Chapter 2. Wealth and Its Role in Human Life

CHAPTER 2

WEALTH AND ITS ROLE IN HUMAN LIFE

1. Wealth and Goods

Wealth is material goods made by man. It is houses and automobiles, piles of lumber and bars of copper, steel mills and pipelines, foodstuffs and clothing. It is also land and natural resources in the ground insofar as man has made them useable and accessible. Man, of course, does not make the material stuff of land and natural resources, but he certainly does create their character as wealth. 1

Air, sunlight, rainfall, and wind are also material goods. But insofar as they come to us automatically, without any need for labor or effort on our part to cause their existence or our benefit from them, they are outside the province of economic activity and of economics. They are nature-given conditions that automatically benefit us; historically, they have been described as free goods. Economics deals only with those goods which are the object of economic activity, that is, which man needs to produce in some sense—goods whose existence or beneficial relationship to his wellbeing he needs to cause in his capacity as a thinking being, that is, on whose behalf he must expend labor or effort. Such goods are economic goods. 2 In saying that wealth is goods, we refer only to economic goods; we exclude free goods.

Some implications of the fact that wealth consists of goods must be named.

Wealth is not at all synonymous with money or monetary value. The wealth produced in an economic system and the total monetary value of that wealth are separate and distinct phenomena. The one can increase without the other. More wealth can exist totally apart from more money. More wealth produced in the form of ordinary commodities, like steel, sugar, automobiles, and so on, without any increase in the supply of money, is nonetheless more wealth; but in such circumstances it results in correspondingly lower prices, and no increase in the total monetary value of commodities. By the same token, more money and more monetary value can exist totally apart from more wealth. This happens almost every day under a system of fiat paper money, where the supply of money is determined by the wishes of the government, irrespective of the supply of goods. In such circumstances, the effect of the additional money is simply to raise prices.

A connection between the quantity of money and the amount of wealth would exist only if money consisted of gold or silver. Even then, it would be a highly imperfect connection. Under such circumstances, an increase in the supply of gold or silver would constitute both an increase in the supply of money and an increase in the supply of wealth insofar as more gold and silver in their capacity as industrial materials meant more wealth. A further connection would exist insofar as increases in the supply of money under such circumstances tended to exist as the by-product of general improvements in the ability to produce, that is, insofar as a larger supply of gold or silver was the result of improvements in machinery, transportation, and so forth, having wider application than merely to the mining of the precious metals. In reality, all the popular measures of the production of wealth expressed in terms of totals of money, such as Gross Domestic

Product (GDP) (formerly Gross National Product or GNP) and National Income, are nothing but indicators of the quantity of money, not the physical volume of goods produced. 3

Stocks, bonds, and bank deposits are also not wealth. They are claims to wealth—to the plant and equipment and inventories of firms issuing the stocks or bonds or borrowing from the banks; to the houses or automobiles of the consumers who have borrowed; or, in the case of unsecured loans, to the equivalent of the goods that would otherwise be purchasable by the borrowers with their incomes.

Nor is the market value of licenses, or legal rights in any form, wealth; this includes the market value of perfectly proper legal rights such as patents and copyrights. Government licenses, such as liquor licenses, derive their market value from the privilege they confer on their holders to restrict the production of wealth and thereby artificially to increase the incomes of the license holders. 4 While patents on new inventions and copyrights on other new intellectual creations greatly contribute to the production of wealth by providing incentives to the development of new ideas underlying the production of wealth, neither the ideas themselves nor the patents and copyrights which protect and promote them are wealth. The ideas are preconditions to the production of wealth, but not wealth itself. And the patents and copyrights derive their market value from the fact that they make it possible for the intellectual creators of new and additional wealth to benefit from their contributions by temporarily limiting the increase in wealth that their intellectual contributions bring about. When patents and copyrights expire, the supply of wealth further increases at the same time that the market value of the patents and copyrights vanishes. 5

Finally, the labor of people, and their persons, while also indispensable preconditions to the production of wealth are never themselves wealth, but merely preconditions to the production of wealth. This is true even in a society in which slavery exists. In such a society, the fact that slaves possess market value no more qualifies them as wealth than the fact that government licenses restricting production possess market value qualifies them as wealth. Indeed, slavery reduces the production of wealth far more than do restrictive government licenses: it attacks production at its very root by depriving people of the incentive to produce. 6

Thus, wealth must be distinguished from the wider concept of property possessing market value. Property possessing market value that is not itself wealth exists, as we have seen, in such forms as various legal rights to wealth, such as stocks and bonds, and in various legal rights, proper or improper, to restrict or limit the production of wealth, such as government licenses and patents and copyrights. Property that is not wealth—that, indeed, is the destroyer of wealth—but that nonetheless possesses market value is what exists in the case of slavery.

The meaning of wealth depends on the meaning of goods. More or less following Menger, the founder of the Austrian school of economics, we can define goods— economic goods—as things which are recognized as capable of satisfying human needs, requiring the expenditure of labor or effort in order to be produced or enjoyed, and over which one has sufficient command gainfully to direct them to the satisfaction of one’s needs. 7 In other words, goods are things actually capable of benefiting us, that is, of doing us personal good, provided that we make the necessary effort to secure their benefit. Our wealth is the collection of material goods which we possess or against which we hold enforceable claims. 8

Things which have the power to satisfy our needs but which we do not recognize as possessing that power are not goods and do not form part of our wealth. For example, before the second half of the nineteenth century, petroleum was not a good; before the twentieth century, uranium was not a good. People did not know the beneficial properties of petroleum or uranium and thus did not know how to use them for anything. Thus, at the time, such things could do them no actual good and were therefore not goods and not a part of wealth. (The only circumstance in which a thing could do us good without our being aware of its beneficial properties, and thus without our having to take action based on such awareness, would be if its benefit came to us automatically, that is, if it were a free good. For a thing to be an economic good, it is essential that we possess awareness of its beneficial properties.)

In the same way, even if technological knowledge exists concerning the usefulness of a given type of mineral, all of the specific deposits of the mineral which are as yet undiscovered are not goods and do not constitute wealth. They too can do us no actual good in such a case. Further, things are not goods and do not constitute wealth whose useful properties and specific locations are known, but over which we lack sufficient command to direct them to the satisfaction of our needs. For example, iron on Mars, or even fifty miles down in the Earth, is not a good and not wealth, even if we are aware of its specific location, given our present inability to gain access to it. By the same token, water in the United States is not a good to someone wandering in the Sahara. Manufactured products too are not goods to those who have no knowledge of their existence or cannot gain access to them.

Finally, things are not goods and do not constitute wealth even if their useful properties and specific locations are known and even if we have sufficient command

over them to direct them to the satisfaction of our needs, if we cannot gainfully direct them to the satisfaction of our needs. For example, vast stretches of land in the United States which could be used to grow crops if someone decided to do so, are not actually goods and not wealth, because their potential could be exploited only by withdrawing capital and labor from other employments where the product of the capital and labor is greater. (These other employments could be more productive farmland, or nonagricultural employments whose product is more important than an addition to the supply of farm products.) The use of such land to grow crops would thus not achieve our actual good, all things considered, but would inflict a loss in comparison with what could be produced without its use. Thus, such land does not constitute a good and is not part of wealth. (It is possible, of course, that such things, presently not goods, could someday become goods and thus wealth—if, for example, the costs of exploiting them could be reduced, or if a growing population provided labor and capital that had no better alternatives to which to be applied. To some extent, such things may be valued as goods and count as wealth in the present, in anticipation of their being able to accomplish actual good in the future.)

Just as the beneficial properties of things can fail to be recognized, it sometimes happens that beneficial properties are ascribed to things which do not in fact possess them, such as the beneficial properties some people ascribe to rabbit’s feet, tarot cards, and so on. We can join with Menger in characterizing such things as “imaginary goods.” It is not necessary, however, for economics to devote any special consideration to such goods beyond acknowledging the fact of their existence. This is both because they constitute unimportant exceptions and because the economic principles that apply to such goods, such as the laws of price determination, are the same as that apply to genuine goods.

Again following Menger, we can divide goods into various orders, corresponding to their closeness to, or remoteness from, the satisfaction of our needs and wants. Goods that stand in a direct causal relationship to the satisfaction of our needs and wants can be described as goods of the first order. These are the things that benefit us directly and that are, therefore, directly good. For example, the food we eat, the clothes we wear. Those goods, in turn, that are necessary to the production of goods of the first order can be described as goods of the second order. For example, the ingredients and implements required to prepare a meal; the cloth, sewing machines, and thread required to produce clothes. Similarly, those goods that are necessary to the production of goods of the second order can be described as goods of the third order, and so on. The advantage of this terminology is that it highlights the fact that the source of the goods-character of things is ultimately within us. Goods derive their character as goods by virtue of their ability to benefit human beings. Goods-character radiates outward from people to things and touches first those goods which we categorize as goods of the first order, second, those which we categorize as goods of the second order, and so on. 9

2. Economics and Wealth

The fact that economics is a science of wealth was taken for granted by the classical economists in the nineteenth century. Economics’ focus on wealth has been challenged in the twentieth century, however, and a large majority of economists now downplays its special importance in the subject.

One challenge is constituted by the frequent assertion that our economy has become a “service economy” rather than an economy which concentrates on the production of goods. The basis of this assertion is the fact that more than half of the working population is now employed in rendering services rather than producing goods.

This service-economy argument against the focus on wealth is superficial, for the following reason. Not only are agriculture, mining, construction, and manufacturing all engaged in the production of goods, but also all of the socalled service industries center on goods. Retailing and wholesaling—service industries—are the retailing and wholesaling of goods. Cleaning, repair, and maintenance services are the cleaning, repair, and maintenance of goods. Transportation and communications are largely transportation of, and communications concerning, goods. Banking, finance, insurance, and advertising are services performed overwhelmingly in connection with facilitating the production, distribution, or ownership of goods.

Those services that are performed not as auxiliaries to the production, distribution, or ownership of goods—services such as passenger airline travel for vacationers, personal communications, personal medical, legal, or grooming services—vitally depend on the use of goods in their rendition. There could be no passenger airline travel without airplanes and airports; no telephone service without telephones and telephone exchanges; no mail service without post offices and delivery trucks; precious few medical services without drugs, hospitals, laboratories, and all manner of equipment; precious few legal services without courthouses, law offices, law books, law schools, memo pads, and so on; and precious few grooming services without scissors, razors, hair dryers, and the like. The rendition of personal services falls within the sphere of economics insofar as the providers

of such services render them for the purpose of acquiring wealth. As will be seen, in a division-of-labor society this refers to the rendition of such services for the purpose of earning money. Thus, the services of personal physicians, personal attorneys, barbers, and the like come within the sphere of economics insofar as they are performed for money, which is the means by which these parties obtain wealth.

It is true, of course, that there could be no wealth without the rendition of services—above all, the performance of labor. But this does not give services an equal position with wealth in economics. Although economics is concerned with services, it is so only insofar as they are necessary to the production, enjoyment, or acquisition of wealth, or depend on the use of wealth. Economics is not at all concerned with the rendition of services apart from their connection with wealth. For example, when two people hold an interesting conversation, they are rendering a service to each other. But economics is not concerned with activities of this nature except insofar as they can be connected with wealth.

