unilateral tendency toward a rise of the entrepreneurial component contained in the gross rate of interest if the political danger were limited to the loan market, and would not in the same way affect today all kinds of private ownership of the means of production. As things are in our day, no kind of investment is safe against the political dangers of anticapitalistic measures. A capitalist cannot reduce the vulnerability of his wealth by preferring direct investment in business to lending his capital to business or to the government.

  The political risks involved in moneylending do not affect the height of originary interest; they affect the entrepreneurial component included in the gross market rate. In the extreme case—i.e., in a situation in which the impending nullification of all contracts concerning deferred payments is expected—they would cause the entrepreneurial component to increase beyond all measure.2

  3

  The Price Premium as a Component of the Gross Market Rate of Interest

  Money is neutral if the cash-induced changes in the monetary unit’s purchasing power affect at the same time and to the same extent the prices of all commodities and services. With neutral money, a neutral rate of interest would be conceivable, provided there were no deferred payments. If there are deferred payments and if we disregard the entrepreneurial position of the creditor and the ensuing entrepreneurial component in the gross rate of interest, we must furthermore assume that the eventuality of future changes in purchasing power is taken into account in stipulating the terms of the contract. The principal is to be multiplied periodically by the index number and thus to be increased or decreased in accordance with the changes that have come to pass in purchasing power. With the adjustment of the principal, the amount from which the rate of interest is to be calculated changes too. Thus, this rate is a neutral rate of interest.

  With neutral money, neutralization of the rate of interest could also be attained by another stipulation, provided the parties are in a position to anticipate correctly the future changes in purchasing power. They could stipulate a gross rate of interest containing an allowance for such changes, a percentile addendum to, or subtrahendum from, the rate of originary interest. We may call this allowance the—positive or negative—price premium. In the case of a quickly progressing deflation, the negative price premium could not only swallow the whole rate of originary interest, but even reverse the gross rate into a minus quantity, an amount charged to the creditor’s account. If the price premium is correctly calculated, neither the creditor’s nor the debtor’s position is affected by intervening changes in purchasing power. The rate of interest is neutral.

  However, all these assumptions are not only imaginary, they cannot even hypothetically be thought of without contradiction. In the changing economy, the rate of interest can never be neutral. In the changing economy, there is no uniform rate of originary interest; there only prevails a tendency toward the establishment of such uniformity. Before the final state of originary interest is attained, new changes in the data emerge which divert anew the movement of interest rates toward a new final state. Where everything is unceasingly in flux, no neutral rate of interest can be established.

  In the world of reality all prices are fluctuating and acting men are forced to take full account of these changes. Entrepreneurs embark upon business ventures and capitalists change their investments only because they anticipate such changes and want to profit from them. The market economy is essentially characterized as a social system in which there prevails an incessant urge toward improvement. The most provident and enterprising individuals are driven to earn profit by readjusting again and again the arrangement of production activities so as to fill in the best possible way the needs of the consumers, both those needs of which the consumers themselves are already aware and those latent needs of the satisfaction of which they have not yet thought themselves. These speculative ventures of the promoters revolutionize afresh each day the structure of prices and thereby also the height of the gross market rate of interest.

  He who expects a rise in certain prices enters the loan market as a borrower and is ready to allow a higher gross rate of interest than he would allow if he were to expect a less momentous rise in prices or no rise at all. On the other hand, the lender, if he himself expects a rise in prices, grants loans only if the gross rate is higher than it would be under a state of the market in which less momentous or no upward changes in prices are anticipated. The borrower is not deterred by a higher rate if his project seems to offer such good chances that it can afford higher costs. The lender would abstain from lending and would himself enter the market as an entrepreneur and bidder for commodities and services if the gross rate of interest were not to compensate him for the profits he could reap this way. The expectation of rising prices thus has the tendency to make the gross rate of interest rise, while the expectation of dropping prices makes it drop. If the expected changes in the price structure concern only a limited group of commodities and services, and are counterbalanced by the expectation of an opposite change in the prices of other goods, as is the case in the absence of changes in the money relation, the two opposite trends by and large counterpoise each other. But if the money relation is sensibly altered and a general rise or fall in the prices of all commodities and services is expected, one tendency carries on. A positive or negative price premium emerges in all deals concerning deferred payments.3

  The role of the price premium in the changing economy is different from that we ascribed to it in the hypothetical and unrealizable scheme developed above. It can never entirely remove, even as far as credit operations alone are concerned, the effects of changes in the money relation; it can never make interest rates neutral. It cannot alter the fact that money is essentially equipped with a driving force of its own. Even if all actors were to know correctly and completely the quantitative data concerning the changes in the supply of money (in the broader sense) in the whole economic system, the dates on which such changes were to occur and what individuals were to be first affected by them, they would not be in a position to know beforehand whether and to what extent the demand for money for cash holding would change and in what temporal sequence and to what extent the prices of the various commodities would change. The price premium could counterpoise the effects of changes in the money relation upon the substantial importance and the economic significance of credit contracts only if its appearance were to precede the occurrence of the price changes generated by the alteration in the money relation. It would have to be the result of a reasoning by virtue of which the actors try to compute in advance the date and the extent of such price changes with regard to all commodities and services which directly or indirectly count for their own state of satisfaction. However, such computations cannot be established because their performance would require a perfect knowledge of future conditions and valuations.

  The emergence of the price premium is not the product of an arithmetical operation which could provide reliable knowledge and eliminate the uncertainty concerning the future. It is the outcome of the promoters’ understanding of the future and their calculations based on such an understanding. It comes into existence step by step as soon as first a few and then successively more and more actors become aware of the fact that the market is faced with cash-induced changes in the money relation and consequently with a trend oriented in a definite direction. Only when people begin to buy or to sell in order to take advantage of this trend, does the price premium come into existence.

  It is necessary to realize that the price premium is the outgrowth of speculations anticipating changes in the money relation. What induces it, in the case of the expectation that an inflationary trend will keep on going, is already the first sign of that phenomenon which later, when it becomes general, is called “flight into real values” and finally produces the crack-up boom and the crash of the monetary system concerned. As in every case of the understanding of future developments, it is possible that the speculators may err, that the inflationary or deflationary movement will be stopped or slowed down, and that prices will differ from what they expected.

  The increased propensity to buy or to sell, which generates the price premium, affects as a rule short-term loans sooner and to a greater extent than long-term loans. As far as this is the case, the price premium affects the market for short-term loans first, and only later, by virtue of the concatenation of all parts of the market, also the market for long-term loans. However, there are instances in which a price premium in long-term loans appears independently of what is going on with regard to short-term loans. This was especially the case in international lending in the days in which there was still a live international capital market. It happened occasionally that lenders were confident with regard to the short-term development of a foreign country’s national currency; in short-term loans stipulated in this currency there was no price premium at all or only a slight one. But the appraisal of the long-term aspects of the currency concerned was less favorable, and consequently in long-term contracts a considerable price premium was taken into account. The result was that long-term loans stipulated in this currency could be floated only at a higher rate than the same debtor’s loans stipulated in terms of gold or a foreign currency.

  We have shown one reason why the price premium can at best practically deaden, but never eliminate entirely, the repercussions of cash-induced changes in the money relation upon the content of credit transactions. (A second reason will be dealt with in the next section.) The price premium always lags behind the changes in purchasing power because what generates it is not the change in the supply of money (in the broader sense), but the—necessarily later-occurring—effects of these changes upon the price structure. Only in the final state of a ceaseless inflation do things become different. The panic of the currency catastrophe, the crack-up boom, is not only characterized by a tendency for prices to rise beyond all measure, but also by a rise beyond all measure of the positive price premium. No gross rate of interest, however great, appears to a prospective lender high enough to compensate for the losses expected from the progressing drop in the monetary unit’s purchasing power. He abstains from lending and prefers to buy himself “real” goods. The loan market comes to a stand-still.

  4

  The Loan Market

  The gross rates of interest as determined on the loan market are not uniform. The entrepreneurial component which they always include varies according to the peculiar characteristics of the specific deal. It is one of the most serious shortcomings of all historical and statistical studies devoted to the movement of interest rates that they neglect this factor. It is useless to arrange data concerning interest rates of the open market or the discount rates of the central banks in time series. The various data available for the construction of such time series are incommensurable. The same central bank’s rate of discount meant something different in various periods of time. The institutional conditions affecting the activities of various nations’ central banks, their private banks, and their organized loan markets are so different, that it is entirely misleading to compare the nominal interest rates without paying full regard to these diversities. We know a priori that, other things being equal, the lenders are intent upon preferring high interest rates to low ones, and the debtors upon preferring low rates to high ones. But these other things are never equal. There prevails upon the loan market a tendency toward the equalization of gross interest rates for loans for which the factors determining the height of the entrepreneurial component and the price premium are equal. This knowledge provides a mental tool for the interpretation of the facts concerning the history of interest rates. Without the aid of this knowledge, the vast historical and statistical material available would be merely an accumulation of meaningless figures. In arranging time series of the prices of certain primary commodities, empiricism has at least an apparent justification in the fact that the price data dealt with refer to the same physical object. It is a spurious excuse indeed as prices are not related to the unchanging physical properties of things, but to the changing values which acting men attach to them. But in the study of interest rates, even this lame excuse cannot be advanced. Gross interest rates as they appear in reality have nothing else in common than those characteristics which catallactic theory sees in them. They are complex phenomena and can never be used for the construction of an empirical or a posteriori theory of interest. They can neither verify nor falsify what economics teaches about the problems involved. They constitute, if carefully analyzed with all the knowledge economics conveys, invaluable documentation for economic history; they are of no avail for economic theory.

  It is customary to distinguish the market for short-term loans (money market) from the market for long-term loans (capital market). A more penetrating analysis must even go further in classifying loans according to their duration. Besides, there are differences with regard to the legal characteristics which the terms of the contract assign to the lender’s claim. In short, the loan market is not homogeneous. But the most conspicuous differences arise from the entrepreneurial component included in the gross rates of interest. It is this that people refer to when asserting that credit is based on trust or confidence.

  The connexity between all sectors of the loan market and the gross rates of interest determined on them is brought about by the inherent tendency of the net rates of interest included in these gross rates toward the final state of originary interest. With regard to this tendency, catallactic theory is free to deal with the market rate of interest as if it were a uniform phenomenon, and to abstract from the entrepreneurial component which is necessarily always included in the gross rates and from the price premium which is occasionally included.

  The prices of all commodities and services are at any instant moving toward a final state. If this final state were ever to be reached, it would show in the ratio between the prices of present goods and future goods the final state of originary interest. However, the changing economy never reaches the imaginary final state. New data emerge again and again and divert the trend of prices from the previous goal of their movement toward a different final state to which a different rate of originary interest may correspond. In the rate of originary interest there is no more permanence than in prices and wage rates.

  Those people whose provident action is intent upon adjusting the employment of the factors of production to the changes occurring in the data—viz., the entrepreneurs and promotors—base their calculations upon the prices, wage rates, and interest rates as determined on the market. They discover discrepancies between the present prices of the complementary factors of production and the anticipated prices of the products minus the market rate of interest, and are eager to profit from them. The role which the rate of interest plays in these deliberations of the planning businessman is obvious. It shows him how far he can go in withholding factors of production from employment for want-satisfaction in nearer periods of the future and in dedicating them to want-satisfaction in remoter periods. It shows him what period of production conforms in every concrete case to the difference which the public makes in the ratio of valuation between present goods and future goods. It prevents him from embarking upon projects the execution of which would not agree with the limited amount of capital goods provided by the saving of the public.

  It is in influencing this primordial function of the rate of interest that the driving force of money can become operative in a particular way. Cashinduced changes in the money relation can under certain circumstances affect the loan market before they affect the prices of commodities and of labor. The increase or decrease in the supply of money (in the broader sense) can increase or decrease the supply of money offered on the loan market and thereby lower or raise the gross market rate of interest although no change in the rate of originary interest has taken place. If this happens, the market rate deviates from the height which the state of originary interest and the supply of capital goods available for production would require. Then the market rate of interest fails to fulfill the function it plays in guiding entrepreneurial decisions. It frustrates the entrepreneur’s calculation and diverts his actions from those lines in which they would in the best possible way satisfy the most urgent needs of the consumers.