It could be argued that the direct exchange of services for services also sometimes falls within the sphere of economics—for example, an exchange of French lessons for mathematics lessons, in which the rendition of each service is performed as the conscious, explicitly agreed-upon requirement of receiving the other. Even in such cases, what brings the rendition of the service within the purview of economics is ultimately a connection to wealth. This is so because what makes exchange itself a vital economic phenomenon, central to the studies of economics, is the fact that in a division-of-labor society the production and enjoyment of wealth requires it, as the means of bringing goods from their producers to their consumers. 10

The second challenge to economics’ focus on wealth is the mistaken claim that economics is a science of choices rather than a science of wealth—a science which studies the “allocation of scarce means among competing ends.” 11

This contention rests on a logical fallacy. It does not see that what gives rise to economics’ study of choices and its concern with the allocation of scarce means among competing ends is the fact that people have a virtually limitless need for wealth but only a limited capability of satisfying that need at any given time. Thus, people must choose which aspects of their need for wealth are to be satisfied and which are not. Economics studies the determinants of human choice only insofar as they concern choices of how to spend incomes that are of necessity limited, and only insofar as they affect the attraction of capital and labor to the production of some goods rather than other goods. In other words, it studies the issue of choices for no other reason than that it is necessary to do so as part of its study of the production of wealth under a system of division of labor.

To claim that economics is on this account a science of human choices rather than of wealth is to confuse an aspect of the science with its totality. To adopt this view is to be led to ignore all the really crucial matters that economics deals with and to seek esoteric extensions of the subject that have nothing whatever to do with its actual nature. Fortunately, those who adopt this view are highly inconsistent in its application and generally continue to devote most of their attention to the serious business of economics and leave the alleged necessity of extending the subject beyond the domain of wealth as a task to be carried out in the indefinite future. 12

3. The Limitless Need and Desire for Wealth

The leading propositions laid down in Chapter 1 were that economics is the science that studies the production of wealth under a system of division of labor and that capitalism is the essential requirement for the successful functioning of a division-of-labor society, indeed, ultimately for its very existence. It is implicit in these propositions that the ultimate source of the importance of the division of labor and capitalism, and of the science of economics, is wealth. This is because, in the last analysis, the division of labor, capitalism, and the science of economics are all merely means to the production of wealth.

Nevertheless, many philosophers and religious thinkers have held that the production of wealth serves only a low order of needs of secondary importance and that concern with its production beyond the minimum necessities required for the sustenance of human life is evil, immoral, and sinful by virtue of elevating low material values to the place properly reserved only for the pursuit of noble spiritual values. If these beliefs were correct, then economics would at best be a science of secondary importance and preoccupation with it by serious thinkers would be a mark of perversity.

In the face of such attitudes, it is incumbent upon economics to justify itself by providing philosophical validation for the production of wealth being a central, continuing concern of human existence. In other words, economics must explain the role of wealth in human life beyond that of the food, clothing, and shelter required for immediate sustenance. It is necessary to show how the continuing rise in the productivity of human labor made possible by the division of labor and capitalism serves objectively demonstrable human needs—to show, indeed, why there is no limit to man’s need for wealth. Only on the basis of an objectively demonstrable need for

wealth without limit is there a full and secure foundation for the need for the division of labor and capitalism and the continuous economic progress they bring, and for the science of economics.

Human Reason and the Scope and Perfectibility of Need Satisfactions

Man’s need for wealth is limitless because he possesses the faculty of reason. The possession of this faculty both radically enlarges the scope of man’s needs and capacities in comparison with those of any other living entity and, at the same time, makes possible continuous improvement in the satisfaction of his needs and in the exercise of his capacities. Considered abstractly, man’s possession of reason gives him the potential for a limitless range of knowledge and awareness and thus for a limitless range of action and experience. Man’s mind can grasp the existence both of subatomic particles and of galaxies, and of everything in between. It observes all manner of patterns and similarities and differences, of which no other form of consciousness is capable. Thus, the potential is created for man to act over a range extending from the subatomic level to the remotest reaches of outer space, and to experience all that his mind enables him to discern and enjoy in the totality of the universe.

Material goods—wealth—are the physical means both of acting in the world (for example, automobiles and airplanes, tools and machines of all kinds) and of enjoying the experiences of which man is capable (for example—in addition to many of the goods in the preceding category—works of art and sculpture, landscaped grounds and gardens, beautiful homes and furniture). They are the instrumentalities of man’s action and objects of his contemplation. The potential of a limitless range of action and experience implies a limitless need for wealth as the means of achieving this potential. Man needs wealth without limit if he is to fulfill his limitless potential as a rational being in physical reality.

This abstract principle can be illustrated in a wide variety of forms, starting with the contribution of additional wealth to the improved satisfaction of man’s elementary needs for nutrition and health. Because man possesses reason, and is thus able to abstract, form concepts, and think conceptually, his mind is able to grasp connections spanning generations and continents between his material wellbeing and the physical state of the world. Thus, for man, functioning on the conceptual level, the satisfaction just of the needs for nutrition and health implies a practically limitless need and desire for wealth: in the form of canning and freezing facilities, a modern transportation and communications system, a farm-equipment industry, and everything that is necessary to the existence of these things, such as the steel, oil, and coal industries, the transportation and communications equipment industries, and so on. All such wealth is necessary to an adequate quantity and sufficient variety of food to meet man’s nutritional needs. Likewise, man’s need for health further implies a need not only for medicines, hospitals, and all manner of diagnostic and therapeutic equipment and everything necessary to their existence, but extends even to such seemingly unrelated things as automobiles and space travel: the former made possible the ability of people to live in the fresh air of the suburbs and also the modern ambulance; the latter holds out the possibility of such things as recuperation from heart disease in an environment of reduced gravity.

Reason gives to man the ability to use wealth progressively to enhance the exercise of the capacities he shares in common with lesser species. For example, man shares with animals the capacity for locomotion. Animals can do no better than rely on their unaided legs. Man domesticates the horse, the elephant, and the camel. He produces shoes and builds roads, rafts, and sailing vessels. He goes further and invents the railroad, the steamship, and the automobile; and then the airplane and the rocketship. Similarly, man shares with the animals the capacity to see and hear. Animals can do no more than rely on their unaided eyes and ears, but man produces telescopes, microscopes, and stethoscopes; television sets and radios; eyeglasses and hearing aids; X-ray machines and computers; motion pictures and VCRs; and phonographs, compact-disk players, and tape recorders.

As noted, the fact that man is the rational being also gives him a wider range of capacities than is possessed by any of the lesser species. Because man is the rational being, he is able to pursue such activities as music, art, science, and athletics. He is able to form relationships with others which are maintained even though the parties may be separated by great distances and for long intervals of time. It is the nature of man’s brain that enables him to integrate separate sounds into harmonies and melodies, to grasp representations and thus the meaning of a painting, to pursue science, to follow the system of rules of a game of sport, and to maintain an awareness of others from whom he is separated by time and distance. These are feats of which an animal’s brain is incapable. In the pursuit of all of these additional activities made possible by the possession of reason, wealth either is absolutely indispensable or, at a minimum, enormously contributes to the performance and enjoyment of the activity.

Wealth contributes to music when it takes the form of musical instruments, music books and scores, concert halls and conservatories, radios, phonographs, and tape recorders. If music were deprived of the existence of these forms of wealth, the activity would be reduced to

the unaided, untrained, and largely unheard singing of the human voice. In the absence of wealth in the form of brushes, paints, and canvases, of museums, schools, and books of art, art would be reduced to primitive drawings on the walls of caves. In the absence of wealth in the form of scientific equipment, laboratories, universities, and libraries, science could not be pursued. In the absence of wealth in the form of playing fields, athletic equipment, stadiums, and radio and television sets, athletic events and the enjoyment derived from them would suffer a radical decline. In the absence of wealth in the form of pens and paper, post offices, telephones, automobiles, railroads, ships, and planes, friendships and other human relationships could not be maintained over long distances.

On the basis of these observations, it is obvious that the ancient prejudice that man’s desire for wealth serves his “lower” needs is absurd. Wealth is the material means of carrying on virtually every human activity and of serving virtually all of man’s needs. It is man’s means of acting in accordance with his human potential.

Moreover, even the wealth that does serve man’s “lower” needs, such as, presumably, his needs for nutrition and elimination, also reflects his nature as a rational being, in ways beyond those already described. When man serves his “lower” needs, he does so in a manner that is unique to him—in a manner that reflects the distinctive nature of his consciousness. For example, when man eats, he does not do so in the manner of an animal, indifferent to his surroundings. On the contrary, he desires such things as tables and chairs, table linen, china, silverware, and so on. He is also highly sensitive to the preparation of his food and to the combinations in which it is served. When man eliminates, he desires the existence of such things as indoor plumbing and privacy. In such activities, the nature of man’s consciousness requires the incorporation of psychological and aesthetic elements into the satisfaction of what in animals are merely physical needs. For man, at least in his waking hours, there is probably no such thing as a purely physical need. Man’s physical needs are intimately connected with his psychology as a rational being—as a being aware of such things as patterns and harmonies and dissonances in shapes, sounds, and colors, and possessing the need to organize his activities and control the functions of his body. In everything he does, man can be aware of his own emotional responses and can distinguish between aesthetic elements which enable him to have a more enjoyable or a less enjoyable emotional response.

Thus, the aesthetic element enters into the satisfaction of virtually all of man’s needs. It leads him to desire not just clothing and shelter, but clothing and shelter with style and beauty. It leads him to desire not just “transportation,” but automobiles with chrome trim and whitewall tires. Matters of design and appearance feature prominently in all consumers’ goods where men are free to choose.

Closely related to man’s need for aesthetic satisfaction is his need for novelty and variety, which need also emanates from the rational nature of his consciousness. The lower animals do not become bored with the repetition of the same routine. Man does. The nature of man’s consciousness enables him to appreciate differences of a kind of which animals show no apparent awareness, and seems to require that he periodically experience such differences. Thus, whereas animals are content to eat the same food day in and day out, man requires a variety of food. Man experiences a sense of intellectual refreshment when he breaks his routine and takes a vacation or a weekend off. He also experiences a sense of intellectual refreshment in the introduction and possession of new goods, and with the coming of style changes.

Thus, the appearance of almost every new “gadget” is an occasion for a kind of excitement: it is a thrill for a rational consciousness to see such new products appear (each in its day) as automobiles, airplanes, refrigerators, radios, television sets, pocket calculators, computers, and so on. The purchase of such goods is almost always an occasion for special pleasure, because it provides something new and valuable to experience. Even the replacement purchases of such goods are usually a source of pleasure, because further improvements have usually been made in them, and because of style changes. Changes in style, whether in automobiles, clothing, or furniture, are a source of intellectual refreshment and pleasure, because they provide a sense of the new and different.

It must be stressed that man’s desire for novelty and variety stands in the service of his life. The principle is very similar to that of the pursuit of scientific knowledge, where the motive is curiosity and the effect is all manner of practical applications that could not have been foreseen in advance. In just this way people originally desired automobiles not as a practical means of transportation, but as an object of amusement. Yet this desire led to the growth of the automobile industry and to the transformation of the economic system. A similar course of development occurred in the case of electric light and power, and telephones and television sets, and now seems to be under way in the case of home and personal computers.

Even if no practical applications ever result directly from the things desired, their being desired produces practical results. For example, a great industrialist’s motive in earning additional millions on top of those he already has may be merely to add to his collection of fine paintings and statues. But in pursuing this motive, the

industrialist is led to introduce products and methods of production that enable the average person to obtain such things as more and better food, clothing, and transportation.

Man’s life gains incalculably from the fact that his activities are not limited to the “practical,” but are undertaken largely for the sheer pleasure of experiencing the new and different and the corresponding expansion of his own powers required to accomplish it. For this leads him to do things that have practical results which would otherwise be impossible for him to obtain. In effect, reason serves man’s life in being free to serve itself. Although man’s life may not need every particular object of his desire for novelty and variety, it very much does need the existence of his desire for novelty and variety.

On the basis of the existence of an objectively limitless need for wealth, there is no limit to man’s desire for wealth. The occasional cases that exist of individuals in whom the desire for additional wealth is totally repressed are comparable in their frequency and significance to the cases of individuals in whom sexual desire is totally repressed. These cases are rare indeed. Even medieval monks, for example, thoroughly committed to the doctrine of asceticism, were torn by the temptation for material things. The truth lies with Adam Smith, who observed that “the desire of food is limited in every man by the narrow capacity of the human stomach; but the desire of the conveniences and ornaments of building, dress, equipage, and household furniture seems to have no limit or certain boundary.” 13

To translate Smith’s observation into contemporary terms, we can observe as the overwhelming norm such things as that the man who has no automobile would like to be able to afford one. The man who has an automobile would like to be able to afford a newer, better one. The man who has several new automobiles of the highest quality would like to be able to afford a yacht or a plane. If he is rich enough to afford both a yacht and a plane, then he would like to be able to afford a yacht on which the plane can land, and so on. Similarly, the man who has a small house or apartment would like to be able to afford a larger one. If he has a large house or apartment, then he would like a more luxurious one—perhaps with a swimming pool or tennis court, or both; and with finely landscaped grounds. And he would probably like to have more than one house or apartment—perhaps a hunting lodge in Maine, a winter home in Palm Beach, an apartment in Paris, or, indeed, all three of them. The more one has, the more one wants.

The fact that both the need and the desire for additional wealth are limitless for all practical purposes does not mean, however, that people automatically act to satisfy that need and desire. It is certainly possible for the need and desire for additional wealth to fail to result in the production of additional wealth, let alone in continuous economic progress. Indeed, history and most of the world around us are characterized by stagnation and poverty. The mere possession of a need or desire is never sufficient to ensure that the need or desire will be satisfied. In the absence of the influence of a rational philosophy establishing limited government and economic freedom and inculcating such convictions as that the material world has both reality and primacy, that it is intelligible, and that hard work pays, man is not able to devote himself sufficiently to the production of wealth. 14

In such conditions, man desires more wealth than he possesses, but his desire is not strong enough or consistent enough to enable him actually to go and produce additional wealth. And if it is strong enough to induce him to increase his production, he is again and again stopped from doing so because of the initiation of physical force by others. Even when the barrier of physical force temporarily relaxes and some individuals are able to make some improvements, the absence of a rational philosophy precludes the development of science. It also precludes the establishment of sufficient freedom to make possible the development of the division of labor and the other capitalistic institutions necessary to the continuous increase in wealth.

As a result, despite the existence of both a need and a desire for additional wealth on the part of those affected, we witness such phenomena as masses of people dying of starvation, yet unable—indeed, sometimes even unwilling to expend the effort—to produce additional food. We witness primitive people delighted with the gift of mirrors and trinkets of all kinds, not to mention transistor radios and bicycles, yet continuing to live under essentially the same conditions as their remotest ancestors.

Progress and Happiness

The fact that the need and desire for wealth are limitless does not mean that when people devote themselves to satisfying that need and desire, as in the nations of modern capitalism, they go through life with a sense of endless frustration, seeking more than they can ever hope to obtain. The normal man, if he lacks an automobile, does not actively desire a yacht. He actively desires merely an automobile. His desire for a yacht lies dormant until such time as he already has acquired one or more high-quality automobiles. The limitless desire for wealth, in other words, becomes active only step by step. It manifests itself in an active desire for things that are merely one or two steps beyond our reach at the moment. It leads us to exert ourselves and extend our reach. And then, as we succeed, desires previously dormant become active, or totally new desires are formed, and we are led

to exert ourselves and extend our reach still further. Thus, the limitless desire for wealth impels us steadily to advance.

Oriental philosophy and some schools of thought in the contemporary Western world claim that the fact that our desires will always be a step ahead of our possessions shows the futility of our efforts—that, instead, we should seek to rid ourselves of our desires and be content forever with some minimum of wealth. Such teachings are utterly mistaken, and their influence helps to account for the stagnation and poverty that exist in the world. They view the excess of our desires over our possessions as a source of discontent and unhappiness. Actually, this excess is the root of our ambitiousness and our rising to meet challenges. It is what impels us to progress, and, as such, is an essential element of our happiness.

It should be realized that as rational beings we are also progressive beings. Progress is the corollary of the continuous application of reason. Any individual who continues to use reason—who continues to think—necessarily comes to know more and more, and thus to be capable of accomplishing more and more. If a society is characterized by continuous thinking from generation to generation, and if its educational system works—that is, if it succeeds in transmitting to the rising generation the essentials of the knowledge discovered by all the preceding generations—then the general body of knowledge in the society is progressive, and thus the society as a whole is capable of accomplishing more and more. Progress is the natural result of the use of reason as a constant.

If our happiness depends on living in accordance with our nature as rational beings, then our happiness and progress are inseparably connected. The fact that our desires will always be ahead of our ability to satisfy them is not a cause of unhappiness. It is the inducement to the steady exercise of our reason, to our living in accordance with our nature, which is indispensable to our happiness. Our happiness does not come from the existence of desires satisfied, but from the steady upward climb itself—from the process of continuing to think and solve problems and to become capable of accomplishing more and more. In other words, progress is a source of happiness. In the lives of scientists, inventors, businessmen, engineers, and managers, progress is the obvious focal point of thinking, planning, and problem solving. It is also what necessitates that the average worker make himself capable of continuing to think and learn throughout his life, so that he can acquire the new skills necessary to adapt to the changing requirements of production. Thus, progress is what helps to elevate even the average man of modern Western civilization into a thinking, literate being possessing an intellectual life incomparably superior to that of previous eras. If happiness depends on the possession of a sound, active mind, progress fosters happiness.

A further aspect of the connection between progress, reason, and happiness must be mentioned. As rational beings, we are able to be aware of the future: the future has reality for us in the present. To be able to look forward to a better future enables us to bear considerable hardship in the present without complaint, even cheerfully. But to look to a future of unrelieved hardship, or, worse, a future that holds out the prospect of even greater hardship, makes hardship in the present more difficult, if not impossible, to bear. Indeed, the prospect of impoverishment in the future deprives one of the ability to derive pleasure even from the possession of substantial wealth in the present, for the shadow of such a future must hang over whatever enjoyment one might have in the present. Thus, the prospect of progress, as well as the process of achieving it, contributes to our happiness.

The Objectivity of Economic Progress: A Critique of the Doctrines of Cultural Relativism and

Conspicuous Consumption

According to the widely held doctrines of cultural relativism and conspicuous consumption, the concept of economic progress can have no objective meaning. 15 These doctrines hold, for example, that our preference for automobiles over horses, or for radios and television sets over jungle tom-toms, is a matter of social and cultural conditioning. It is allegedly the result only of the fact that in this particular culture it happens to have been instilled in people—for no really good reason—that it is desirable to own such goods as automobiles and television sets. Accordingly, people supposedly want to own such goods not because it really is desirable to own them in any objective sense, but merely that they may conform to what is expected of them in this culture. They allegedly want to own them as a source of prestige in the eyes of others.

The essential meaning of these doctrines can be grasped by realizing that what they imply is that people want to own television sets not because they want to watch the television sets, but because they want to be seen watching them—or because they were told to do so by the advertisers. Not the actual consumption of goods is important, we are told, but the “conspicuousness” of their consumption. Thus, the only real significance of television sets or any of the other “gadgets” of capitalist society is supposed to be their significance in the eyes of others. In a different culture people allegedly derive equal satisfaction from appearing before others with a ring through their nose, and in the society of the future (or at least as many people conceived the future until very recently) they will allegedly do so by wearing a chest full

of medals proclaiming them as heroes of socialist labor.

Thus, according to these doctrines, there is no reason to believe that people’s preferences in a modern, capitalist society are any better grounded than those of people in any other type of society, or that a modern, capitalist society is in any objective sense superior to any other society. There is thus allegedly no basis for believing that what has been accomplished in a modern, capitalist society is in any objective sense progress.

Now what is wrong with these doctrines is that they omit any consideration of man in relation to the physical world. For them, the most important thing in human life is the mere approval or disapproval of other people, which is thought to constitute an ultimate standard, incapable of being subjected to further evaluation. But the truth is, of course, that the primary issue in human life is man’s relation to the physical world. It is there and there alone that man must live or die, irrespective of the culture in which he lives. And how man succeeds in relation to the physical world provides an objective standard by which to judge the value of cultures. The examples of automobiles and television sets can serve to illustrate this point.

It is not true that our preference for the automobile over the horse is arbitrary, based on nothing more than social and cultural conditioning. It is based on our nature both as animate beings possessing the capacity of locomotion, and as rational beings capable of enlarging all of our physical capacities. We call the automobile an advance over the horse by the same standard by which we call the domestication of the horse an advance over possessing merely our unaided legs, and by the same standard by which we value the possession of our legs themselves. Namely, it extends our range and power of locomotion. If the automobile were not an advance over the horse, then the horse would not be an advance over our unaided legs. And, on the basis of such reasoning, the very possession of legs themselves could not be considered better than not possessing them. The automobile is an advance over the horse, therefore, for the same reason that it is better to have legs than not to have them.

Similarly, we call the telegraph an advance over the tom-tom, and radio an advance over the telegraph, because they increase the efficacy of our sense of hearing. The one enables us to hear sounds coming from a greater distance; the other, sounds from a greater distance as well as a greater range of sound. Thus, we value the radio over the telegraph, and the telegraph over the tom-tom, by the same standard as we value our sense of hearing itself. We call television an advance over radio for the same reason that we value the possession of eyes and ears together over the possession of ears alone. We call color television an advance over black and white, for the same reason that we value normal vision over being colorblind.

The advances in our goods represent extensions of our power to use our limbs, senses, and minds to accomplish results. In effect, they magnify the power of these vital attributes of our persons. They are advances by the standard of the value of these attributes, and thus by the standard of the value of our persons. 16

It may be that there are cultures in which people regularly grow up incapable of appreciating the value of economic advances. It may be that in this culture there are some people who really do not understand what our advances are all about and who see no better reason for valuing them than that of conforming to the expectations of others. The existence of such people and of such cultures proves not that our advances are not advances, but only that there are people with a gross deficiency of understanding, and cultures that are highly destructive of the capacity for understanding.

This discussion has major bearing on the fact that in American society, the earning of wealth has traditionally been the leading source of prestige. The objective fact underlying such prestige is that the earning of wealth benefits one’s life by enabling one to do more. Thus, it deserves to bring prestige, by the standard of human life as a value. It is a great tribute to the culture of the United States that it is to such activity that it has accorded prestige.

It must also be pointed out that the attempt to reverse cause and effect, and to take prestige as the starting point, must backfire. For example, the attempt of a socialist society to induce work by the offer of prestige, rather than material incentives, not only cannot succeed, but must bring the opposite of prestige to those who would be willing to work for it. To mine coal, drive a truck, harvest a field, work in a factory—to do virtually any of the run-of-the-mill jobs that occupy the bulk of the labor force—for the sake of prestige, would be to mark a person as nothing but a fool. He would have to be a fool to drive himself day in and day out, sweating and straining, all for the sake of nothing more than, in effect, being called a good boy.

The objective superiority of the goods of modern capitalism is not called into question by the fact that in our culture many people want to own such goods as horses, canoes, bows and arrows, and so on, and in some cases prefer units of these goods to units of more advanced goods serving the same needs. Such choices do not by any means necessarily mark these people as primitivists. There are conditions in which the horse is superior to the automobile—for example, where there are no roads. Similarly, canoes can navigate shallow waters that a motorized craft cannot. Also, the physical experience that a horse or canoe affords is different from

that provided by an automobile or motorboat: they enable one to observe things more closely and more leisurely, for example.