  Then there is a second important fact to realize. If, other things being equal, the supply of money (in the broader sense) increases or decreases and thus brings about a general tendency for prices to rise or to drop, a positive or negative price premium would have to appear and to raise or lower the gross rate of market interest. But if such changes in the money relation affect first the loan market, they bring about just the opposite changes in the configuration of the gross market rates of interest. While a positive or negative price premium would be required to adjust the market rates of interest to the changes in the money relation, gross interest rates are in fact dropping or rising. This is the second reason why the instrumentality of the price premium cannot entirely eliminate the repercussions of cash-induced changes in the money relation upon the content of contracts concerning deferred payments. Its operation begins too late, it lags behind the changes in purchasing power, as has been shown above. Now we see that under certain circumstances the forces that push in the opposite direction manifest themselves sooner on the market than an adequate price premium.

  5

  The Effects of Changes in the Money Relation Upon Originary Interest

  Like every change in the market data, changes in the money relation can possibly influence the rate of originary interest. According to the advocates of the inflationist view of history, inflation by and large tends to increase the earnings of the entrepreneurs. They reason this way: Commodity prices rise sooner and to a steeper level than wage rates. On the one hand, wage earners and salaried people, classes who spend the greater part of their income for consumption and save little, are adversely affected and must accordingly restrict their expenditures. On the other hand, the proprietary strata of the population, whose propensity to save a considerable part of their income is much greater, are favored; they do not increase their consumption in proportion, but also increase their savings. Thus in the community as a whole there arises a tendency toward an intensified accumulation of new capital. Additional investment is the corollary of the restriction of consumption imposed upon that part of the population which consumes the much greater part of the annual produce of the economic system. This forced saving lowers the rate of originary interest. It accelerates the pace of economic progress and the improvement in technological methods.

  It is true that such forced saving can originate from an inflationary movement and occasionally did so originate in the past. In dealing with the effects of changes in the money relation upon the height of interest rates, one must not neglect the fact that such changes can under certain circumstances really alter the rate of originary interest. But several other facts must be taken into account, too.

  First one must realize that forced saving can result from inflation, but need not necessarily. It depends on the particular data of each instance of inflation whether or not the rise in wage rates lags behind the rise in commodity prices. A tendency for real wage rates to drop is not an inescapable consequence of a decline in the monetary unit’s purchasing power. It could happen that nominal wage rates rise more or sooner than commodity prices.4

  Furthermore, it is necessary to remember that the greater propensity of the wealthier classes to save and to accumulate capital is merely a psychological and not a praxeological fact. It could happen that these people to whom the inflationary movement conveys additional proceeds do not save and invest their boon but employ it for an increase in their consumption. It is impossible to predict with the apodictic definiteness which characterizes all theorems of economics, in what way those profiting from the inflation will act. History can tell us what happened in the past. But it cannot assert that it must happen again in the future.

  It would be a serious blunder to neglect the fact that inflation also generates forces which tend toward capital consumption. One of its consequences is that it falsifies economic calculation and accounting. It produces the phenomenon of illusory or apparent profits. If the annual depreciation quotas are determined in such a way as not to pay full regard to the fact that the replacement of worn-out equipment will require higher costs than the amount for which it was purchased in the past, they are obviously insufficient. If in selling inventories and products the whole difference between the price spent for their acquisition and the price realized in the sale is entered in the books as a surplus, the error is the same. If the rise in the prices of stocks and real estate is considered as a gain, the illusion is no less manifest. What makes people believe that inflation results in general prosperity is precisely such illusory gains. They feel lucky and become openhanded in spending and enjoying life. They embellish their homes, they build new mansions and patronize the entertainment business. In spending apparent gains, the fanciful result of false reckoning, they are consuming capital. It does not matter who these spenders are. They may be businessmen or stock jobbers. They may be wage earners whose demand for higher pay is satisfied by the easygoing employers who think that they are getting richer from day to day. They may be people supported by taxes which usually absorb a great part of the apparent gains.

  Finally, with the progress of inflation more and more people become aware of the fall in purchasing power. For those not personally engaged in business and not familiar with the conditions of the stock market, the main vehicle of saving is the accumulation of savings deposits, the purchase of bonds and life insurance. All such savings are prejudiced by inflation. Thus saving is discouraged and extravagance seems to be indicated. The ultimate reaction of the public, the “flight into real values,” is a desperate attempt to salvage some debris from the ruinous breakdown. It is, viewed from the angle of capital preservation, not a remedy, but merely a poor emergency measure. It can, at best, rescue a fraction of the saver’s funds.

  The main thesis of the champions of inflationism and expansionism is thus rather weak. It may be admitted that in the past inflation sometimes, but not always, resulted in forced saving and an increase in capital available. However, this does not mean that it must produce the same effects in the future too. On the contrary, one must realize that under modern conditions the forces driving toward capital consumption are more likely to prevail under inflationary conditions than those driving toward capital accumulation. At any rate, the final effect of such changes upon saving, capital, and the originary rate of interest depends upon the particular data of each instance.

  The same is valid, with the necessary changes, with regard to the analogous consequences and effects of a deflationist or restrictionist movement.

  6

  The Gross Market Rate of Interest as Affected by Inflation and Credit Expansion

  Whatever the ultimate effects of an inflationary or deflationary movement upon the height of the rate of originary interest may be, there is no correspondence between them and the temporary alterations which a cashinduced change in the money relation can bring about in the gross market rate of interest. If the inflow of money and money-substitutes into the market system or the outflow from it affects the loan market first, it temporarily disarranges the congruity between the gross market rates of interest and the rate of originary interest. The market rate rises or drops on account of the decrease or increase in the amount of money offered for lending, with no correlation to changes in the originary rate of interest which in the later course of events can possibly occur from the changes in the money relation. The market rate deviates from the height determined by that of the originary rate of interest, and forces come into operation which tend to adjust it anew to the ratio which corresponds to that of originary interest. It may happen that in the period of time which this adjustment requires, the height of originary interest varies, and this change can also be caused by the inflationary or deflationary process which brought about the deviation. Then the final rate of originary interest determining the final market rate toward which the readjustment tends is not the same rate which prevailed on the eve of the disarrangement. Such an occurrence may affect the data of the process of adjustment, but it does not affect its essence.

  The phenomenon to be dealt with is this: The rate of originary interest is determined by the discount of future goods as against present goods. It is essentially independent of the supply of money and money-substitutes, notwithstanding the fact that changes in the supply of money and money-substitutes can indirectly affect its height. But the gross market rate of interest can be affected by changes in the money relation. A readjustment must take place. What is the nature of the process which brings it about?

  In this section we are concerned only with inflation and credit expansion. For the sake of simplicity we assume that the whole additional amount of money and money-substitutes flows into the loan market and reaches the rest of the market only via the loans granted. This corresponds precisely to the conditions of an expansion of circulation credit.5 Our scrutiny thus amounts to an analysis of the process caused by credit expansion.

  In dealing with this analysis, we must refer again to the price premium. It has been mentioned already that at the very beginning of a credit expansion no positive price premium arises. A price premium cannot appear until the additional supply of money (in the broader sense) has already begun to affect the prices of commodities and services. But as long as credit expansion goes on and additional quantities of fiduciary media are hurled on the loan market, there continues a pressure upon the gross market rate of interest. The gross market rate would have to rise on account of the positive price premium which, with the progress of the expansionist process, would have to rise continually. But as credit expansion goes on, the gross market rate continues to lag behind the height at which it would cover both originary interest plus the positive price premium.

  It is necessary to stress this point because it explodes the customary methods according to which people distinguish between what they consider low and high rates of interest. It is usual to take into account merely the arithmetical height of the rates or the trend which appears in their movement. Public opinion has definite ideas about a “normal” rate, something between 3 and 5 per cent. When the market rate rises above this height or when the market rates—without regard to their arithmetical ratio—are rising above their previous height, people believe that they are right in speaking of high or rising interest rates. As against these errors, it is necessary to emphasize that under the conditions of a general rise in prices (drop in the monetary unit’s purchasing power) the gross market rate of interest can be considered as unchanged with regard to conditions of a period of a by and large unchanging purchasing power only if it includes a by and large adequate positive price premium. In this sense, the German Reichsbank’s discount rate of 90 per cent was, in the fall of 1923, a low rate—indeed a ridiculously low rate—as it considerably lagged behind the price premium and did not leave anything for the other components of the gross market rate of interest. Essentially the same phenomenon manifests itself in every instance of a prolonged credit expansion. Gross market rates of interest rise in the further course of every expansion, but they are nonetheless low as they do not correspond to the height required by the expected further general rise in prices.

  In analyzing the process of credit expansion, let us assume that the economic system’s process of adjustment to the market data and of movement toward the establishment of final prices and interest rates is disturbed by the appearance of a new datum, namely, an additional quantity of fiduciary media offered on the loan market. At the gross market rate which prevailed on the eve of this disturbance, all those who were ready to borrow money at this rate, due allowance being made for the entrepreneurial component in each case, could borrow as much as they wanted. Additional loans can be placed only at a lower gross market rate. It does not matter whether this drop in the gross market rate expresses itself in an arithmetical drop in the percentage stipulated in the loan contracts, or whether the nominal interest rates remain unchanged and the expansion manifests itself in the fact that at these rates loans are negotiated which would not have been made before on account of the height of the entrepreneurial component to be included. Such an outcome too amounts to a drop in gross market rates and brings about the same consequences.

  A drop in the gross market rate of interest affects the entrepreneur’s calculation concerning the chances of the profitability of projects considered. Along with the prices of the material factors of production, wage rates, and the anticipated future prices of the products, interest rates are items that enter into the planning businessman’s calculation. The result of this calculation shows the businessman whether or not a definite project will pay. It shows him what investments can be made under the given state of the ratio in the public’s valuation of future goods as against present goods. It brings his actions into agreement with this valuation. It prevents him from embarking upon projects the realization of which would be disapproved by the public because of the length of the waiting time they require. It forces him to employ the available stock of capital goods in such a way as to satisfy best the most urgent wants of the consumers.

  But now the drop in interest rates falsifies the businessman’s calculation. Although the amount of capital goods available did not increase, the calculation employs figures which would be utilizable only if such an increase had taken place. The result of such calculations is therefore misleading. They make some projects appear profitable and realizable which a correct calculation, based on an interest rate not manipulated by credit expansion, would have shown as unrealizable. Entrepreneurs embark upon the execution of such projects. Business activities are stimulated. A boom begins.

  The additional demand on the part of the expanding entrepreneurs tends to raise the prices of producers’ goods and wage rates. With the rise in wage rates, the prices of consumers’ goods rise too. Besides, the entrepreneurs are contributing a share to the rise in the prices of consumers’ goods as they too, deluded by the illusory gains which their business accounts show, are ready to consume more. The general upswing in prices spreads optimism. If only the prices of producers’ goods had risen and those of consumers’ goods had not been affected, the entrepreneurs would have become embarrassed. They would have had doubts concerning the soundness of their plans, as the rise in costs of production would have upset their calculations. But they are reassured by the fact that the demand for consumers’ goods is intensified and makes it possible to expand sales in spite of rising prices. Thus they are confident that production will pay, notwithstanding the higher costs it involves. They are resolved to go on.

  Of course, in order to continue production on the enlarged scale brought about by the expansion of credit, all entrepreneurs, those who did expand their activities no less than those who produce only within the limits in which they produced previously, need additional funds as the costs of production are now higher. If the credit expansion consists merely in a single, not repeated injection of a definite amount of fiduciary media into the loan market and then ceases altogether, the boom must very soon stop. The entrepreneurs cannot procure the funds they need for the further conduct of their ventures. The gross market rate of interest rises because the increased demand for loans is not counterpoised by a corresponding increase in the quantity of money available for lending. Commodity prices drop because some entrepreneurs are selling inventories and others abstain from buying. The size of business activities shrinks again. The boom ends because the forces which brought it about are no longer in operation. The additional quantity of circulation credit has exhausted its operation upon prices and wage rates. Prices, wage rates, and the various individuals’ cash holdings are adjusted to the new money relation; they move toward the final state which corresponds to this money relation, without being disturbed by further injections of additional fiduciary media. The rate of originary interest which is coordinated to this new structure of the market acts with full momentum upon the gross market rate of interest. The gross market rate is no longer subject to disturbing influences exercised by cash-induced changes in the supply of money (in the broader sense).

  The main deficiency of all attempts to explain the boom—viz., the general tendency to expand production and of all prices to rise—without reference to changes in the supply of money or fiduciary media, is to be seen in the fact that they disregard this circumstance. A general rise in prices can only occur if there is either a drop in the supply of all commodities or an increase in the supply of money (in the broader sense). Let us, for the sake of argument, admit for the moment that the statements of these nonmonetary explanations of the boom and the trade cycle are correct. Prices advance and business activities expand although no increase in the supply of money has occurred. Then very soon a tendency toward a drop in prices must arise, the demand for loans must increase, the gross market rates of interest must rise, and the short-lived boom comes to an end. In fact, every nonmonetary trade-cycle doctrine tacitly assumes—or ought logically to assume—that credit expansion is an attendant phenomenon of the boom.6 It cannot help admitting that in the absence of such a credit expansion no boom could emerge and that the increase in the supply of money (in the broader sense) is a necessary condition of the general upward movement of prices. Thus on close inspection the statements of the nonmonetary explanations of cyclical fluctuations shrink to the assertion that credit expansion, while an indispensable requisite of the boom, is in itself alone not sufficient to bring it about and that some further conditions are required for its appearance.

  Yet, even in this restricted sense, the teachings of the nonmonetary doctrines are vain. It is evident that every expansion of credit must bring about the boom as described above. The boom-creating tendency of credit expansion can fail to come only if another factor simultaneously counterbalances its growth. If, for instance, while the banks expand credit, it is expected that the government will completely tax away the businessmen’s “excess” profits or that it will stop the further progress of credit expansion as soon as “pump-priming” will have resulted in rising prices, no boom can develop. The entrepreneurs will abstain from expanding their ventures with the aid of the cheap credits offered by the banks because they cannot expect to increase their gains. It is necessary to mention this fact because it explains the failure of the New Deal’s pump-priming measures and other events of the ’thirties.

  The boom can last only as long as the credit expansion progresses at an ever-accelerated pace. The boom comes to an end as soon as additional quantities of fiduciary media are no longer thrown upon the loan market. But it could not last forever even if inflation and credit expansion were to go on endlessly. It would then encounter the barriers which prevent the boundless expansion of circulation credit. It would lead to the crack-up boom and the breakdown of the whole monetary system.

  The essence of monetary theory is the cognition that cash-induced changes in the money relation affect the various prices, wage rates, and interest rates neither at the same time nor to the same extent. If this unevenness were absent, money would be neutral; changes in the money relation would not affect the structure of business, the size and direction of production in the various branches of industry, consumption, and the wealth and income of the various strata of the population. Then the gross market rate of interest too would not be affected—either temporarily or lastingly—by changes in the sphere of money and circulation credit. The fact that such changes can modify the rate of originary interest is caused by the changes which this unevenness brings about in the wealth and income of various individuals. The fact that, apart from these changes in the rate of originary interest, the gross market rate is temporarily affected is in itself a manifestation of this unevenness. If the additional quantity of money enters the economic system in such a way as to reach the loan market only at a date at which it has already made commodity prices and wage rates rise, these immediate temporary effects upon the gross market rate of interest will be either slight or entirely absent. The gross market rate of interest is the more violently affected, the sooner the inflowing additional supply of money or fiduciary media reaches the loan market.

  When under the conditions of credit expansion the whole amount of the additional money-substitutes is lent to business, production is expanded. The entrepreneurs embark either upon lateral expansion of production (viz., the expansion of production without lengthening the period of production in the individual industry) or upon longitudinal expansion (viz., the lengthening of the period of production). In either case, the additional plants require the investment of additional factors of production. But the amount of capital goods available for investment has not increased. Neither does credit expansion bring about a tendency toward a restriction of consumption. It is true, as has been pointed out above in dealing with forced saving, that in the further progress of the expansion a part of the population will be compelled to restrict its consumption. But it depends on the particular conditions of each instance of credit expansion whether this forced saving of some groups of the people will overcompensate the increase in consumption on the part of other groups and will thus result in a net increase in the total amount of saving in the whole market system. At any rate, the immediate consequence of credit expansion is a rise in consumption on the part of those wage earners whose wages have risen on account of the intensified demand for labor displayed by the expanding entrepreneurs. Let us for the sake of argument assume that the increased consumption of these wage earners favored by the inflation and the forced saving of other groups prejudiced by the inflation are equal in amount and that no change in the total amount of consumption has occurred. Then the situation is this: Production has been altered in such a way that the length of waiting time has been extended. But the demand for consumers’ goods has not dropped so as to make the available supply last for a longer period. Of course, this fact results in a rise in the prices of consumers’ goods and thus brings about the tendency toward forced saving. However, this rise in the prices of consumers’ goods strengthens the tendency of business to expand. The entrepreneurs draw from the fact that demand and prices are rising the inference that it will pay to invest and to produce more. They go on and their intensified activities bring about a further rise in the prices of producers’ goods, in wage rates, and thereby again in the prices of consumers’ goods. Business booms as long as the banks are expanding credit more and more.

  On the eve of the credit expansion all those production processes were in operation which, under the given state of the market data, were deemed profitable. The system was moving toward a state in which all those eager to earn wages would be employed and all nonconvertible factors of production would be employed to the extent that the demand of the consumers and the available supply of nonspecific material factors and of labor would permit. A further expansion of production is possible only if the amount of capital goods is increased by additional saving, i.e., by surpluses produced and not consumed. The characteristic mark of the credit-expansion boom is that such additional capital goods have not been made available. The capital goods required for the expansion of business activities must be withdrawn from other lines of production.

  We may call p the total supply of capital goods available on the eve of the credit expansion, and g the total amount of consumers’ goods which these p could, over a definite period of time, make available for consumption without prejudice to further production. Now the entrepreneurs, enticed by credit expansion, embark upon the production of an additional quantity of g₃ of goods of the same kind which they already used to produce, and of a quantity of g₄ of goods of a kind not produced by them before. For the production of g₃ a supply of p₃ of capital goods is needed, and for the production of g₄ a supply of p₄. But as, according to our assumptions, the amount of capital goods available has remained unaltered, the quantities p₃ and p₄ are lacking. It is precisely this fact that distinguishes the “artificial” boom created by credit expansion from a “normal” expansion of production which only the addition of p₃ and p₄ to p can bring about.

  Let us call r that amount of capital goods which, out of the gross proceeds of production over a definite period of time, must be reinvested for the replacement of those parts of p used up in the process of production. If r is employed for such replacement, one will be in a position to turn out g again in the following period of time; if r is withheld from this employment, p will be reduced by r, and p − r will turn out in the following period of time only g − a. We may further assume that the economic system affected by credit expansion is a progressing system. It produced “normally,” as it were, in the period of time preceding the credit expansion a surplus of capital goods p₁ + p₂. If no credit expansion had intervened, p₁ would have been employed for the production of an additional quantity of g₁ of the kind of goods produced previously, and p₂ for the production of the supply of g₂ of a kind of goods not produced before. The total amount of capital goods which are at the entrepreneurs’ disposal and with regard to which they are free to make plans is r + p₁ + p₂. However, deluded by the cheap money, they act as if r + p₁ + p₂ + p₃ + p₄ were available and as if they were in a position to produce not only g + g₁ + g₂, but beyond this also g₃ + g₄. They outbid one another in competing for a share of a supply of capital goods which is insufficient for the realization of their overambitious plans.

  The ensuing boom in the prices of producers’ goods may at the beginning outrun the rise in the prices of consumer’s goods. It may thus bring about a tendency toward a fall in the originary rate of interest. But with further progress of the expansionist movement the rise in the prices of the consumers’ goods will outstrip the rise in the prices of producers’ goods. The rise in wages and salaries and the additional gains of the capitalists, entrepreneurs, and farmers, although a great part of them is merely apparent, intensify the demand for consumers’ goods. There is no need to enter into a scrutiny of the assertion of the advocates of credit expansion that the boom can, by means of forced saving, really increase the total supply of consumers’ goods. At any rate, it is certain that the intensified demand for consumers’ goods affects the market at a time when the additional investments are not yet in a position to turn out their products. The gulf between the prices of present goods and those of future goods widens again. A tendency toward a rise in the rate of originary interest is substituted for the tendency toward the opposite which may have come into operation at the earlier stages of the expansion.

  This tendency toward a rise in the rate of originary interest and the emergence of a positive price premium explain some characteristics of the boom. The banks are faced with an increased demand for loans and advances on the part of business. The entrepreneurs are prepared to borrow money at higher gross rates of interest. They go on borrowing in spite of the fact that banks charge more interest. Arithmetically, the gross rates of interest are rising above their height on the eve of the expansion. Nonetheless, they lag catallactically behind the height at which they would cover originary interest plus entrepreneurial component and price premium. The banks believe that they have done all that is needed to stop “unsound” speculation when they lend on more onerous terms. They think that those critics who blame them for fanning the flames of the boom-frenzy of the market are wrong. They fail to see that in injecting more and more fiduciary media into the market they are in fact kindling the boom. It is the continuous increase in the supply of the fiduciary media that produces, feeds, and accelerates the boom. The state of the gross market rates of interest is only an outgrowth of this increase. If one wants to know whether or not there is credit expansion, one must look at the state of the supply of fiduciary media, not at the arithmetical state of interest rates.

  It is customary to describe the boom as overinvestment. However, additional investment is only possible to the extent that there is an additional supply of capital goods available. As, apart from forced saving, the boom itself does not result in a restriction but rather in an increase in consumption, it does not procure more capital goods for new investment. The essence of the credit-expansion boom is not overinvestment, but investment in wrong lines, i.e., malinvestment. The entrepreneurs employ the available supply of r + p₁ + p₂ as if they were in a position to employ a supply of r + p₁ + p_{2 +} p₃ + p₄. They embark upon an expansion of investment on a scale for which the capital goods available do not suffice. Their projects are unrealizable on account of the insufficient supply of capital goods. They must fail sooner or later. The unavoidable end of the credit expansion makes the faults committed visible. There are plants which cannot be utilized because the plants needed for the production of the complementary factors of production are lacking; plants the products of which cannot be sold because the consumers are more intent upon purchasing other goods which, however, are not produced in sufficient quantities; plants the construction of which cannot be continued and finished because it has become obvious that they will not pay.

  The erroneous belief that the essential feature of the boom is overinvestment and not malinvestment is due to the habit of judging conditions merely according to what is perceptible and tangible. The observer notices only the malinvestments which are visible and fails to recognize that these establishments are malinvestments only because of the fact that other plants—those required for the production of the complementary factors of production and those required for the production of consumers’ goods more urgently demanded by the public—are lacking. Technological conditions make it necessary to start an expansion of production by expanding first the size of the plants producing the goods of those orders which are farthest removed from the finished consumers’ goods. In order to expand the production of shoes, clothes, motorcars, furniture, houses, one must begin with increasing the production of iron, steel, copper, and other such goods. In employing the supply of r + p₁ + p₂ which would suffice for the production of a + g₁ + g₂ as if it were r + p₁ + p₂ + p₃ + p₄ and would suffice for the production of a + g₁ + g₂ + g₃ + g₄, one must first engage in increasing the output of those products and structures which for physical reasons are first required. The whole entrepreneurial class is, as it were, in the position of a master-builder whose task it is to erect a building out of a limited supply of building materials. If this man overestimates the quantity of the available supply, he drafts a plan for the execution of which the means at his disposal are not sufficient. He oversizes the groundwork and the foundations and only discovers later in the progress of the construction that he lacks the material needed for the completion of the structure. It is obvious that our master-builder’s fault was not overinvestment, but an inappropriate employment of the means at his disposal.