The desire to own such goods, even though one lives in the conditions of modern civilization, is actually nothing more than a manifestation of our limitless need for wealth: a person wants one or more automobiles as his normal means of transportation, and a horse as a further refinement, as it were, of his ability to locomote. Thus, he loads his horse into a horse trailer, hitches it to his car, or, better, motor home, and drives to the edge of terrain where only horses can go. Or he simply goes for a ride on a nearby trail to experience the motion of a gallop and the wind on his face. To be able to enjoy the widest possible range of pleasurable and beneficial experiences is precisely why an individual desires to obtain the greatest possible amount of wealth. But to obtain it, and have the time to enjoy it, he must be able to accomplish everything that is not itself pleasure, or otherwise valued for its own sake, in the shortest possible time. If, for example, what a person wants is the experience of leisurely riding along a beautiful mountain stream, then he doesn’t want to waste that time using a horse to cross the country to get to the mountains. For that, he wants a motor vehicle. It (together with roads) is objectively superior to the horse as a normal means of transportation. As a direct source of enjoyment, however, there is still a need for horses, even in the conditions of a modern economy. In effect, the limitless need for wealth embraces a kind of recapitulation of the goods that were prominent in less advanced conditions.

The Objective Value of a Division-of-Labor,

Capitalist Society

I have shown that economic progress is not a matter of arbitrary preference, but is objectively desirable—desirable on the basis of our nature as rational beings. The goods that result are objectively improvements, and the process of acquiring them—the continuous thinking that must be done—is called for by our nature as rational beings.

The objective value of economic progress implies that the cultural values that make economic progress possible are likewise objectively better than those that stand in its way. These values, of course, are the values that underlie the division of labor and capitalism—above all, reason, science, technology, individual rights, limited government and economic freedom, and private ownership of the means of production. In the name of being able to see, hear, move, or do anything that our senses, limbs, and minds enable us to do—in short, in the name of being able to live as human beings—these values deserve to be upheld.

Indeed, the same principle that establishes the objectivity of the economic advances of modern capitalism directly establishes the objectivity of the superiority of modern capitalist civilization as such, in comparison to any other form of civilization. Here the attribute that serves as the standard is the ability to acquire and apply knowledge. Modern capitalist civilization—modern “Western” civilization—possesses this ability in greater measure than any previous civilization. In addition to knowledge of the laws of logic and the principle of causality, which were known to the Greeks and Romans and which enabled them to surpass all previous civilizations in the ability to acquire knowledge, modern Western civilization possesses not only a much more highly developed knowledge of the laws of mathematics and science but also a division-of-labor economy and, above all in its Anglo-Saxon variant, the freedoms of speech and press. As I will show in Chapter 4, a division-of-labor economy makes possible an enormous and progressive increase in the amount of knowledge that a society possesses and in the application of knowledge to production. The freedoms of speech and press also play an essential role in the increase in knowledge by guaranteeing the individual’s right to disseminate knowledge without being stopped by the coercive power of the state operating in support of the ignorance, fears, or superstitions of any individual or group. Thus, capitalist civilization deserves to be upheld in the name of the value of knowledge.

It should go without saying that capitalist civilization is open to men of all races, as the brilliant success of Japan and several other Oriental nations dramatically illustrates. It is not the civilization of the white man, but of all men who wish to prosper and are prepared to adopt reason as their fundamental means of doing so. Those who view it, whether with pride or with hatred, as the civilization of the white man only, are implicitly racists, in that they view civilization and culture as being racially determined. The fact is, of course, that civilization and culture, above all, modern capitalist civilization, is a body of knowledge and values that is accessible to all of mankind. 17

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While extolling the values of capitalism, it must be stressed that nothing that has been said or that will be said in this book should be taken to imply a belief on my part that contemporary Western or American culture is perfect. Far from it. Obviously some very serious flaws mar our culture. And they have been growing.

Our culture’s basic flaw is its philosophic contradictions. 18 These contradictions, in the form of irrationalist doctrines, such as that of cultural relativism, lead it to attack its virtues. Thus, we witness the spectacle of our culture flagellating itself for its successes in science,

technology, and the creation of wealth. We see the spectacle of its intellectuals holding the most primitive and barbaric cultures as superior to their own, as they declare that all cultures are of equal value except their own, which is to be despised.

The spectacle is particularly gross in regard to the culture of the United States, which is the foremost capitalist country. The United States is denounced by its enemies as the leader of the evil, reactionary forces—the champion of monopoly capital and imperialism. Many of its own intellectuals join the denunciations and find nothing but evil in the history of their country and in its current policies. Yet all the flaws of the United States were flaws of being inconsistent with its own magnificent principles. Its flaw today, which is potentially deadly, is that many of its intellectual leaders have been corrupted to the point of despising those principles, above all, the principles of limited government and economic freedom, and, more recently, the values of science and technology, as well.

4. The Law of Diminishing Marginal Utility and the Limitless Need for Wealth

The principle that man’s desire for wealth is limitless is fully consistent with the law of diminishing marginal utility, one of the most important and wellknown principles of economics. The law of diminishing marginal utility states that the utility or, equivalently, the importance or personal value that an individual attaches to a unit of any good diminishes as the quantity of the good in his possession increases.

An example drawn from Böhm-Bawerk, the leading theorist of marginal utility, will illustrate the principle. Imagine that an isolated frontiersman, say, of the old American West, requires five sacks of grain, which must last him until his next harvest. He needs one sack to meet his minimum need for nutrition. Without it, he would die of starvation. He needs a second sack to be sure of having enough food to keep up his health and strength. A third sack enables him to raise some poultry and satisfy his hunger completely. With a fourth sack he can distill some brandy. With a fifth sack he can feed some parrots, from which he derives amusement.

If our frontiersman in fact possesses only one sack of grain, he will value it as highly as his very life. This is because, in this context, the possession of a sack of grain is a necessary condition of his survival; if he loses his one and only sack of grain, he will die. If, however, he possesses two sacks of grain, he will not value one sack as highly as his life, but only as highly as the maintenance of his health and strength. Because now, in this context, this is what depends on the possession of a sack of grain;

if he lost one of his two sacks, it would be his health and strength, not his life, that would be threatened. In the same way, if he should possess three sacks of grain, he will value one sack only as highly as the remaining satisfaction of his hunger. With the possession of a fourth sack, the value he attaches to any one sack falls to the importance he attaches to having brandy; with a fifth sack, it falls to the importance he attaches to feeding the parrots. Thus, the marginal utility of a good can be thought of as the utility of the last unit of a supply, giving all due allowance to the more important want satisfactions provided by the earlier units of the supply, and thus falling as the number of such earlier units increases. 19

The law of diminishing marginal utility rests on two closely related foundations. First, because goods have the power to satisfy wants, successive units of a good that are used to satisfy a want necessarily encounter wants that are more and more satisfied. For example, if I am very thirsty, the first glass of water I drink meets a very intense need. But that glass of water helps to satisfy the need. The second glass of water I drink, therefore, goes to serve a need that is less urgent precisely because it is already partly satisfied by virtue of the first glass of water. The same, of course, is true of the frontiersman’s grain, insofar as he consumes it.

The second foundation of the law of diminishing marginal utility is that insofar as we must choose which of our wants to satisfy, and act rationally in doing so, we choose to satisfy our more important wants in preference to our less important wants. Our frontiersman, for example, chooses to feed himself ahead of the parrots. Indeed, as far as we are able, we devote our goods to the satisfaction of the most important of our wants that they are capable of satisfying. Diminishing marginal utility follows from this because, with the units of the initial supply devoted to serving the most important of the wants they can serve, the only wants that remain to be served by an addition to the supply are necessarily wants that are less important than those already being served.

The concept “most important of our wants that a good is capable of satisfying” must be understood as a variable range, whose extent depends on the quantity of the good we possess. Our frontiersman, for example, devotes his supply of grain to its most important uses even when he feeds parrots. In the context of possessing five sacks of grain, feeding parrots is the most important use to which he can devote his fifth sack. While it is certainly not as important as devoting any of his first three sacks of grain to feeding himself, it is certainly more important than devoting a fourth sack of grain to feeding himself (which might be unhealthy and make him feel ill) and more important than any other use to which he can devote that fifth sack, given the existence of the other four.

We satisfy our most important wants in descending order of importance. The larger the number of units of a good at our disposal, the further down in the scale of importance we are able to carry the satisfaction of our wants. The marginal unit of a supply is devoted to the most important wants that it can serve, but these wants are necessarily less important than the wants being served by the “earlier” units of the supply. The marginal wants that a good serves should be thought of not as being unimportant, but as being the least important of the most important wants that its supply suffices to serve. The marginal wants are always more important than any of the submarginal wants, that is, wants whose satisfaction would require a still larger supply of the good.

It should be realized, of course, that the utility of the marginal unit of a supply determines the utility of any of the units of that supply at that moment. If, for example, our frontiersman were to attach a tag to one of his five sacks of grain, and label it specifically as the sack necessary to his survival, the utility of that particular sack would still be no greater than the utility of a sack specifically labeled as necessary to the feeding of his parrots. This is because irrespective of any such labeling, it is still only a question of one sack out of a supply of five. If the particular sack labeled necessary to survival were lost, the sack previously designated as reserved for the feeding of the parrots could take its place. By virtue of making this substitution, the actual loss would fall on feeding of the parrots, and that utility, therefore, would be the marginal utility of the sack in question.

As previously stated, the law of diminishing marginal utility is perfectly consistent with the fact that man’s need for wealth is limitless. It is necessary to stress this point in view of the misconception spread by Galbraith that increasing wealth, and the consequent fall in the marginal utility of a unit of wealth, makes the pursuit of wealth progressively less important. 20

One reason for the consistency between the law of diminishing marginal utility and the limitless need for wealth is the elementary fact that the total utility of a person’s supply of wealth must go on increasing so long as wealth has any positive marginal utility to him whatever. For example, the fact that the fifth sack of grain has a lower marginal utility to the frontiersman than the fourth does not contradict the fact that five sacks of grain have a greater total utility to him than four and thus that it is better for him to own five sacks than four. So long as additional wealth has any marginal utility whatever, there is a need for more wealth.

Of course, if one considers a very narrow type of good, such as bread, say, it is possible to imagine additional units beyond a point being of negative utility, and, therefore, a larger supply being of less utility than a smaller supply. This would be the case, for example, if the additional units either had to be eaten by people who already had all they wanted or else would simply rot and impose costs of removal and cleanup. But, for reasons explained earlier in this section, it could certainly never be the case that all or most goods, or, therefore, wealth in general, could fall into this category.

Furthermore, it should be realized that the very process of increasing the amount of wealth that is available to the average member of any society entails the opening up of new uses for additional wealth, which has the effect of increasing the marginal utility of additional units of wealth. The opening up of new uses for wealth occurs because essential to the ability to increase the supply of wealth is scientific and technological progress, which makes possible not only improved methods of producing goods of the kind that already exist, but also brand new kinds of goods. Thus, for example, the invention of the electric motor and the internal combustion engine, which radically increased our ability to produce and enjoy wealth, did not result in our sating ourselves with a vastly increased production of such goods as candles and oxcarts. On the contrary, as part of the same process of improvement, these inventions were accompanied by the invention of the electric light and all the electrical appliances and, of course, the automobile. In this way, increases in the ability to produce raise the marginal utility of additional wealth along with providing it.

Thus, an automobile represents perhaps a hundred or a thousand times the wealth represented by an oxcart, and, at the same time, is probably of correspondingly greater marginal utility than an oxcart. Certainly, the marginal utility of a second automobile does not represent a drop in the marginal utility of wealth to the point that would correspond to the possession of a second hundred or thousand oxcarts. Along the same lines, one might think of a two-hundred horsepower automobile as representing the material equivalent of two hundred horses. Wealth representing a two-hundredth part of an automobile has a higher marginal utility to the owner of an automobile than would the wealth representing a two-hundredth horse. Thus, the effect of a growing ability to produce is not only more wealth, but also a higher marginal utility of the additional wealth in comparison with what it would otherwise have been (if somehow the additional wealth had been able to come into existence without such technological advances). And, as these examples imply, the effect of a growing ability to produce is a tendency toward an increase in the size of the marginal unit of wealth, as well.