  It is no less erroneous to believe that the events which resulted in the crisis amounted to an undue conversion of “circulating” capital into “fixed” capital. The individual entrepreneur, when faced with the credit stringency of the crisis, is right in regretting that he has expended too much for an expansion of his plant and for the purchase of durable equipment; he would have been in a better situation if the funds used for these purposes were still at his disposal for the current conduct of business. However, raw materials, primary commodities, half-finished manufactures and foodstuffs are not lacking at the turning point at which the upswing turns into the depression. On the contrary, the crisis is precisely characterized by the fact that these goods are offered in such quantities as to make their prices drop sharply.

  The foregoing statements explain why an expansion in the production facilities and the production of the heavy industries, and in the production of durable producers’ goods, is the most conspicuous mark of the boom. The editors of the financial and commercial chronicles were right when—for more than a hundred years—they looked upon production figures of these industries as well as of the construction trades as an index of business fluctuations. They were only mistaken in referring to an alleged overinvestment.

  Of course, the boom affects also the consumers’ goods industries. They too invest more and expand their production capacity. However, the new plants and the new annexes added to the already existing plants are not always those for the products of which the demand of the public is most intense. They may well have agreed with the whole plan aiming at the production of r + g₁ + g₂ + g₃ + g₄. The failure of this oversized plan discloses their inappropriateness.

  A sharp rise in commodity prices is not always an attending phenomenon of the boom. The increase of the quantity of fiduciary media certainly always has the potential effect of making prices rise. But it may happen that at the same time forces operating in the opposite direction are strong enough to keep the rise in prices within narrow limits or even to remove it entirely. The historical period in which the smooth working of the market economy was again and again interrupted through expansionist ventures was an epoch of continuous economic progress. The steady advance in the accumulation of new capital made technological improvement possible. Output per unit of input was increased and business filled the markets with increasing quantities of cheap goods. If the synchronous increase in the supply of money (in the broader sense) had been less plentiful than it really was, a tendency toward a drop in the prices of all commodities would have taken effect. As an actual historical event credit expansion was always embedded in an environment in which powerful factors were counteracting its tendency to raise prices. As a rule the resultant of the clash of opposite forces was a preponderance of those producing a rise in prices. But there were some exceptional instances too in which the upward movement of prices was only slight. The most remarkable example was provided by the American boom of 1926–29.7

  The essential features of a credit expansion are not affected by such a particular constellation of the market data. What induces an entrepreneur to embark upon definite projects is neither high prices nor low prices as such, but a discrepancy between the costs of production, inclusive of interest on the capital required, and the anticipated prices of the products. A lowering of the gross market rate of interest as brought about by credit expansion always has the effect of making some projects appear profitable which did not appear so before. It actuates business to employ r + p₁ + p₂ as if it were r + p₁ + p₂ + p₃ + p₄. It necessarily brings about a structure of investment and production activities which is at variance with the real supply of capital goods and must finally collapse. That sometimes the price changes involved are laid against a background of a general tendency toward a rise in purchasing power and do not convert this tendency into its manifest opposite but only into something which may by and large be called price stability, modifies merely some accessories of the process.

  However conditions may be, it is certain that no manipulations of the banks can provide the economic system with capital goods. What is needed for a sound expansion of production is additional capital goods, not money or fiduciary media. The credit expansion boom is built on the sands of banknotes and deposits. It must collapse.

  The breakdown appears as soon as the banks become frightened by the accelerated pace of the boom and begin to abstain from further expansion of credit. The boom could continue only as long as the banks were ready to grant freely all those credits which business needed for the execution of its excessive projects, utterly disagreeing with the real state of the supply of factors of production and the valuations of the consumers. These illusory plans, suggested by the falsification of business calculation as brought about by the cheap money policy, can be pushed forward only if new credits can be obtained at gross market rates which are artificially lowered below the height they would reach at an unhampered loan market. It is this margin that gives them the deceptive appearance of profitability. The change in the banks’ conduct does not create the crisis. It merely makes visible the havoc spread by the faults which business has committed in the boom period.

  Neither could the boom last endlessly if the banks were to cling stubbornly to their expansionist policies. Any attempt to substitute additional fiduciary media for nonexisting capital goods (namely, the quantities p₃ and p₄) is doomed to failure. If the credit expansion is not stopped in time, the boom turns into the crack-up boom; the flight into real values begins, and the whole monetary system founders. However, as a rule, the banks in the past have not pushed things to extremes. They have become alarmed at a date when the final catastrophe was still far away.8

  As soon as the afflux of additional fiduciary media comes to an end, the airy castle of the boom collapses. The entrepreneurs must restrict their activities because they lack the funds for their continuation on the exaggerated scale. Prices drop suddenly because these distressed firms try to obtain cash by throwing inventories on the market dirt cheap. Factories are closed, the continuation of construction projects in progress is halted, workers are discharged. As on the one hand many firms badly need money in order to avoid bankruptcy, and on the other hand no firm any longer enjoys confidence, the entrepreneurial component in the gross market rate of interest jumps to an excessive height.

  Accidental institutional and psychological circumstances generally turn the outbreak of the crisis into a panic. The description of these awful events can be left to the historians. It is not the task of catallactic theory to depict in detail the calamities of panicky days and weeks and to dwell upon their sometimes grotesque aspects. Economics is not interested in what is accidental and conditioned by the individual historical circumstances of each instance. Its aim is, on the contrary, to distinguish what is essential and necessary from what is merely adventitious. It is not interested in the psychological aspects of the panic, but only in the fact that a credit-expansion boom must unavoidably lead to a process which everyday speech calls the depression. It must realize that the depression is in fact the process of readjustment, of putting production activities anew in agreement with the given state of the market data: the available supply of factors of production, the valuations of the consumers, and particularly also the state of originary interest as manifested in the public’s valuations.

  These data, however, are no longer identical with those that prevailed on the eve of the expansionist process. A good many things have changed. Forced saving and, to an even greater extent, regular voluntary saving may have provided new capital goods which were not totally squandered through malinvestment and overconsumption as induced by the boom. Changes in the wealth and income of various individuals and groups of individuals have been brought about by the unevenness inherent in every inflationary movement. Apart from any causal relation to the credit expansion, population may have changed with regard to figures and the characteristics of the individuals comprising them; technological knowledge may have advanced, demand for certain goods may have been altered. The final state to the establishment of which the market tends is no longer the same toward which it tended before the disturbances created by the credit expansion.

  Some of the investments made in the boom period appear, when appraised with the sober judgment of the readjustment period, no longer dimmed by the illusions of the upswing, as absolutely hopeless failures. They must simply be abandoned because the current means required for their further exploitation cannot be recovered in selling their products; this “circulating” capital is more urgently needed in other branches of want-satisfaction; the proof is that it can be employed in a more profitable way in other fields. Other malinvestments offer somewhat more favorable chances. It is, of course, true that one would not have embarked upon putting capital goods into them if one had correctly calculated. The inconvertible investments made on their behalf are certainly wasted. But as they are inconvertible, a fait accompli, they present further action with a new problem. If the proceeds which the sale of their products promises are expected to exceed the costs of current operation, it is profitable to carry on. Although the prices which the buying public is prepared to allow for their products are not high enough to make the whole of the inconvertible investment profitable, they are sufficient to make a fraction, however small, of the investment profitable. The rest of the investment must be considered as expenditure without any offset, as capital squandered and lost.

  If one looks at this outcome from the point of view of the consumers, the result is, of course, the same. The consumers would be better off if the illusions created by the easy-money policy had not enticed the entrepreneurs to waste scarce capital goods by investing them for the satisfaction of less urgent needs and thereby withholding them from lines of production in which they would have satisfied more urgent needs. But as things are now, they cannot but put up with what is irrevocable. They must for the time being renounce certain amenities which they could have enjoyed if the boom had not engendered malinvestment. But, on the other hand, they can find partial compensation in the fact that some enjoyments are now available to them which would have been beyond their reach if the smooth course of economic activities had not been disturbed by the orgies of the boom. It is slight compensation only, as their demand for those other things which they do not get because of inappropriate employment of capital goods is more intense than their demand for these “substitutes,” as it were. But it is the only choice left to them as conditions and data are now.

  The final outcome of the credit expansion is general impoverishment. Some people may have increased their wealth; they did not let their reasoning be obfuscated by the mass hysteria, and took advantage in time of the opportunities offered by the mobility of the individual investor. Other individuals and groups of individuals may have been favored, without any initiative of their own, by the mere time lag between the rise in the prices of the goods they sell and those they buy. But the immense majority must foot the bill for the malinvestments and the overconsumption of the boom episode.

  One must guard oneself against a misinterpretation of this term impoverishment. It does not necessarily mean impoverishment when compared with the conditions that prevailed on the eve of the credit expansion. Whether or not an impoverishment in this sense takes place depends on the particular data of each case; it cannot be predicated apodictically by catallactics. What catallactics has in mind when asserting that impoverishment is an unavoidable outgrowth of credit expansion is impoverishment as compared with the state of affairs which would have developed in the absence of credit expansion and the boom. The characteristic mark of economic history under capitalism is unceasing economic progress, a steady increase in the quantity of capital goods available, and a continuous trend toward an improvement in the general standard of living. The pace of this progress is so rapid that, in the course of a boom period, it may well outstrip the synchronous losses caused by malinvestment and overconsumption. Then the economic system as a whole is more prosperous at the end of the boom than it was at its very beginning; it appears impoverished only when compared with the potentialities which existed for a still better state of satisfaction.

  The Alleged Absence of Depressions Under Totalitarian Management

  Many socialist authors emphasize that the recurrence of economic crises and business depressions is a phenomenon inherent in the capitalist mode of production. On the other hand, they say, a socialist system is safe against this evil.

  As has already become obvious and will be shown later again, the cyclical fluctuations of business are not an occurrence originating in the sphere of the unhampered market, but a product of government interference with business conditions designed to lower the rate of interest below the height at which the free market would have fixed it.9 At this point we have only to deal with the alleged stability as secured by socialist planning.

  It is essential to realize that what makes the economic crisis emerge is the democratic process of the market. The consumers disapprove of the employment of the factors of production as effected by the entrepreneurs. They manifest their disapprobation by their conduct in buying and abstention from buying. The entrepreneurs, misled by the illusions of the artificially lowered gross market rate of interest, have failed to invest in those lines in which the most urgent needs of the public would have been satisfied in the best possible way. As soon as the credit expansion comes to an end, these faults become manifest. The attitudes of the consumers force the businessmen to adjust their activities anew to the best possible want-satisfaction. It is this process of liquidation of the faults committed in the boom and of readjustment to the wishes of the consumers which is called the depression.

  But in a socialist economy it is only the government’s value judgments that count, and the people are deprived of any means of making their own value judgments prevail. A dictator does not bother about whether or not the masses approve of his decision concerning how much to devote for current consumption and how much for additional investment. If the dictator invests more and thus curtails the means available for current consumption, the people must eat less and hold their tongues. No crisis emerges because the subjects have no opportunity to utter their dissatisfaction. Where there is no business at all, business can be neither good nor bad. There may be starvation and famine, but no depression in the sense in which this term is used in dealing with the problems of a market economy. Where the individuals are not free to choose, they cannot protest against the methods applied by those directing the course of production activities.

  7

  The Gross Market Rate of Interest as Affected by Deflation and Credit Contraction

  We assume that in the course of a deflationary process the whole amount by which the supply of money (in the broader sense) is reduced is taken from the loan market. Then the loan market and the gross market rate of interest are affected at the very beginning of the process, at a moment at which the prices of commodities and services are not yet altered by the change going on in the money relation. We may, for instance, posit that a government aiming at deflation floats a loan and destroys the paper money borrowed. Such a procedure has been, in the last two hundred years, adopted again and again. The idea was to raise, after a prolonged period of inflationary policy, the national monetary unit to its previous metallic parity. Of course, in most cases the deflationary projects were soon abandoned as their execution encountered increasing opposition and, moreover, heavily burdened the treasury. Or we may assume that the banks, frightened by their adverse experience in the crisis brought about by credit expansion, are intent upon increasing the reserves held against their liabilities and therefore restrict the amount of circulation credit. A third possibility would be that the crisis has resulted in the bankruptcy of banks which granted circulation credit and that the annihilation of the fiduciary media issued by these banks reduces the supply of credit on the loan market.

  In all these cases a temporary tendency toward a rise in the gross market rate of interest ensues. Projects which would have appeared profitable before appear so no longer. A tendency develops toward a fall in the prices of factors of production and later toward a fall in the prices of consumers’ goods also. Business becomes slack. The deadlock ceases only when prices and wage rates are by and large adjusted to the new money relation. Then the loan market too adapts itself to the new state of affairs, and the gross market rate of interest is no longer disarranged by a shortage of money offered for advances. Thus a cash-induced rise in the gross market rate of interest produces a temporary stagnation of business. Deflation and credit contraction no less than inflation and credit expansion are elements disarranging the smooth course of economic activities. However, it is a blunder to look upon deflation and contraction as if they were simply counterparts of inflation and expansion.

  Expansion produces first the illusory appearance of prosperity. It is extremely popular because it seems to make the majority, even everybody, more affluent. It has an enticing quality. A special moral effort is needed to stop it. On the other hand, contraction immediately produces conditions which everybody is ready to condemn as evil. Its unpopularity is even greater than the popularity of expansion. It creates violent opposition. Very soon the political forces fighting it become irresistible.

  Fiat money inflation and cheap loans to the government convey additional funds to the treasury; deflation depletes the treasury’s vaults. Credit expansion is a boon for the banks, contraction is a forfeiture. There is a temptation in inflation and expansion and a repellent in deflation and contraction.

  But the dissimilarity between the two opposite modes of money and credit manipulation not only consists in the fact that while one of them is popular the other is universally loathed. Deflation and contraction are less likely to spread havoc than inflation and expansion not merely because they are only rarely resorted to. They are less disastrous also on account of their inherent effects. Expansion squanders scarce factors of production by malinvestment and overconsumption. If it once comes to an end, a tedious process of recovery is needed in order to wipe out the impoverishment it has left behind. But contraction produces neither malinvestment nor overconsumption. The temporary restriction in business activities that it engenders may by and large be offset by the drop in consumption on the part of the discharged wage earners and the owners of the material factors of production the sales of which drop. No protracted scars are left. When the contraction comes to an end, the process of readjustment does not need to make good for losses caused by capital consumption.

  Deflation and credit restriction never played a noticeable role in economic history. The outstanding examples were provided by Great Britain’s return, both after the wartime inflation of the Napoleonic wars and after that of the first World War, to the prewar gold parity of the sterling. In each case Parliament and Cabinet adopted the deflationist policy without having weighed the pros and cons of the two methods open for a return to the gold standard. In the second decade of the nineteenth century they could be exonerated, as at that time monetary theory had not yet clarified the problems involved. More than a hundred years later it was simply a display of inexcusable ignorance of economics as well as of monetary history.10

  Ignorance manifests itself also in the confusion of deflation and contraction and of the process of readjustment into which every expansionist boom must lead. It depends on the institutional structure of the credit system which created the boom whether or not the crisis brings about a restriction in the amount of fiduciary media. Such a restriction may occur when the crisis results in the bankruptcy of banks granting circulation credit and the falling off is not counterpoised by a corresponding expansion on the part of the remaining banks. But it is not necessarily an attendant phenomenon of the depression; it is beyond doubt that it has not appeared in the last eighty years in Europe and that the extent to which it occurred in the United States under the Federal Reserve Act of 1913 has been grossly exaggerated. The dearth of credit which marks the crisis is caused not by contraction but by the abstention from further credit expansion. It hurts all enterprises—not only those which are doomed at any rate, but no less those whose business is sound and could flourish if appropriate credit were available. As the outstanding debts are not paid back, the banks lack the means to grant credits even to the most solid firms. The crisis becomes general and forces all branches of business and all firms to restrict the scope of their activities. But there is no means of avoiding these secondary consequences of the preceding boom.

  As soon as the depression appears, there is a general lament over deflation and people clamor for a continuation of the expansionist policy. Now, it is true that even with no restrictions in the supply of money proper and fiduciary media available, the depression brings about a cash-induced tendency toward an increase in the purchasing power of the monetary unit. Every firm is intent upon increasing its cash holdings, and these endeavors affect the ratio between the supply of money (in the broader sense) and the demand for money (in the broader sense) for cash holding. This may be properly called deflation. But it is a serious blunder to believe that the fall in commodity prices is caused by this striving after greater cash holding. The causation is the other way around. Prices of the factors of production—both material and human—have reached an excessive height in the boom period. They must come down before business can become profitable again. The entrepreneurs enlarge their cash holding because they abstain from buying goods and hiring workers as long as the structure of prices and wages is not adjusted to the real state of the market data. Thus any attempt of the government or the labor unions to prevent or to delay this adjustment merely prolongs the stagnation.

  Even economists often failed to comprehend this concatenation. They argued thus: The structure of prices as it developed in the boom was a product of the expansionist pressure. If the further increase in fiduciary media comes to an end, the upward movement of prices and wages must stop. But, if there were no deflation, no drop in prices and wage rates could result.

  This reasoning would be correct if the inflationary pressure had not affected the loan market before it had exhausted its direct effects upon commodity prices. Let us assume that a government of an isolated country issues additional paper money in order to pay doles to the citizens of moderate income. The rise in commodity prices thus brought about would disarrange production; it would tend to shift production from the consumers’ goods regularly bought by the nonsubsidized groups of the nation to those which the subsidized groups are demanding. If the policy of subsidizing some groups in this way is later abandoned, the prices of the goods demanded by those formerly subsidized will drop and the prices of the goods demanded by those formerly nonsubsidized will rise more sharply. But there will be no tendency of the monetary unit’s purchasing power to return to the state of the pre-inflation period. The structure of prices will be lastingly affected by the inflationary venture if the government does not withdraw from the market the additional quantity of paper money it has injected in the shape of subsidies.

  Conditions are different under a credit expansion which first affects the loan market. In this case the inflationary effects are multiplied by the consequences of capital malinvestment and overconsumption. Overbidding one another in the struggle for a greater share in the limited supply of capital goods and labor, the entrepreneurs push prices to a height at which they can remain only as long as the credit expansion goes on at an accelerated pace. A sharp drop in the prices of all commodities and services is unavoidable as soon as the further inflow of additional fiduciary media stops.

  While the boom is in progress, there prevails a general tendency to buy as much as one can buy because a further rise in prices is anticipated. In the depression, on the other hand, people abstain from buying because they expect that prices will continue to drop. The recovery and the return to “normalcy” can only begin when prices and wage rates are so low that a sufficient number of people assume that they will not drop still more. Therefore the only means to shorten the period of bad business is to avoid any attempts to delay or to check the fall in prices and wage rates.

  Only when the recovery begins to take shape does the change in the money relation, as effected by the increase in the quantity of fiduciary media, begin to manifest itself in the structure of prices.

  The Difference Between Credit Expansion and Simple Inflation

  In dealing with the consequences of credit expansion we assumed that the total amount of additional fiduciary media enters the market system via the loan market as advances to business. All that has been predicated with regard to the effects of credit expansion refers to this condition.

  There are, however, instances in which the legal and technical methods of credit expansion are used for a procedure catallactically utterly different from genuine credit expansion. Political and institutional convenience sometimes makes it expedient for a government to take advantage of the facilities of banking as a substitute for issuing government fiat money. The treasury borrows from the bank, and the bank provides the funds needed by issuing additional banknotes or crediting the government on a deposit account. Legally the bank becomes the treasury’s creditor. In fact the whole transaction amounts to fiat money inflation. The additional fiduciary media enter the market by way of the treasury as payment for various items of government expenditure. It is this additional government demand that incites business to expand its activities. The issuance of these newly created fiat money sums does not directly interfere with the gross market rate of interest, whatever the rate of interest may be which the government pays to the bank. They affect the loan market and the gross market rate of interest, apart from the emergence of a positive price premium, only if a part of them reaches the loan market at a time at which their effects upon commodity prices and wage rates have not yet been consummated.

  Such were, for example, the conditions in the United States in the second World War. Apart from the credit expansion policy, which the Administration had already adopted before the outbreak of the war, the government borrowed heavily from the commercial banks. This was technically credit expansion; essentially it was a substitute for the issuance of greenbacks. Even more complicated techniques were resorted to in other countries. Thus, for instance, the German Reich in the first World War sold bonds to the public. The Reichsbank financed these purchases by lending the greater part of the funds needed to the buyers against the same bonds as collateral. Apart from the fraction which the buyer contributed from his own funds, the role that the Bank and the public played in the whole transaction was merely formal. Virtually, the additional banknotes were inconvertible paper money.

  It is important to pay heed to these facts in order not to confuse the consequences of credit expansion proper and those of government-made fiat money inflation.

  8

  The Monetary or Circulation Credit Theory of the Trade Cycle

  The theory of the cyclical fluctuations of business as elaborated by the British Currency School was in two respects unsatisfactory.

  First it failed to recognize that circulation credit can be granted not only by the issue of banknotes in excess of the banks’ holding of cash reserves, but also by creating bank deposits subject to check in excess of such reserves (check-book money, deposit currency). Consequently it did not realize that deposits payable on demand can also be used as a device of credit expansion. This error is of little weight, as it can be easily amended. It is enough to stress the point that all that refers to credit expansion is valid for all varieties of credit expansion no matter whether the additional fiduciary media are banknotes or deposits. However, the teachings of the Currency School inspired British legislation designed to prevent the return of credit-expansion booms and their necessary consequence, depressions, at a time when this fundamental defect was not yet widely enough recognized. Peel’s Act of 1844 and its imitations in other countries did not attain the ends sought, and this failure shook the prestige of the Currency School. The Banking School triumphed undeservedly.

  The second shortcoming of the Currency Theory was more momentous. It restricted its reasoning to the problem of the external drain. It dealt only with a particular case, viz., credit expansion in one country only while there is either no credit expansion or only credit expansion to a smaller extent in other areas. This was, by and large, sufficient to explain the British crises of the first part of the nineteenth century. But it touched only the surface of the problem. The essential question was not raised at all. Nothing was done to clarify the consequences of a general expansion of credit not confined to a number of banks with a restricted clientele. The reciprocal relations between the supply of money (in the broader sense) and the rate of interest were not analyzed. The multifarious projects to lower or to abolish interest altogether by means of a banking reform were haughtily derided as quackery, but not critically dissected and refuted. The naïve presumption of money’s neutrality was tacitly ratified. Thus a free hand was left to all futile attempts to interpret crises and business fluctuations by means of the theory of direct exchange. Many decades passed before the spell was broken.