This last point requires elaboration. The size of the marginal unit is never something fixed and immutable. It is always a matter of context, and the context is always

the circumstances and conditions with which the individual is confronted. If, for example, our frontiersman had two of his five sacks of grain stored in the same place, and that place was threatened by a fire, what would be at stake for him would be the importance of satisfying the wants dependent on the two sacks together. The two sacks together would have to be evaluated, and they together would constitute the marginal unit. As von Mises once said in a discussion with the present author, the marginal unit is whatever is the amount under consideration.

As people grow richer, the size of the marginal unit tends to increase. Not only do they deal with things like automobiles instead of oxcarts, but richer people deal with Cadillac-or Mercedes-level automobiles rather than Chevrolet-or Toyota-level automobiles. When differences in quality are considered, a house, a suit or a dress, a restaurant meal, practically everything, tends to be a larger-sized unit of wealth for a richer person than for a poorer person. When this is taken into account, it becomes clear that it is a great mistake to assume that as wealth increases, the utility of the marginal units actually dealt with diminishes. On the contrary, the utility of these units actually increases! Unit for unit, a Cadillac has a higher marginal utility than a Chevrolet; a large, luxurious house has a higher marginal utility than a small, modest house; and so on.

Furthermore, the fact that the utility of a marginal unit of wealth of given size diminishes as the quantity of wealth available to us increases is actually an important aspect of the desirability of increasing our wealth. What we rationally want is to be in a position in which the marginal utility of a unit of wealth of any given size more and more approaches zero, while what we deal with more and more is progressively larger-sized units of wealth. We want to be in a position in which the loss of the wealth represented by $10, say, is absolutely unimportant to us; better still, in which the loss of the wealth represented by $100, $1,000, or $10,000 is absolutely unimportant to us. The loss of wealth represented by $10 will be unimportant to us when we are rich enough to afford spending $50 or $100 for a single fine meal rather than $10 for a whole day’s food—when, in other words, $50 or $100 replaces $10 as the representative of a marginal unit of food. The loss of $1,000 will be unimportant to us when we can afford to spend $50,000 for a second automobile, perhaps, rather than just $1,000 for our one and only ancient used car. The loss of $10,000 will be unimportant to us when we can afford to spend $1,000,000 for our second or third home rather than just $10,000 for our one and only small used trailer.

Thus, we rationally want more wealth in order to be able to deal with marginal units of wealth of progressively larger size, and to be less and less concerned with units of wealth of any given size. In the spirit of the welcoming party allegedly once given by American millionaires to the famous nineteenth-century English defender of capitalism Herbert Spencer, the symbolic ideal is to be able to afford to use hundred-dollar bills to light one’s cigar—while dealing with mansions, yachts, and private railway cars as the significant marginal units of one’s life.

5. Applications of the Law of Diminishing

Marginal Utility

The law of diminishing marginal utility has important applications. It is appropriate to consider several of them here, both because they shed light on the rationality of economic activity and because, in one case at least, they provide positive confirmation of the fact that man’s need for wealth is limitless.

Resolution of the Value Paradox

As explained in the Introduction, the law of diminishing marginal utility makes possible a resolution of the classical economists’ paradox of value—the seeming paradox constituted by the fact that goods of apparently the lowest utility, such as diamonds, are normally more valuable in exchange than goods of apparently the highest utility, such as water. This apparent paradox was, of course what prevented the classical economists from being able to ground their theory of exchange value and prices in utility.

When people regard water as more useful than diamonds, what they have in mind is that if one had to choose between having no water or no diamonds, one would obviously choose to have no diamonds. Up to a considerable point, units of water are vastly more important than units of diamonds. But because of the operation of the law of diminishing marginal utility, a point is reached at which the utility of the marginal unit of water falls below the utility of the marginal unit of diamonds. The first gallon of water, the hundred and first, or probably even the thousand and first gallon of water, is more important than the first carat of diamonds or even the first ten or a hundred carats of diamonds taken together. But at some point, after one has all the water necessary for drinking, cooking, washing, irrigating, and so forth, the marginal utility of water falls below the marginal utility of diamonds. The extremity of the abundance with which nature provides water and the extremity of the scarcity with which it provides diamonds jointly operate to establish a far higher marginal utility of diamonds than of water in normal circumstances.

Thus the fact that in the normal circumstances of

civilized life people value diamonds above water is not at all paradoxical or irrational. It is perfectly consistent with considerations of genuine utility, provided the latter are properly understood—that is, in the light of the principle of diminishing marginal utility.

By the same token, the fact that people nowadays desire to possess such things as power windows on their automobiles, and are willing to pay substantial sums for what many may regard as relatively modest improvements in fashion or style, is also perfectly consistent with rational principles of behavior. It is a question of the context of how much wealth or income one has available and thus of the marginal utility to the individual of a unit of wealth or income. If one has sufficient wealth or income so that one is already able to provide for a very full satisfaction of such needs as those for food, clothing, and shelter, then, indeed, the most important use for the price of power windows or the price of a relatively modest improvement in fashion or style may well be the purchase of the power windows or the improvement in fashion or style. One must always consider what the individual’s choices are in the context confronting him. If the choice is, for example, the power windows or an improvement in his hi-fi equipment, because all wants of greater importance are already provided for, then the purchase of the power windows may very well be the most important use for the money in question.

Determination of Value by Cost of Production

The law of diminishing marginal utility also makes it possible for the first time to understand the actual role of cost of production in the determination of prices. Although the classical economists mistakenly believed that cost of production provided an explanation of prices that was a logical alternative to an explanation on the basis of utility, an understanding of marginal utility makes it possible to grasp the determination of price by cost as a major instance of the operation of the law of diminishing marginal utility.

As Böhm-Bawerk and Wieser explained, there are numerous cases in which cost of production is in fact the immediate determinant of the price of a good. These are cases in which a good of relatively high direct marginal utility is produced by factors of production whose supply is abundant enough to permit their employment in the production of other goods of relatively low marginal utility. In such cases, the marginal utility of the factors of production is determined by the utility of the least valuable of the products for whose production their supply is sufficient. The value of the factors of production, determined in this way, then reduces the value of the products of higher direct marginal utility to the utility of their least valued product. Thus, cases in which prices are determined by cost of production actually represent a special application of the law of diminishing marginal utility. Namely, the value of all the products of the same factors of production, however high their own, direct marginal utility, is reduced to the marginal utility and value of the marginal product of those factors of production. 21

Böhm-Bawerk’s example of the frontiersman with five sacks of grain, originally used to illustrate the principle of diminishing marginal utility itself can serve, in a slightly modified form, to illustrate the present point. Thus, instead of imagining a sack of grain labeled “sack required for survival,” let us imagine a quantity of biscuits, baked from flour made from this sack of grain, and labeled “biscuits required for survival.” As before, the frontiersman possesses four additional sacks of grain, which are sufficient for satisfying his needs down to the point of feeding parrots. If now this supply of biscuits is destroyed, the frontiersman’s life is not threatened any more than it was before, when his sack of grain labeled sack required for survival was lost.

Just as he could previously replace that sack of grain, so now he can replace the biscuits by withdrawing grain from the feeding of parrots. Thus, even though the direct marginal utility of the biscuits, like the sack of grain before them, is as high as that of his life itself, the ability to replace them, by withdrawing supplies from the feeding of parrots, reduces their actual, effective marginal utility to the much lesser marginal utility of feeding the parrots.

What is present here is that the value of the biscuits is reduced to the value of the grain which makes possible their replacement, and which in turn is determined by its marginal utility. Thus, the value of the biscuits, like the value of the sack of grain before it, labeled sack required for survival, comes to be determined by marginal utility at a point corresponding to the much lesser importance of feeding parrots. In this way, determination of the value of a product on the basis of the lesser value of the means required for producing it, represents the operation of the principle of marginal utility.

Determination of Consumer Spending Patterns

In addition, and very important, the law of diminishing marginal utility helps to explain the pattern of demand that prevails in the economic system at any given set of prices of goods. People can buy goods in many different combinations. They can buy more of some goods by curtailing their purchases of other goods. The law of diminishing marginal utility implies, however, that as people increase their purchases of any good, successive additional units of it are accompanied by diminishing marginal utility. By the same token, as they

restrict their purchase of other goods, to make additional funds available for the purchase of this particular good, the remaining units they purchase of these other goods acquire greater marginal utility.

From these facts, a principle of equilibrium in spending patterns emerges, which is that beyond a point, additional units of any good are not purchased at the expense of further reductions in the purchase of other goods because the marginal utility gained would be less than the alternative marginal utility forgone. Purchases in every line are carried only to the point at which the marginal utility derived is greater than the alternative marginal utility that could be derived by devoting the price of the good to the purchase of other goods. The equilibrium that emerges is defined by the condition that the marginal utility of each good purchased in each line is greater than the marginal utility of any other good or combination of goods that could alternatively be purchased with its price in any other line. At the same time, the marginal utility of an additional unit in any line is less than the marginal utility that would have to be forgone in other lines to make possible its purchase.

For example, consumers carry their purchases of food, clothing, shelter, and entertainment only up to the point at which the marginal utility of a unit of each of these goods exceeds the marginal utility of any alternative good or combination of goods that they might purchase with the same money. They limit their purchases in each line at the point at which the marginal utility gained by the purchase of an additional unit would be at the expense of a greater loss in marginal utility by virtue of having to restrict unduly the purchase of one or more other such goods. People wish to achieve a certain balance in the different areas of their consumption. Normally, they do not want to live in penthouses if it means having to eat beans and wear rags. Nor, by the same token, do they usually want to drink champagne and eat caviar if that means having to live in a hovel. They tend to achieve an equilibrium that is characterized by the utility of the last units purchased in each line being greater than the utility of any additional units that might be purchased in other lines.

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In an overzealousness for the use of mathematics, economics textbooks often describe the equilibrium of spending patterns by claiming that the marginal utility of each good comes to stand in a uniform proportion to its price. Thus, it is said, the

Marginal Utility of Good A Marginal Utility of Good B

=

Price of Good A Price of Good B and so on for all goods and all prices. It is claimed that this mathematical equilibrium results from the fact that wherever the equal proportionality of marginal utility to price does not exist, it pays to spend less for the goods of relatively lower marginal utility and more for the goods of relatively higher marginal utility, which raises the marginal utility of the former category and reduces that of the latter category relative to their respective prices until equal proportionality does prevail. 22

What the use of the above mathematical formula overlooks is the fact that marginal utility often undergoes major discontinuities. For example, the marginal utility of a steering wheel in an automobile relative to the price of the steering wheel is enormous, for it is as great as the marginal utility of the entire automobile. On the other hand, the marginal utility of a mere second headlight on the automobile relative to its price is comparatively quite modest. In such circumstances, the above described mathematical doctrine implies that one should forgo the purchase of the second headlight in order to purchase a second steering wheel. This, of course, is obviously nonsensical. Equilibrium in such cases cannot be described in terms of a uniform proportionality of price to marginal utility, but only in terms of the utility of the last units purchased in any line being greater than that of any alternative additional units that might be purchased with the same money in other lines. In effect, the condition of equilibrium is that the marginal utility of good A exceeds the utility of any additional units of goods B, C, etc., which might be purchased with its price, while, at the same time, the marginal utility of good B exceeds the utility of any additional units of goods A, C, etc., which might be purchased with its price, and so on for all goods.

Say’s Law

Finally, and what is most relevant to the fact that the need for wealth is limitless, the principle of diminishing marginal utility helps to explain the phenomenon of partial, relative overproduction and underproduction described by Say’s Law. It thus helps to explain why any alleged general or absolute overproduction, with the supply of wealth allegedly surpassing man’s need for wealth, is never actually present. 23 In so doing, it provides important confirmation of the fact that man’s need for wealth has no practical limit.