  The hindrance that the monetary or circulation credit theory had to overcome was not merely theoretical error but also political bias. Public opinion is prone to see in interest nothing but a merely institutional obstacle to the expansion of production. It does not realize that the discount of future goods as against present goods is a necessary and eternal category of human action and cannot be abolished by bank manipulation. In the eyes of cranks and demagogues, interest is a product of the sinister machinations of rugged exploiters. The age-old disapprobation of interest has been fully revived by modern interventionism. It clings to the dogma that it is one of the foremost duties of good government to lower the rate of interest as far as possible or to abolish it altogether. All present-day governments are fanatically committed to an easy money policy. As has been mentioned already, the British Government has asserted that credit expansion has performed “the miracle...ofturningastone into bread.”11 A Chairman of the Federal Reserve Bank of New York has declared that “final freedom from the domestic money market exists for every sovereign national state where there exists an institution which functions in the manner of a modern central bank, and whose currency is not convertible into gold or into some other commodity.”12 Many governments, universities, and institutes of economic research lavishly subsidize publications whose main purpose is to praise the blessings of unbridled credit expansion and to slander all opponents as ill-intentioned advocates of the selfish interests of usurers.

  The wavelike movement affecting the economic system, the recurrence of periods of boom which are followed by periods of depression, is the unavoidable outcome of the attempts, repeated again and again, to lower the gross market rate of interest by means of credit expansion. There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.

  The only objection ever raised against the circulation credit theory is lame indeed. It has been asserted that the lowering of the gross market rate of interest below the height it would have reached on an unhampered loan market may appear not as the outcome of an intentional policy on the part of the banks or the monetary authorities but as the unintentional effect of their conservatism. Faced with a situation which would, when left alone, result in a rise in the market rate, the banks refrain from altering the interest they charge on advances and thus willynilly tumble into expansion.13 These assertions are unwarranted. But if we are prepared to admit their correctness for the sake of argument, they do not affect at all the essence of the monetary explanation of the trade cycle. It is of no concern what the particular conditions are that induce the banks to expand credit and to underbid the gross market rate of interest which the unhampered market would have determined. What counts is solely that the banks and the monetary authorities are guided by the idea that the height of interest rates as the free loan market determines it is an evil, that it is the objective of a good economic policy to lower it, and that credit expansion is an appropriate means of achieving this end without harm to anybody but parasitic moneylenders. It is this infatuation that causes them to embark upon ventures which must finally bring about the slump.

  If one takes these facts into consideration one could be tempted to abstain from any discussion of the problems involved in the frame of the theory of the pure market economy and to relegate it to the analysis of interventionism, the interference of government with the market phenomena. It is beyond doubt that credit expansion is one of the primary issues of interventionism. Nevertheless the right place for the analysis of the problems involved is not in the theory of interventionism but in that of the pure market economy. For the problem we have to deal with is essentially the relation between the supply of money and the rate of interest, a problem of which the consequences of credit expansion are only a particular instance.

  Everything that has been asserted with regard to credit expansion is equally valid with regard to the effects of any increase in the supply of money proper as far as this additional supply reaches the loan market at an early stage of its inflow into the market system. If the additional quantity of money increases the quantity of money offered for loans at a time when commodity prices and wage rates have not yet been completely adjusted to the change in the money relation, the effects are no different from those of a credit expansion. In analyzing the problem of credit expansion, catallactics completes the teachings of the theory of money and of interest. It implicitly demolishes the age-old errors concerning interest and explodes the fantastic plans to “abolish” interest by means of monetary or credit reform.

  What differentiates credit expansion from an increase in the supply of money as it can appear in an economy employing only commodity money and no fiduciary media at all is conditioned by divergences in the quantity of the increase and in the temporal sequence of its effects on the various parts of the market. Even a rapid increase in the production of the precious metals can never have the range which credit expansion can attain. The gold standard was an efficacious check upon credit expansion, as it forced the banks not to exceed certain limits in their expansionist ventures.14 The gold standard’s own inflationary potentialities were kept within limits by the vicissitudes of gold mining. Moreover, only a part of the additional gold immediately increased the supply offered on the loan market. The greater part acted first upon commodity prices and wage rates and affected the loan market only at a later stage of the inflationary process.

  However, the continuous increase in the quantity of commodity money exercised a steady expansionist pressure on the loan market. The gross market rate of interest was, in the course of the last centuries, continually subject to the impact of an inflow of additional money into the loan market. Of course, this pressure for the last hundred and fifty years in the Anglo-Saxon countries and for the last hundred years in the countries of the European continent was far exceeded by the effects of the synchronous development of circulation credit as granted by the banks apart from their—from time to time reiterated—straightforward endeavors to lower the gross market rate of interest by an intensified expansion of credit. Thus three tendencies toward a lowering of the gross market rate of interest were operating at the same time and strengthening one another. One was the outgrowth of the steady increase in the quantity of commodity money, the second the outgrowth of a spontaneous development of fiduciary media in banking operations, the third the fruit of intentional anti-interest policies sponsored by the authorities and approved by public opinion. It is, of course, impossible to ascertain in a quantitative way the effect of their joint operation and the contribution of each of them; an answer to such a question can only be provided by historical understanding.

  What catallactic reasoning can show us is merely that a slight although continuous pressure on the gross market rate of interest as originating from a continuous increase in the quantity of gold, and also from a slight increase in the quantity of fiduciary media, which is not overdone and intensified by purposeful easy money policy, can be counterpoised by the forces of readjustment and accommodation inherent in the market economy. The adaptability of business not purposely sabotaged by forces extraneous to the market is powerful enough to offset the effects which such slight disturbances of the loan market can possibly bring about.

  Statisticians have tried to investigate long waves of business fluctuations with statistical methods. Such attempts are futile. The history of modern capitalism is a record of steady economic progress, again and again interrupted by feverish booms and their aftermath, depressions. It is generally possible to discern statistically these recurring oscillations from the general trend toward an increase in the amount of capital invested and the quantity of products turned out. It is impossible to discover any rhythmical fluctuation in the general trend itself.

  9

  The Market Economy as Affected by the Recurrence of the Trade Cycle

  The popularity of inflation and credit expansion, the ultimate source of the repeated attempts to render people prosperous by credit expansion, and thus the cause of the cyclical fluctuations of business, manifests itself clearly in the customary terminology. The boom is called good business, prosperity, and upswing. Its unavoidable aftermath, the readjustment of conditions to the real data of the market, is called crisis, slump, bad business, depression. People rebel against the insight that the disturbing element is to be seen in the malinvestment and the overconsumption of the boom period and that such an artificially induced boom is doomed. They are looking for the philosophers’ stone to make it last.

  It has been pointed out already in what respect we are free to call an improvement in the quality and an increase in the quantity of products economic progress. If we apply this yardstick to the various phases of the cyclical fluctuations of business, we must call the boom retrogression and the depression progress. The boom squanders through malinvestment scarce factors of production and reduces the stock available through overconsumption; its alleged blessings are paid for by impoverishment. The depression, on the other hand, is the way back to a state of affairs in which all factors of production are employed for the best possible satisfaction of the most urgent needs of the consumers.

  Desperate attempts have been made to find in the boom some positive contribution to economic progress. Stress has been laid upon the role forced saving plays in fostering capital accumulation. The argument is vain. It has been shown already that it is very questionable whether forced saving can ever achieve more than to counterbalance a part of the capital consumption generated by the boom. If those praising the allegedly beneficial effects of forced saving were consistent, they would advocate a fiscal system subsidizing the rich out of taxes collected from people with modest incomes. The forced saving achieved by this method would provide a net increase in the amount of capital available without simultaneously bringing about capital consumption of a much greater size.

  Advocates of credit expansion have furthermore emphasized that some of the malinvestments made in the boom later become profitable. These investments, they say, were made too early, i.e., at a date when the state of the supply of capital goods and the valuations of the consumers did not yet allow their construction. However, the havoc caused was not too bad, as these projects would have been executed anyway at a later date. It may be admitted that this description is adequate with regard to some instances of malinvestment induced by a boom. But nobody would dare to assert that the statement is correct with regard to all projects whose execution has been encouraged by the illusions created by the easy money policy. However this may be, it cannot influence the consequences of the boom and cannot undo or deaden the ensuing depression. The effects of the malinvestment appear without regard to whether or not these malinvestments will appear as sound investments at a later time under changed conditions. When, in 1845, a railroad was constructed in England which would not have been constructed in the absence of credit expansion, conditions in the following years were not affected by the prospect that in 1870 or 1880 the capital goods required for its construction would be available. The gain which later resulted from the fact that the railroad concerned did not have to be built by a fresh expenditure of capital and labor, was in 1847 no compensation for the losses incurred by its premature construction.

  The boom produces impoverishment. But still more disastrous are its moral ravages. It makes people despondent and dispirited. The more optimistic they were under the illusory prosperity of the boom, the greater is their despair and their feeling of frustration. The individual is always ready to ascribe his good luck to his own efficiency and to take it as a well-deserved reward for his talent, application, and probity. But reverses of fortune he always charges to other people, and most of all to the absurdity of social and political institutions. He does not blame the authorities for having fostered the boom. He reviles them for the inevitable collapse. In the opinion of the public, more inflation and more credit expansion are the only remedy against the evils which inflation and credit expansion have brought about.

  Here, they say, are plants and farms whose capacity to produce is either not used at all or not to its full extent. Here are piles of unsalable commodities and hosts of unemployed workers. But here are also masses of people who would be lucky if they only could satisfy their wants more amply. All that is lacking is credit. Additional credit would enable the entrepreneurs to resume or to expand production. The unemployed would find jobs again and could buy the products. This reasoning seems plausible. Nonetheless it is utterly wrong.

  If commodities cannot be sold and workers cannot find jobs, the reason can only be that the prices and wages asked are too high. He who wants to sell his inventories or his capacity to work must reduce his demand until he finds a buyer. Such is the law of the market. Such is the device by means of which the market directs every individual’s activities into those lines in which they can best contribute to the satisfaction of the wants of the consumers. The malinvestments of the boom have misplaced inconvertible factors of production in some lines at the expense of other lines in which they were more urgently needed. There is disproportion in the allocation of non-convertible factors to the various branches of industry. This disproportion can be remedied only by the accumulation of new capital and its employment in those branches in which it is most urgently required. This is a slow process. While it is in progress, it is impossible to utilize fully the productive capacity of some plants for which the complementary production facilities are lacking.

  It is vain to object that there is also unused capacity of plants turning out goods whose specific character is low. The slack in the sale of these goods, it is said, cannot be explained by disproportionality in the capital equipment of various branches; they can be used and are needed for many different employments. This too is an error. If steel and iron works, copper mines, and sawmills cannot be operated to their full capacity, the reason can only be that there are not enough buyers on the market ready to purchase their whole output at prices which cover the costs of their current exploitation. As the variable costs can merely consist in prices of other products and in wages, and as the same is valid with regard to the prices of these other products, this always means that wage rates are too high to provide all those eager to work with jobs and to employ the inconvertible equipment to the full limits drawn by the requirement that nonspecific capital goods and labor should not be withdrawn from employments in which they fill more urgent needs.

  Out of the collapse of the boom there is only one way back to a state of affairs in which progressive accumulation of capital safeguards a steady improvement of material well-being: new saving must accumulate the capital goods needed for a harmonious equipment of all branches of production with the capital required. One must provide the capital goods lacking in those branches which were unduly neglected in the boom. Wage rates must drop; people must restrict their consumption temporarily until the capital wasted by malinvestment is restored. Those who dislike these hardships of the readjustment period must abstain in time from credit expansion.

  There is no use in interfering by means of a new credit expansion with the process of readjustment. This would at best only interrupt, disturb, and prolong the curative process of the depression, if not bring about a new boom with all its inevitable consequences.

  The process of readjustment, even in the absence of any new credit expansion, is delayed by the psychological effects of disappointment and frustration. People are slow to free themselves from the self-deception of delusive prosperity. Businessmen try to continue unprofitable projects; they shut their eyes to an insight that hurts. The workers delay reducing their claims to the level required by the state of the market; they want, if possible, to avoid lowering their standard of living and changing their occupation and their dwelling place. People are the more discouraged the greater their optimism was in the days of the upswing. They have for the moment lost self-confidence and the spirit of enterprise to such an extent that they even fail to take advantage of good opportunities. But the worst is that people are incorrigible. After a few years they embark anew upon credit expansion, and the old story repeats itself.

  The Role Played by Unemployed Factors of Production in the First Stages of a Boom

  There are in the changing economy always unsold inventories (exceeding those quantities which for technical reasons must be kept in stock), unemployed workers, and unused capacity of inconvertible production facilities. The system is moving toward a state in which there will be neither unemployed workers nor surplus inventories.15 But as the appearance of new data continually diverts the course toward a new goal, the conditions of the evenly rotating economy are never realized.

  The presence of unused capacity of inconvertible investments is an outgrowth of errors committed in the past. The assumptions made by the investors were, as later events proved, not correct; the market asks more intensively for other goods than for those which these plants can turn out. The piling up of excessive inventories and the catallactic unemployment of workers are speculative. The owner of the stock refuses to sell at the market price because he hopes to obtain a higher price at a later date. The unemployed worker refuses to change his occupation or his residence or to content himself with lower pay because he hopes to obtain at a later date a job with higher pay in the place of his residence and in the branch of business he likes best. Both hesitate to adjust their claims to the present situation of the market because they wait for a change in the data which will alter conditions to their advantage. Their hesitation is one of the reasons why the system has not yet adjusted itself to the conditions of the market.

  The advocates of credit expansion argue that what is wanted is more fiduciary media. Then the plants will work at full capacity, the inventories will be sold at prices their owners consider satisfactory, and the unemployed will get jobs at wages they consider satisfactory. This very popular doctrine implies that the rise in prices, brought about by the additional fiduciary media, would at the same time and to the same extent affect all other commodities and services, while the owners of the excessive inventories and the unemployed workers would content themselves with those nominal prices and wages they are asking—in vain, of course—today. For if this were to happen, the real prices and the real wage rates obtained by these owners of unsold inventories and unemployed workers would drop—in proportion to the prices of other commodities and services—to the height to which they must drop in order to find buyers and employers.

  The course of the boom is not substantially affected by the fact that at its eve there are unused capacity, unsold surplus inventories, and unemployed workers. Let us assume that there are unused facilities for the mining of copper, unsold piles of copper, and unemployed workers of copper mines. The price of copper is at a level at which mining does not pay for some mines; their workers are discharged; there are speculators who abstain from selling their stocks. What is needed in order to make these mines profitable again, to give jobs to the unemployed, and to sell the piles without forcing prices down below costs of production, is an increment p in the amount of capital goods available large enough to make possible such an increase in investment and in the size of production and consumption that an adequate rise in the demand for copper ensues. If, however, this increment p does not appear and the entrepreneurs, deceived by the credit expansion, nevertheless act as if p had really been available, conditions on the copper market, while the boom lasts, are as if p had really been added to the amount of capital goods available. But everything that has been predicated about the inevitable consequences of credit expansion fits this case too. The only difference is that, as far as copper is concerned, the inappropriate expansion of production need not be achieved by the withdrawal of capital and labor from employments in which they would better have filled the wants of the consumers. As far as copper is concerned, the new boom encounters a piece of malinvestment of capital and malemployment of labor already effected in a previous boom, which the process of readjustment has not yet absorbed.

  Thus it becomes obvious how vain it is to justify a new credit expansion by referring to unused capacity, unsold—or, as people say incorrectly, “unsalable”—stocks, and unemployed workers. The beginning of a new credit expansion runs across remainders of preceding malinvestment and malemployment, not yet obliterated in the course of the readjustment process, and seemingly remedies the faults involved. In fact, however, this is merely an interruption of the process of readjustment and of the return to sound conditions.16 The existence of unused capacity and unemployment is not a valid argument against the correctness of the circulation credit theory. The belief of the advocates of credit expansion and inflation that abstention from further credit expansion and inflation would perpetuate the depression is utterly false. The remedies these authors suggest would not make the boom last forever. They would merely upset the process of recovery.

  The Fallacies of the Nonmonetary Explanations of the Trade Cycle

  In dealing with the futile attempts to explain the cyclical fluctuations of business by a nonmonetary doctrine, one point must first of all be stressed which has hitherto been unduly neglected.

  There were schools of thought for whom interest was merely a price paid for obtaining the disposition of a quantity of money or money-substitutes. From this belief they quite logically drew the inference that abolishing the scarcity of money and money-substitutes would abolish interest altogether and result in the gratuitousness of credit. If, however, one does not endorse this view and comprehends the nature of originary interest, a problem presents itself the treatment of which one must not evade. An additional supply of credit, brought about by an increase in the quantity of money or fiduciary media, has certainly the power to lower the gross market rate of interest. If interest is not merely a monetary phenomenon and consequently cannot be lastingly lowered or brushed away by any increase, however large, in the supply of money and fiduciary media, it devolves upon economics to show how the height of the rate of interest conforming to the state of the market’s nonmonetary data reestablishes itself. It must explain what kind of process removes the cash-induced deviation of the market rate from that state which is consonant with the ratio in people’s valuation of present and future goods. If economics were at a loss to achieve this, it would implicitly admit that interest is a monetary phenomenon and could even disappear completely in the course of changes in the money relation.

  For the nonmonetary explanations of the trade cycle the experience that there are recurrent depressions is the primary thing. Their champions first do not see in their scheme of the sequence of economic events any clue which could suggest a satisfactory interpretation of these enigmatic disorders. They desperately search for a makeshift in order to patch it onto their teachings as an alleged cycle theory.

  The case is different with the monetary or circulation credit theory. Modern monetary theory has finally cleared away all notions of an alleged neutrality of money. It has proved irrefutably that there are in the market economy factors operating about which a doctrine ignorant of the driving force of money has nothing to say. The catallactic system that involves the knowledge of money’s non-neutrality and driving force presses the questions of how changes in the money relation affect the rate of interest first in the short run and later in the long run. The system would be defective if it could not answer these questions. It would be contradictory if it were to provide an answer which would not simultaneously explain the cyclical fluctuations of trade. Even if there had never been such things as fiduciary media and circulation credit, modern catallactics would have been forced to raise the problem concerning the relations between changes in the money relation and the rate of interest.

  It has been mentioned already that every nonmonetary explanation of the cycle is bound to admit that an increase in the quantity of money or fiduciary media is an indispensable condition of the emergence of a boom. It is obvious that a general tendency of prices to rise which is not caused by a general drop in production and in the supply of commodities offered for sale, cannot appear if the supply of money (in the broader sense) has not increased. Now we can see that those fighting the monetary explanation are also forced to resort to the theory they slander for a second reason. For this theory alone answers the question of how an inflow of additional money and fiduciary media affects the loan market and the market rate of interest. Only those for whom interest is merely the outgrowth of an institutionally conditioned scarcity of money can dispense with an implicit acknowledgment of the circulation credit theory of the cycle. This explains why no critic has ever advanced any tenable objection against this theory.

  The fanaticism with which the supporters of all these nonmonetary doctrines refuse to acknowledge their errors is, of course, a display of political bias. The Marxians have inaugurated the usage of interpreting the commercial crisis as an inherent evil of capitalism, as the necessary outgrowth of its “anarchy” of production.17 The non-Marxian socialists and the interventionists are no less anxious to demonstrate that the market economy cannot avoid the return of depressions. They are the more eager to assail the monetary theory as currency and credit manipulation is today the main instrument by means of which the anticapitalist governments are intent upon establishing government omnipotence.18

  The attempts to connect business depressions with cosmic influences, the most remarkable of which was William Stanley Jevons’ sunspot theory, failed utterly. The market economy has succeeded in a fairly satisfactory way in adjusting production and marketing to all the natural conditions of human life and its environment. It is quite arbitrary to assume that there is just one natural fact—namely, allegedly rhythmic harvest variations—with which the market economy does not know how to cope. Why do entrepreneurs fail to recognize the fact of crop fluctuations and to adjust business activities in such a way as to discount their disastrous effects upon their plans?

  Guided by the Marxian slogan “anarchy of production,” the present-day nonmonetary cycle doctrines explain the cyclical fluctuations of trade in terms of a tendency, allegedly inherent in the capitalist economy, to develop disproportionality in the size of investments made in various branches of industry. Yet even these disproportionality doctrines do not contest the fact that every businessman is eager to avoid such mistakes, which must bring him serious financial losses. The essence of the activities of entrepreneurs and capitalists is precisely not to embark upon projects which they consider unprofitable. If one assumes that there prevails a tendency for businessmen to fail in these endeavors, one implies that all businessmen are short-sighted. They are too dull to avoid certain pitfalls, and thus blunder again and again in their conduct of affairs. The whole of society has to foot the bill for the shortcomings of the thick-headed speculators, promoters, and entrepreneurs.

  Now it is obvious that men are fallible, and businessmen are certainly not free from this human weakness. But one should not forget that on the market a process of selection is in continual operation. There prevails an unceasing tendency to weed out the less efficient entrepreneurs, that is, those who fail in their endeavors to anticipate correctly the future demands of the consumers. If one group of entrepreneurs produces commodities in excess of the demand of the consumers and consequently cannot sell these goods at remunerative prices and suffers losses, other groups who produce those things for which the public scrambles make all the greater profits. Some sectors of business are distressed while others thrive. No general depression of trade can emerge.

  But the proponents of the doctrines we have to deal with argue differently. They assume that not only the whole entrepreneurial class but all of the people are struck with blindness. As the entrepreneurial class is not a closed social order to which access is denied to outsiders, as every enterprising man is virtually in a position to challenge those who already belong to the class of entrepreneurs, as the history of capitalism provides innumerable examples of penniless newcomers who brilliantly succeeded in embarking upon the production of those goods which according to their own judgment were fitted to satisfy the most urgent needs of consumers, the assumption that all entrepreneurs regularly fall prey to certain errors tacitly implies that all practical men lack intelligence. It implies that nobody who is engaged in business and nobody who considers engaging in business if some opportunity is offered to him by the shortcomings of those already engaged in it, is shrewd enough to understand the real state of the market. But on the other hand the theorists, who are not themselves active in the conduct of affairs and merely philosophize about other people’s actions, consider themselves smart enough to discover the fallacies leading astray those doing business. These omniscient professors are never deluded by the errors which cloud the judgment of everyone else. They know precisely what is wrong with private enterprise. Their claims to be invested with dictatorial powers to control business are therefore fully justified.

  The most amazing thing about these doctrines is that they furthermore imply that businessmen, in their littleness of mind, obstinately cling to their erroneous procedures in spite of the fact that the scholars have long since unmasked their faults. Although every textbook explodes them, the businessmen cannot help repeating them. There is manifestly no means to prevent the recurrence of economic depression other than to entrust—in accordance with Plato’s utopian ideas—supreme power to the philosophers.

  Let us examine briefly the two most popular varieties of these disproportionality doctrines.

  There is first the durable goods doctrine. These goods retain their serviceableness for some time. As long as their life period lasts, the buyer who has acquired a piece abstains from replacing it by the purchase of a new one. Thus, once all people have made their purchases, the demand for new products dwindles. Business becomes bad. A revival is possible only when, after the lapse of some time, the old houses, cars, refrigerators, and the like are worn out, and their owners must buy new ones.

  However, businessmen are as a rule more provident than this doctrine assumes. They are intent upon adjusting the size of their production to the anticipated size of consumers’ demand. The bakers take account of the fact that every day a housewife needs a new loaf of bread, and the manufacturers of coffins take into account the fact that the total annual sale of coffins cannot exceed the number of people deceased during this period. The machine industry reckons with the average “life” of its products no less than do the tailors, the shoemakers, the manufacturers of motorcars, radio sets, and refrigerators, and the construction firms. There are, to be sure, always promoters who in a mood of deceptive optimism are prone to overexpand their enterprises. In the pursuit of such projects they snatch away factors of production from other plants of the same industry and from other branches of industry. Thus their overexpansion results in a relative restriction of output in other fields. One branch goes on expanding while others shrink until the unprofitability of the former and the profitability of the latter rearranges conditions. Both the preceding boom and the following slump concern only a part of business.