To understand this point, it must be realized that increases in the ability to produce always take place in particular industries. Very often, devoting the whole or even the greater part of such increased ability to produce to an expanded production of the particular products of those industries would result in the marginal utility of the products in question falling below the marginal utility of additional quantities of other products. These other products are products whose supply could be increased by a withdrawal of capital and labor from the industries in

which the improvements in the ability to produce have taken place. To the extent that the increased ability to produce is unduly concentrated in the particular industries in which it originates, the products of such industries may be said to be in a state of partial and relative overproduction, while the products of other industries are in a corresponding state of partial and relative underproduction.

For example, devoting a doubled ability to produce potatoes with the same labor to an actual doubling of the supply of potatoes, would result in a partial and relative overproduction of potatoes. At the same time, there would be an equivalent partial and relative underproduction of other goods, additional quantities of which possess a higher marginal utility than the additional potatoes and which could be produced with capital and labor used to produce the additional potatoes. The problem in such a case is not any actually excessive ability to produce, but merely the misapplication of an increased ability to produce in an undue concentration on the production of a particular good. The solution is thus simply a better balance in the production of additional goods. 24

Further major applications of the law of diminishing marginal utility will be developed in Chapter 5, in connection with the discussions of the concept of demand and of price determination.

6. “Scarcity” and the Transformation of Its

Nature Under Capitalism

Man’s limitless need for wealth, combined with the respective natures of desires and goods, is responsible for the fact that the desire to consume always far outstrips the ability to produce. Desires are mental phenomena, based on thoughts and concepts. Goods are physical phenomena, requiring for their existence the performance of human labor. For all practical purposes, the referents of concepts are limitless; and to desire, one need do hardly more than imagine. But goods are always specific concretes, and each must be produced, requiring labor and effort. In essence, our desires outstrip our ability to produce by virtue of the limitless range of the mental in comparison with the physical and thus by virtue of the fact that the range of our imaginations is always incomparably greater than the power of our arms.

This relationship remains true no matter how much we may augment the power of our arms by means of tools and machinery. For at the same time, as part of the same process, we augment the power of our imaginations, in that the new knowledge required to provide the tools and machines also opens up new vistas in terms of what can be produced. For example, as already mentioned, the invention of the electric motor and the internal combustion engine did not result in our sating ourselves with a vastly increased production of candles and oxcarts, but, as part of the same process of improvement, was accompanied by the invention of the electric light and all the electrical appliances and by the invention of the automobile. Thus, the desire for goods grew with the ability to produce them. It will continue to grow with further improvements in the ability to produce. If, to take an extreme example, the day should ever come when radical advances in technology make it physically possible for us to be sated with things like automobiles, the same radical advances in technology will open up the possibility of producing things like rocketships accessible to the general public and vacation homes on the moon. Thus, the desire for goods will always remain far greater than the ability to produce them.

Economists almost universally describe the condition in which the desire for wealth exceeds the amount of wealth available as one of “scarcity.” Scarcity, they hold, means any limitation of wealth relative to the need or desire for wealth, irrespective of whether the limitation proceeds from the lack of wealth or the abundance of desires.

If one wishes to retain this terminology, one must say that capitalism radically transforms the nature of scarcity. For the people of precapitalistic societies, scarcity means a deficiency of wealth relative to urgent biological needs; it means supplies of food insufficient to still hunger; supplies of shelter and clothing insufficient to provide protection from the elements. Under capitalism, on the other hand, scarcity does not mean any such deficiency of wealth, but a vast and growing supply of wealth that lags behind the desire for wealth—a desire that always exceeds it, always grows as it grows, and that provides the impetus for its further growth. Scarcity under capitalism actually means economic ambitiousness, and is the cause of the progressive elimination of scarcity in the urgent biological sense.

For example, under capitalism, the scarcity of food quickly ceases to mean starvation. Instead it is a situation in which grain supplies have become abundant, but the point has not yet been reached where people can have all the meat they want. And then it ceases to mean even a deficiency of meat, but the fact that not enough of the meat supply is in the form of sirloin steak, and so on. Similarly, a scarcity of housing quickly comes to mean not a scarcity of dwelling space as such, but only a scarcity of ever more improved, more solidly constructed, and more luxurious dwelling space.

At each stage, the desire to advance to a higher stage makes the threat to urgent biological needs more remote. In a country in which the scarcity of food is merely a scarcity of meat, a year of bad crops does not threaten

famine. It just means that less grain will be devoted to feeding meat animals, and people will end up with less meat. In a country in which the scarcity of food means a scarcity of sirloin steak, a year of bad crops means merely that people will have to switch to somewhat poorer cuts of meat, as they utilize a smaller but still abundant supply of meat animals more fully for human consumption. And as a general principle, cutting across all branches of production, the growing abundance of supplies in a capitalist society steadily prolongs and enriches human life at the same time that it further and further removes such direct threats to human life as famine and plague. Evidence for the truth of this proposition can be found in the fact that hardly anyone dies from hurricanes, tornadoes, volcanoes, earthquakes, or contagious diseases in the United States, while large numbers do so in the poor and backward countries. Our better record is the result of our greater progress in wealth—in the form of such things as better constructed buildings, better means of transportation, and better medical facilities, as well as a more abundant and varied food supply. 25 There is no fixed limit to the process by which the increasing production of wealth can further enhance and extend human life and its enjoyment. 26

7. Time Preference and the Scarcity of Capital

In addition to the law of diminishing marginal utility, there is a second major economic principle of valuation that closely bears on the subject of scarcity, namely, that of time preference. Time preference operates to maintain the specific scarcity of savings and capital. 27

According to the principle of time preference, an individual values goods available to him in the present more highly than goods available to him in the future, and goods available to him in the nearer future more highly than goods available to him in the more remote future. For example, he values having a house, a car, or a television set now, more highly than having it a year from now, and more highly having it a year from now than two years from now.

The principle of time preference holds that the prospective location of goods in time has a similar effect on our valuation of them as the location of things in space has on our visual perception of them. The further away from us things are in space, the smaller do they appear to us in our field of vision. The temporally more remote goods are in our field of valuation, so to speak, the smaller is the value we attach to them. 28

Like any principle, that of time preference must be understood as applying other things being equal. For example, I would probably prefer to have a bathing suit in July rather than in January, even though July may lie further in the future than January. In this case, other things are not equal. Much more benefit can be obtained from a bathing suit in the heat of July than in the cold of January. The appropriate application of the principle of time preference in this case is the fact that if I want to go swimming, I value the possession of a bathing suit for this coming July more highly than for the following July.

Similarly, the prospective marginal utility of a unit of a good in the future can be higher than its marginal utility in the present, if one expects to have fewer units in the future. For example, instead of eating two sandwiches now, a person can very well save one for later, because the marginal utility of a first sandwich later is greater than the marginal utility of a second sandwich now. Here the appropriate application of the principle of time preference is that a person attaches greater importance to consuming his first unit of a good today than to consuming his first unit tomorrow, and to consuming his second unit today than to consuming his second unit tomorrow. The fact that future units in a less abundant supply can have a greater marginal utility than present units in a more abundant supply does not contradict the principle of time preference, since that principle refers to the valuation of present and future units of equal supplies.

Finally, the principle of time preference is not contradicted by the fact that the prices of commodity futures are usually higher than the prices of the corresponding “cash” commodities available for immediate delivery. For example, in the month of September, the price of corn for delivery in December is always higher than the price of corn for immediate delivery, while the price of corn for delivery in the following March is still higher than that for delivery in December. Such a price structure does not mean that, other things being equal, people prefer commodities in the future to commodities in the present. On the contrary, month by month they are consuming the stocks of commodities, demonstrating that they prefer present consumption to future consumption. The ascending price structure of commodity futures is the reflection of the prospectively increasing scarcity of commodities between harvests, and/or of the need to compensate those who store supplies of commodities for future sale for the costs they incur in so doing and for tying up their capital in such investments. In the absence of such an ascending price structure, time preference would result in the unduly rapid consumption of stocks of commodities.

The Foundations of Time Preference

Time preference is implied in the very nature of valuation, and, indeed, of human life itself. All other things being equal, to want something is to want it sooner rather than later. If all other things are equal in two succeeding periods of time and a good exists which could be con—

sumed in either period, then the very fact of the good’s being valued implies that it must be consumed in the first period. If it is not consumed in the first period, then the identity of conditions implies that it also cannot be consumed in the second period. Hence, the good simply would not be consumed and, by implication, its consumption would be demonstrated not to be valued. If, however, the good is consumed in the first period, its nonconsumption in the second period does not contradict its being wanted just as much in the second period; it is simply unavailable in the second period.

The nature of human life implies time preference, because life cannot be interrupted. To be alive two years from now, one must be alive one year from now. To be alive tomorrow, one must be alive today. Whatever value or importance one attaches to being alive in the future, one must attach to being alive in the present, because being alive in the present is the indispensable precondition to being alive in the future. The value of life in the present thus carries with it whatever value one attaches to life in the future, of which it is the precondition, plus whatever value one attaches to life in the present for its own sake. In the nature of being alive, it is thus more important to be alive now than at any other, succeeding time, and more important to be alive in each moment of the nearer future than in each moment of the more remote future. If, for example, a person can project being alive for the next thirty years, say, then the value he attaches to being alive in the coming year carries with it whatever value he attaches to being alive in the following twentynine years, plus whatever value he attaches to being alive in the coming year for its own sake. This is necessarily a greater value than he attaches to being alive in the year starting next year. Similarly, the value he attaches to being alive from next year on is greater than the value he attaches to being alive starting two years from now, for it subsumes the latter value and represents that of an additional year besides.

The greater importance of life in the nearer future is what underlies the greater importance of goods in the nearer future and the perspective-like diminution in the value we attach to goods available in successively more remote periods of the future.

The Scarcity of Capital

Later discussion will show that time preference has an important bearing on the determination of the rate of profit and interest. 29 What must be stressed here is that time preference prevents the existence of profit and interest from always resulting in saving and the accumulation of additional capital. For example, assuming a constant buying power of money, if the rate of profit and interest is 5 percent, the implication is that by saving and investing $100 this year, one can have and consume $105 worth of goods next year. The reason that people do not all rush to save as much as possible, despite the fact that doing so would enable them to consume more in the future, is that they have time preference. Time preference results in people preferring an additional $100 of consumption today to an additional $105 (or whatever the figure may be) of consumption a year from now. It thus acts to limit the extent of saving and capital accumulation and to contribute to the scarcity of capital.

Time preference manifests itself in the extent to which individuals make provision for the future relative to their current consumption. An individual with an extremely high time preference will have no savings. He will consume his entire income and not use any of it to provide for his future consumption. By the same token, an individual with a very low time preference will seek to accumulate savings to a substantial multiple of his current income and consumption.

There are two dimensions to the scarcity of capital and capital goods. In one respect, capital goods are simply as scarce as our labor and ability to produce consumers’ goods. To whatever extent our desire for consumers’ goods, such as houses and cars, exceeds our ability to produce them, our implicit, indirect desire for things like bricks and lumber, steel sheet and tires, and the appropriate kinds of equipment used in making houses and cars, exceeds our ability to produce them. This kind of scarcity can be thought of as a horizontal scarcity of capital, in the sense that as wide as is our desire for consumers’ goods relative to our ability to produce them, equally wide is our desire for the corresponding capital goods relative to our ability to produce them. Such scarcity of capital is obviously as ineradicable as the scarcity of wealth.

The second dimension of the scarcity of capital refers to the fact that goods can be produced with varying amounts of capital per unit, that is, with varying degrees of capital intensiveness. For example, a railroad can be constructed to go from point A to point B directly, or with various detours to avoid obstacles like lakes and mountains in between. Usually, constructing the bridges and tunnels required for the more direct route requires a greater capital investment than the longer, indirect route. In deciding which route to adopt, a railroad company must weigh the disadvantage of the larger capital investment required against the advantage of lower fuel and labor costs and reduced wear and tear on equipment in every year thereafter.

The choice of whether to employ more or less machinery in a manufacturing process is of the same nature: one must weigh the disadvantage of a larger initial outlay for the machinery against the advantage of lower labor

costs in each year of the machinery’s use. Whether or not it pays to improve a piece of farmland through irrigation or drainage, or to improve a mine by widening or deepening its shafts, is also similar in nature.

The extent to which our products are aged, as in the case of whiskey, beef, and woods of different growing time, is also a matter of differences in the amount of capital employed per unit of output. For example, in order for the whiskey companies to turn out a unit of eight-year-old scotch every year, they need to have capital representing units of scotch of each of eight different years of age on hand in the pipeline, so to speak. In order to turn out the same quantity of twelve-year-old scotch each year, they need correspondingly more capital— more units of partially aged scotch for every one that is fully aged. In the same way, lumber companies harvesting trees with a twenty-five-year growth cycle need growing stands of trees representing years one through twenty-four for every stand of trees they harvest today, and lumber companies harvesting trees with a fifty-year growth cycle need a correspondingly larger number of stands of trees at various stages of growth for every one they harvest today.

A similar principle applies to the use of more valuable materials in preference to less valuable materials. Any use of more valuable materials at any given stage of production is likely to reflect the performance of correspondingly more labor, or more skilled labor, prior to that stage of production, and thus a higher degree of capital intensiveness. Thus, for example, a house made of bricks requires the use of more capital than a house made of wood, insofar as more previously performed labor is required to produce bricks for a house of a given size than lumber for a house of the same size. The same applies to the extent to which products contain various previously produced components and accessories. For example, other things being equal, an automobile with automatic transmission, an air conditioner, power windows, and the like, requires a larger quantity of capital in its production than one without these things or equipped with fewer of them.

Different industries have very different degrees of capital intensiveness. A far larger amount of capital investment stands behind the average dollar that is received in the form of house rent or a mortgage payment than stands behind the average dollar received as payment for restaurant meals or haircuts. Similarly, it takes more capital investment to earn a dollar of sales in the electric utility industry than it does in the motion picture business, and more in the motion picture business than it does in the grocery business.

The extent to which capital is scarce in this second sense—in what we can call its vertical dimension—is determined by time preference. In a society characterized by relatively low time preference—that is, by a willingness to forgo present consumption to the point of making substantial provision for the future—the methods of production will tend to be relatively capital intensive: relatively capital-intensive industries, such as railroads and electric utilities, can exist, and will be larger in relation to less capital intensive industries; the railroads will be more able to build bridges and tunnels, and the factories to adopt labor-saving machinery; the farms and mines will be more improved; a wide variety of products will enjoy the benefit of the use of better-quality materials and of greater aging.

Our discussion of the causes of capital accumulation, later in this book, will show how the lower is the degree of time preference in a society, and thus the greater is its overall degree of capital intensiveness, the greater is its ability to adopt technological advances and to enjoy a cumulative process of capital accumulation. 30 What must be emphasized here, however, is that the existence of time preference prevents the scarcity of capital in its vertical dimension from ever being overcome.

Before the scarcity of capital in its vertical dimension could be overcome, capital would have to be accumulated sufficient to enable the 85 percent of the world that is not presently industrialized to come up to the degree of capital intensiveness of the 15 percent of the world that is industrialized. Within the industrialized countries, capital would have to be accumulated sufficient to enable every factory, farm, mine, and store to increase its degree of capital intensiveness to the point presently enjoyed only by the most capital-intensive establishments, and, at the same time, to enable all establishments to raise the standard of capital intensiveness still further, to the point where no further reduction in costs of production or improvement in the quality of products could be achieved by any greater availability of capital in its vertical dimension.

This would mean the maximum possible use of machinery and automation. It would mean going so far that, for example, canals would frequently be built without locks, because capital would be available simply to remove all the interfering higher elevations. By the same token, every curve and grade would have to be eliminated from railroads and highways, all the whiskey and wines produced would have to be aged to the point where no additional aging could improve them further, and even the enormous growing time of redwoods would cease to be an obstacle to their planting. Capital would also have to be accumulated to the point where no further gain attached to the expansion of the more capital-intensive industries relative to the less capital-intensive industries. This would entail a growth in industries such as housing, the electric utilities, and bridge, tunnel, and canal build—

ing up to their maximum possible limits relative to less capital-intensive industries.

Capital would have to be accumulated to the point where absolutely no project representing an economic improvement was left undone for a lack of capital, however enormous the amount of capital required. This includes projects that today belong in the realm of science fiction because of the vast amounts of capital that would be required for their execution: for example, digging tunnels not only under the English Channel, but under the various seas and even oceans of the world; making inland cities like Phoenix, Arizona, into seaports through the construction of massive canals, and thereby achieving substantial reductions in transportation costs for all time to come; virtually eliminating freight costs between cities, such as New York and Chicago, say, by constructing straight-line tunnels between them that would constitute secants relative to the earth’s circumference, with the result that objects would simply be pulled by the force of gravity to the center of the tunnels and, in a frictionless vacuum, hurled to the opposite surface by the force of inertia. Indeed, it may be that some of these projects would even achieve such great cost savings as to yield a substantial rate of return on the capital that would have to be invested, but cannot be undertaken at present because, in the actual state of capital accumulation, they would strip the rest of the economic system of too much of its capital.

The accumulation of capital in its vertical dimension can never remotely begin to exhaust the uses for such capital. Its accumulation always ceases far short of that point. It is always necessary to leave undone an incalculable range of potential improvements whose execution would require a more abundant accumulation of capital in its vertical dimension than exists. Thus, capital in its vertical dimension, as well as in its horizontal dimension, remains permanently scarce. 31

Such capital accumulation comes to an end because of time preference. Once people succeed in accumulating a certain amount of capital relative to their incomes, they feel that they have done their duty by the future and can now turn more heavily toward enjoying life in the present. Thus, they stop accumulating capital relative to their incomes, even though the accumulation of still more capital relative to their incomes would provide them with still higher incomes in the future.

A Word on Capital Accumulation and the Rate of Return

As stated, later discussion in this book will show that the gains from a lower time preference are both profoundly important and cumulative in their significance, in that they permit the adoption of technological methods of production that would not otherwise be economically feasible. It will show that the adoption of the more advanced methods of production made possible by a lower degree of time preference is itself a further source of capital accumulation, with the result that capital accumulation does not require steadily repeated reductions in time preference, but is perfectly consistent with an unchanged state of time preference, provided it is sufficiently low. A still lower time preference will be shown to result in an acceleration of the rate of capital accumulation. 32

Furthermore, the fact that a lower degree of time preference accelerates the rate of economic progress will be shown to result in a positive addition both to the real and to the nominal (viz., monetary) rate of profit and interest. Thus, the almost universally held opinion among economists that capital accumulation must be associated with a falling rate of return on capital will be challenged. Capital accumulation will be shown not only not to require a falling rate of return, but, as I say, to the extent that it results in a more rapid increase in the supply of goods and money, to result in an addition to the real and nominal rate of return. 33

Time Preference, Rationality, and Freedom

Our previous discussion of the philosophical foundations of capitalism and economic activity implies that time preference is the lower the more rational and the freer a society is. 34 The more rational people are, the more are they aware of the future: the more they can mentally project it and the greater is the reality for them of such projections; in addition, the more are they aware of themselves as self-responsible causal agents, capable of affecting the course of future events to their own advantage by means of saving. Similarly, to the degree that people are free and enjoy the security of property, they know that they can benefit from whatever provision for the future they decide to make in the present. Thus, to the degree that a society is dominated by the values of reason and freedom, the more conducive it is psychologically and politically to saving and providing for the future, which is only another way of saying that it is more conducive to a low time preference and to all that that implies about capital accumulation and economic progress.

8. Wealth and Labor

Wealth is the result of human labor. Labor is the means by which man’s mind transmits his designs and purposes to matter. It is man’s application of his bodily and mental faculties for the purpose of altering matter in form or location and thereby making the matter thus altered serve

WEALTH AND ITS ROLE IN HUMAN LIFE 59 a further purpose. Matter thus altered by man’s labor is a product. Production is the process of thus altering matter. A producer is one who effects such alterations. 35

The matter which is altered in production, that is, which is the subject of man’s labor, can be nature-given, such as a piece of land or ore in the ground, or itself a previously produced product, such as cotton cloth or steel sheet. Always, the performance of human labor is essential to production.

It is important to realize that in a division-of-labor society, the labor applied in production is not limited to manual labor, that is, to labor applied to materials or otherwise in physical operations. In such a society, it embraces much more, such as the labor entailed in founding, organizing, and directing business firms and in providing them with capital. Such labor achieves its effects by operating through the manual labor of others, which it renders more efficient. 36

The concept of wealth embraces not only products but also natural resources, such as land, and mineral deposits in the ground. The physical matter of which natural resources are composed is, of course, not made by man— it is nature-given. Nevertheless, the wealth-character of natural resources is manmade: it is the result of human labor. It is the result of the labor that discovers the uses to which the natural resources can be put, and of the labor that enables them to be become accessible in ways in which they can be used gainfully. Thus, it is labor that establishes the character of natural resources as goods and thus as wealth. As the leading historical example of this fact, one need only consider that all of the land and mineral deposits of North America were present at the time of the American Indians. Nevertheless, hardly any of that land and mineral deposits then constituted wealth. The land and mineral deposits did not constitute wealth, because the necessary labor—mainly of an intellectual character—had not yet been performed to render them wealth.

The Scarcity of Labor and Its Ineradicability

Wealth not only is the product of human labor, but also could be produced in larger quantity if more labor were devoted to its production. Indeed, the application of more labor is the only fundamental requirement for increasing the supply of wealth. This is because more labor is the source of additional equipment and materials, including additional agricultural commodities and mineral supplies extracted from the ground. Thus, the scarcity of wealth implies a more fundamental scarcity of labor.

As has already been shown, and will be fully confirmed in the next chapter, the fact that the wealth-character of natural resources is the result of labor indicates that in a capitalist society, the supply of natural resources can be indefinitely expanded and therefore does not constitute a longrun limitation on the ability to produce that is independent of the supply of labor. Indeed, as the next chapter will show, even within very short periods of time—weeks or months—the supply of raw materials can almost always be increased through the application of more labor. 37

The fundamental scarcity of labor is manifest in the fact that virtually everyone would like to enjoy an income many times greater than the income he is presently capable of earning. For example, today an average worker may earn on the order of $20,000 per year for working forty hours a week. If such a worker had it in his power to earn $100,000 per year, he would have no difficulty in finding ways to live up to such an income. Unfortunately, to earn such an income at his present rate of pay, he would have to work more hours than there are in the week. His maximum actual ability to work is obviously vastly less than corresponds to the income he would like to have.

But this is only another way of saying that the utmost goods and services he is capable of producing are far less than the goods and services he would like to consume. Taken collectively, our desire to be able to spend five or ten times more than we now can afford to spend is an indication that we would like five or ten times more work performed than is now performed. In the present state of technology and productivity of labor (output per unit of labor), this is how much additional labor would need to be performed to produce the larger volume of output we would like to be able to buy.