  The second variety of these disproportionality doctrines is known as the acceleration principle. A temporary rise in the demand for a certain commodity results in increased production of the commodity concerned. If demand later drops again, the investments made for this expansion of production appear as malinvestments. This becomes especially pernicious in the field of durable producers’ goods. If the demand for the consumers’ good a increases by 10 per cent, business increases the equipment p required for its production by 10 per cent. The resulting rise in the demand for p is the more momentous in proportion to the previous demand for p, the longer the duration of serviceableness of a piece of p is and the smaller consequently the previous demand for the replacement of worn-out pieces of p was. If the life of a piece of p is 10 years, the annual demand for p for replacement was 10 per cent of the stock of p previously employed by the industry. The rise of 10 per cent in the demand for a doubles therefore the demand for p and results in a 100 per cent expansion in the equipment r needed for the production of p. If then the demand for a stops increasing, 50 per cent of the production capacity of r remains idle. If the annual increase in the demand for a drops from 10 per cent to 5 per cent, 25 per cent of the production capacity of r cannot be used.

  The fundamental error of this doctrine is that it considers entrepreneurial activities as a blindly automatic response to the momentary state of demand. Whenever demand increases and renders a branch of business more profitable, production facilities are supposed instantly to expand in proportion. This view is untenable. Entrepreneurs often err. They pay heavily for their errors. But whoever acted in the way the acceleration principle describes would not be an entrepreneur, but a soulless automaton. Yet the real entrepreneur is a speculator,19 a man eager to utilize his opinion about the future structure of the market for business operations promising profits. This specific anticipative understanding of the conditions of the uncertain future defies any rules and systematization. It can be neither taught nor learned. If it were different, everybody could embark upon entrepreneurship with the same prospect of success. What distinguishes the successful entrepreneur and promoter from other people is precisely the fact that he does not let himself be guided by what was and is, but arranges his affairs on the ground of his opinion about the future. He sees the past and the present as other people do; but he judges the future in a different way. In his actions he is directed by an opinion about the future which deviates from those held by the crowd. The impulse of his actions is that he appraises the factors of production and the future prices of the commodities which can be produced out of them in a different way from other people. If the present structure of prices renders very profitable the business of those who are today selling the articles concerned, their production will expand only to the extent that entrepreneurs believe that the favorable market constellation will last long enough to make new investments pay. If entrepreneurs do not expect this, even very high profits of the enterprises already operating will not bring about an expansion. It is exactly this reluctance of the capitalists and entrepreneurs to invest in lines which they consider unprofitable that is violently criticized by people who do not comprehend the operation of the market economy. Technocratically minded engineers complain that the supremacy of the profit motive prevents consumers from being amply supplied with all those goods with which technological knowledge could provide them. Demagogues cry out against the greed of capitalists intent upon preserving scarcity.

  A satisfactory explanation of business fluctuations must not be built upon the fact that individual firms or groups of firms misjudge the future state of the market and therefore make bad investments. The objective of the trade cycle is the general upswing of business activities, the propensity to expand production in all branches of industry, and the following general depression. These phenomena cannot be brought about by the fact that increased profits in some branches of business result in their expansion and a corresponding overproportional investment in the industries manufacturing the equipment needed for such an expansion.

  It is a very well known fact that the more the boom progresses, the harder it becomes to buy machines and other equipment. The plants producing these things are overloaded with orders. Their customers must wait a long time until the machines ordered are delivered. This clearly shows that the producers’ goods industries are not so quick in the expansion of their own production facilities as the acceleration principle assumes.

  But even if, for the sake of argument, we were ready to admit that capitalists and entrepreneurs behave in the way the disproportionality doctrines describe, it remains inexplicable how they could go on in the absence of credit expansion. The striving after such additional investments raises the prices of the complementary factors of production and the rate of interest on the loan market. These effects would curb the expansionist tendencies very soon if there were no credit expansion.

  The supporters of the disproportionality doctrines refer to certain occurrences in the field of farming as a confirmation of their assertion concerning the inherent lack of provision on the part of private business. However, it is impermissible to demonstrate characteristic features of free competitive enterprise as operating in the market economy by pointing to conditions in the sphere of medium-size and small farming. In many countries this sphere is institutionally removed from the supremacy of the market and the consumers. Government interference is eager to protect the farmer against the vicissitudes of the market. These farmers do not operate in a free market; they are privileged and pampered by various devices. The orbit of their production activities is a reservation, as it were, in which technological backwardness, narrow-minded obstinacy, and entrepreneurial inefficiency are artificially preserved at the expense of the nonagricultural strata of the people. If they blunder in their conduct of affairs, the government forces the consumers, the taxpayers, and the mortgagees to foot the bill.

  It is true that there is such a thing as the corn-hog cycle and analogous happenings in the production of other farm products. But the recurrence of such cycles is due to the fact that the penalties which the market applies against inefficient and clumsy entrepreneurs do not affect a great part of the farmers. These farmers are not answerable for their actions because they are the pet children of governments and politicians. If it were not so, they would long since have gone bankrupt and their former farms would be operated by more intelligent people.

  [1. ]Cf. above, pp. 226–28.

  [2. ]The difference between this case (case b) and the case of the expected end of all earthly things dealt with on p. 527 (case a) is this: in case a originary interest increases beyond all measure because future goods become entirely worthless; in case b originary interest does not change while the entrepreneurial component increases beyond all measure.

  [3. ]Cf. Irving Fisher, The Rate of Interest (New York, 1907), pp. 77 ff.

  [4. ]We are dealing here with conditions on an unhampered labor market. About the argument advanced by Lord Keynes, see below, pp. 777 and 792–93.

  [5. ]About the “long-wave” fluctuations, see below, p. 575.

  [6. ]Cf. G. v. Haberler, Prosperity and Depression (new ed. League of Nations’ Report, Geneva, 1939), p. 7.

  [7. ]Cf. M. N. Rothbard, America’s Great Depression (Princeton, 1963).

  [8. ]One should not fall prey to the illusion that these changes in the credit policies of the banks were caused by the bankers’ and the monetary authorities’ insight into the unavoidable consequences of a continued credit expansion. What induced the turn in the banks’ conduct was certain institutional conditions to be dealt with further below, on pp. 796–97. Among the champions of economics some private bankers were prominent; in particular, the elaboration of the early form of the theory of business fluctuations, the Currency Theory, was for the most part an achievement of British bankers. But the management of central banks and the conduct of the various governments’ monetary policies was as a rule entrusted to men who did not find any fault with boundless credit expansion and took offense at every criticism of their expansionist ventures.

  [9. ]Cf. below, pp. 793–95.

  [10. ]See below, p. 784.

  [11. ]See above, p. 470.

  [12. ]Beardsley Ruml, “Taxes for Revenue Are Obsolete,” American Affairs, VIII (1946), 35–36.

  [13. ]Machlup (The Stock Market, Credit and Capital Formation, p. 248) calls this conduct of the banks “passive inflationism.”

  [14. ]Cf. above, p. 475.

  [15. ]In the evenly rotating economy also there may be unused capacity of inconvertible equipment. Its nonutilization does not disturb the equilibrium any more than the fallowness of submarginal soil.

  [16. ]Hayek (Prices and Production [2d ed. London, 1935], pp. 96 ff.) reaches the same conclusion by way of a somewhat different chain of reasoning.

  [17. ]About the fundamental fault of the Marxian and all other underconsumption theories, cf. above, p. 301.

  [18. ]About these currency and credit manipulations, cf. below, pp. 780–803.

  [19. ]It is noteworthy that the same term is employed to signify the premeditation and the ensuing actions of the promoters and entrepreneurs and the purely academic reasoning of theorists that does not directly result in any action.

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  8: “The Impossibility of Economic Calculation Under Socialism” in Human Action: A Treatise on Economics, vol. 3 [1949/2007]

  Ludwig von Mises, Human Action: A Treatise on Economics, in 4 vols., ed. Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007). Vol. 3. Chapter: CHAPTER 26: The Impossibility of Economic Calculation Under Socialism

  Accessed from oll.libertyfund.org/title/1895/110626 on 2010-01-28

  The copyright to this edition, in both print and electronic forms, is held by Liberty Fund, Inc.

  ---

  CHAPTER 26

  The Impossibility of Economic Calculation Under Socialism

  1

  The Problem

  The director wants to build a house. Now, there are many methods that can be resorted to. Each of them offers, from the point of view of the director, certain advantages and disadvantages with regard to the utilization of the future building, and results in a different duration of the building’s serviceableness; each of them requires other expenditures of building materials and labor and absorbs other periods of production. Which method should the director choose? He cannot reduce to a common denominator the items of various materials and various kinds of labor to be expended. Therefore he cannot compare them. He cannot attach either to the waiting time (period of production) or to the duration of serviceableness a definite numerical expression. In short, he cannot, in comparing costs to be expended and gains to be earned, resort to any arithmetical operation. The plans of his architects enumerate a vast multiplicity of various items in kind; they refer to the physical and chemical qualities of various materials and to the physical productivity of various machines, tools, and procedures. But all their statements remain unrelated to each other. There is no means of establishing any connection between them.

  Imagine the plight of the director when faced with a project. What he needs to know is whether or not the execution of the project will increase well-being, that is, add something to the wealth available without impairing the satisfaction of wants which he considers more urgent. But none of the reports he receives give him any clue to the solution of this problem.

  We may for the sake of argument at first disregard the dilemmas involved in the choice of consumers’ goods to be produced. We may assume that this problem is settled. But there is the embarrassing multitude of producers’ goods and the infinite variety of procedures that can be resorted to for manufacturing definite consumers’ goods. The most advantageous location of each industry and the optimum size of each plant and of each piece of equipment must be determined. One must determine what kind of mechanical power should be employed in each of them, and which of the various formulas for the production of this energy should be applied. All these problems are raised daily in thousands and thousands of cases. Each case offers special conditions and requires an individual solution appropriate to these special data. The number of elements with which the director’s decision has to deal is much greater than would be indicated by a merely technological description of the available producers’ goods in terms of physics and chemistry. The location of each of them must be taken into consideration as well as the serviceableness of the capital investments made in the past for their utilization. The director does not simply have to deal with coal as such, but with thousands and thousands of pits already in operation in various places, and with the possibilities for digging new pits, with the various methods of mining in each of them, with the different qualities of the coal in various deposits, with the various methods for utilizing the coal for the production of heat, power, and a great number of derivatives. It is permissible to say that the present state of technological knowledge makes it possible to produce almost anything out of almost everything. Our ancestors, for instance, knew only a limited number of employments for wood. Modern technology has added a multitude of possible new employments. Wood can be used for the production of paper, of various textile fibers, of foodstuffs, drugs, and many other synthetic products.

  Today two methods are resorted to for providing a city with clean water. Either one brings the water over long distances in aqueducts, an ancient method long practiced, or one chemically purifies the water available in the city’s neighborhood. Why does one not produce water synthetically in factories? Modern technology could easily solve the technological problems involved. The average man in his mental inertia is ready to ridicule such projects as sheer lunacy. However, the only reason why the synthetic production of drinking water today—perhaps not at a later day—is out of the question is that economic calculation in terms of money shows that it is a more expensive procedure than other methods. Eliminate economic calculation and you have no means of making a rational choice between the various alternatives.

  The socialists, it is true, object that economic calculation is not infallible. They say that the capitalists sometimes make mistakes in their calculation. Of course, this happens and will always happen. For all human action points to the future and the future is always uncertain. The most carefully elaborated plans are frustrated if expectations concerning the future are dashed to the ground. However, this is quite a different problem. Today we calculate from the point of view of our present knowledge and of our present anticipation of future conditions. We do not deal with the problem of whether or not the director will be able to anticipate future conditions. What we have in mi