Consider. It would be very easy for the government of the United States to arrange things so that the average worker could earn and spend $100,000 a year instead of $20,000 a year. Indeed, the governments of many countries have long ago made it possible for all of their citizens to be millionaires! To accomplish such results, all the government would have to do is print enough new and additional paper money. But there is nothing to be gained from such a procedure. It is accompanied by rising prices, which prevent the higher incomes from having any greater buying power than the smaller incomes did before. The only way that earning and spending $100,000 a year instead of $20,000 a year can represent the ability to buy five times more goods is if five times more goods are produced. Only then would prices not rise in the face of five times more spending to buy goods. But in a given state of technology and productivity of labor, this would be possible only if five times as much labor could be performed, which, of course, is itself impossible. People can work themselves to the point of utter exhaustion, and still they cannot produce more than a small fraction of all that it would be useful and desirable for them to produce. Thus, the supply of labor that people

60 CAPITALISM can provide falls radically short of the supply whose products they would like to have. Labor is scarce.

(It should be obvious that the scarcity of labor implies there is never any metaphysical reason for the existence of unemployment—that is to say, there is never any reason for it by virtue of the necessary, inescapable nature of things. Unemployment belongs strictly in the category of the manmade. Either it is voluntary and chosen by the individuals concerned, because they prefer to wait to find better terms of employment or because they simply prefer leisure; or, where it is involuntary and unchosen by the individuals concerned, it is forcibly imposed on them. Unemployment is forcibly imposed through the imposition of too high a level of money wage rates by the government or by coercive labor unions operating with the sanction of the government. These policies, of course, could be done away with. The causes of unemployment will be fully clear once we understand the principles governing money and spending, and the fact that under the freedom of competition, purchasing power sufficient to buy all the goods and services that can be produced in the economic system at the point of full employment is automatically generated by the process of production itself. The discussion of these important matters is reserved for later chapters. 38 )

The scarcity of labor, of course, is also the result of a scarcity of personal services. Virtually everyone, if he could afford it, would like to be able to be served by maids, cooks, gardeners, personal secretaries, and so on. Each individual could probably find worthwhile uses for the labor of half a dozen or more full-time servants, without even giving the matter more than a moment’s thought.

The labor that we implicitly desire to have at our disposal, whether to produce goods for us or to provide us with personal services, is, as I have said, limited only by our imaginations. And yet while nature has provided each of us with an imagination capable of forming desires on a grand scale, it has simultaneously equipped each of us with only two arms to provide for the satisfaction of those desires. Each of us is easily capable of forming desires whose fulfillment requires the labor of multitudes, and yet by the laws of arithmetic, the average member of any society can never obtain more than the labor, or products of the labor, of just one person. This is so because for each person who exists to consume, there can be no more than one person present to produce. Indeed, when the very young and the sick and infirm are allowed for, who can only be supported by the labor of others, it turns out that for each person who consumes there is, on average, substantially less than the labor of one person available to produce.

The preceding discussion demonstrates the existence of a fundamental scarcity of labor. The scarcity of labor is not only fundamental, however. It is also ineradicable.

I have already shown earlier in this chapter how increases in the ability to produce are accompanied by new and additional desires for wealth, which grow out of the very same technological advances that make possible the increases in the ability to produce. The effect of this is that the scarcity of labor is not reduced by increases in the productivity of labor. The scarcity of labor is also not reduced by any increase in the size of the population and thus the number of people able and willing to work, because the additional members of that population bring with them their own needs and desires for goods and services that are in excess of their ability to add to the supply of goods and services. Furthermore, as the productivity of labor rises and increases the workers’ standard of living, the workers tend to acquire a growing desire for leisure. As a result, not only does the desire for wealth grow as the ability to produce it increases, but also the amount of labor the individual is willing to perform decreases. This represents an additional cause of the continuing scarcity of labor.

Thus, the fundamental and essential nature of economic life is this: the need and desire for additional wealth are there and the nature-given means of producing it are there; all that is lacking is the ability of human labor to transform the nature-given means of production into additional wealth.

On this foundation, the fundamental economic need of rational beings emerges as the overcoming of the limitations on production imposed by the scarcity of labor. Always, what stands between man and his need for greater wealth is his limited ability to produce wealth— his limited ability and also willingness to perform labor. There is only one solution to this problem. And that is continuously to raise the productivity of labor—that is, continuously to increase the quantity and quality of the goods that can be produced per unit of labor, including the variety of goods. An ineradicable scarcity of labor resulting from a need and desire for labor that are always vastly greater than the supply of labor requires that the productivity of labor be rendered greater and greater. The rise in the productivity of labor is the only conceivable way in which man can obtain the progressively greater amounts of wealth that his rational and progressive nature requires.

The problem of precisely how continuously to raise the productivity of labor, to make possible an ever increasing production and enjoyment of goods per capita, is what I call the economic problem.

(Associated with the economic problem is an important but subsidiary problem, which is often mistakenly presented as the central economic problem, namely, how

WEALTH AND ITS ROLE IN HUMAN LIFE 61 to allocate an existing limited ability to produce in accordance with the choices of individuals to satisfy their more important wants ahead of their less important wants. The necessity of this choice is implied by the existence of needs and wants that have no limit, in the face of a productivity of labor that at any given time is always strictly limited. Regrettably, it is this subsidiary problem that most economists have in mind when they describe economics as focusing on “the allocation of scarce means among competing ends.” Closely associated with this mistaken view of the economic problem is the formulation of the fundamental problem of economic life in terms of a scarcity of goods. The actual fundamental problem, of course, is a scarcity of labor and thus how to raise the productivity of labor.)

The next chapter provides a conclusive demonstration of the limitless potential of natural resources and contains a necessary critique of the objections of the ecology movement to economic progress. Following it, Chapter 4 will explain why the focal point of the ongoing solution to the economic problem is the division of labor. The division of labor will be shown to constitute the indispensable social-organizational framework for the progressive increase in the productivity of labor required by man’s nature as a rational being. It will be shown to represent in its inner nature the form of society required for the efficient and progressively improving use of man’s mind, body, and nature-given environment in production.

As previously indicated, subsequent chapters will then show the dependence of the division of labor on the leading institutions of a capitalist society, above all, private ownership of the means of production and the price system. They will also show the reciprocating and thoroughly benevolent influence of the division of labor on private ownership of the means of production and other essential institutions of capitalism, namely, economic inequality and economic competition. Still later chapters will show how, within the framework of the division of labor and capitalism, the productivity of labor is continuously increased on the basis of capital accumulation—which entails the employment of ever increasing amounts of wealth as means of further production—and the absolute dependency of this process too on the institutions of capitalism.

In effect, the remainder of this book can be summarized as demonstrating a single proposition: in every possible way, with no valid objection, the solution for the economic problem is capitalism.

Notes

1. See below, p. 59.

2. Cf. Ludwig von Mises, Planning For Freedom, 4th ed. enl. (South Holland, Ill.: Libertarian Press, 1980), p. 65.

3. For elaboration of these points, see below, pp. 673–674. 4. See below, pp. 378–380.

5. Exactly the same principles apply to the market value of trade secrets. For a discussion of why, unlike government licenses, patents and copyrights do not constitute a case of monopoly, see below, pp. 388–389. For discussion of the status of rights and relationships in general in relation to the concepts of goods and wealth, see Eugen von Böhm-Bawerk, Whether Legal Rights and Relationships Are Economic Goods in Shorter Classics of Böhm-Bawerk (South Holland, Ill.: Libertarian Press, 1962).

6. Slavery also undermines the production of wealth by undermining the accumulation of capital. On this point, see below, pp. 455–456.

7. Menger would have disputed the need to include the qualification concerning the expenditure of labor or effort in the definition of economic goods. Nor did he think it necessary to include the qualification “gainfully” in his discussion of “sufficient command” over things. Cf. Carl Menger, Principles of Economics, trans. and ed. James Dingwall and Bert F. Hozelitz (Glencoe, Ill.: The Free Press, 1950), pp. 51–54, 100–101. 8. Stocks, bonds, and bank deposits are such claims.

9. Cf. Menger, Principles of Economics, pp. 55–58.

10. See below, pp. 141–144.

11. See Israel M. Kirzner, The Economic Point of View (New York: D. Van Nostrand, 1960), pp. 22–29, 108–185, for an exposition of this belief.

12. Regrettably, this criticism applies to the great von Mises and his efforts to portray economics as merely the “hitherto best developed part” of an allegedly wider science of human action known as praxeology. See Ludwig von Mises, Human Action, 3d ed. rev. (Chicago: Henry Regnery Co., 1966), pp. 1–10 passim. I wish to note, indeed to stress, however, that even when I have ultimately come to disagree with some position of von Mises, as in this case, I do not recall ever having read so much as a single paragraph of his writings that did not serve as the most powerful stimulus to my own thinking. Therefore, I urge everyone to give the most serious consideration to every portion of his writings.

13. Adam Smith, The Wealth of Nations (London, 1776), bk. 1, chap. 11, pt. 2; reprint of Cannan ed. (Chicago: University of Chicago Press, 2 vols. in 1, 1976), 1:183.

14. For a discussion of the essential elements of a rational philosophy which pertain to economic activity, see above, pp. 19–21.

15. For a presentation of the doctrine of cultural relativism by one of its leading advocates, see Melville J. Herskovits, Cultural Relativism Perspectives in Cultural Pluralism (New York: Random House, 1972). For a presentation of the doctrine of conspicuous consumption by one of its leading advocates, see Thorstein Veblen, The Theory of the Leisure Class (New York: Modern Library, 1934), chap. 4.

16. I am indebted to Ayn Rand both for the general concept of an objective code of values based on man’s life as the standard and for the special application of that concept in the form of

62 CAPITALISM some goods being classified as being of greater “philosophically objective value” than others. See Ayn Rand, Atlas Shrugged (New York: Random House, 1957), pp. 1012–1023; Capitalism: The Unknown Ideal (New York: New American Library, 1966), pp. 16–17.

17. See my pamphlet Education and the Racist Road to Barbarism, 3d and subsequent printings (Laguna Hills, Calif.: The Jefferson School of Philosophy, Economics, and Psychology, 1992), pp. 4–5. As I wrote in that pamphlet, “Reference to an objective superiority of one civilization or culture over another encounters the opposition of a profound, self-righteous hatred of the very idea. Thus, cultures may practice ritual sacrifice, cannibalism, mass expropriation, slavery, torture, and wholesale slaughter—all of this is accepted as somehow legitimate within the context of the culture concerned. The only alleged sin, the only alleged act of immorality in the world is to display contempt for such cultures, and to uphold as superior the values of Western culture. Then one is denounced as an imperialist, racist, and virtual Nazi. It should be realized that those who take this view do not regard as the essential evil of Nazism its avowed irrationalism, its love of force and violence, and its acts of destruction and slaughter. All this they could accept, and do accept in the case of other cultures, such as that of primitive tribes, ancient Egypt, the civilization of the Aztecs and Incas, the Middle Ages, and Soviet Russia. What they hold to be the evil of Nazism was its assertion that Nazi culture was superior to other cultures. Needless to say, of course, it is only on the basis of the recognition of objective values that one can seriously condemn Nazism—not for its absurd claims of superiority, but as a primitive, barbaric culture of the type one would expect to find among savages.” (Ibid., pp. 7–8.)

18. The flagrant contradiction of upholding individual rights in the midst of Negro slavery has already been noted. See above, p. 28.

19. Cf. Eugen von Böhm-Bawerk, Capital and Interest, 3 vols., trans. George D. Huncke and Hans F. Sennholz (South Holland, Ill.: Libertarian Press, 1959), 2:143–145.

20. Cf. John Kenneth Galbraith, The Affluent Society (Boston: Houghton Mifflin, 1958), chap. 10. See also, in opposition, George Reisman, “Galbraith’s Modern Brand of Feudalism,” Human Events 18, no. 6, sec. 5 (February 3, 1961), pp. 77–80. 21. Again, see below, pp. 414–416.

22. See, for example, Paul Samuelson and William Nordhaus, Economics, 13th ed. (New York: McGraw-Hill, 1989), p. 450. See also above, the Introduction, n. 15, for an explanation of why my references are typically to the 13th edition of Samuelson and Nordhaus rather than to the more recent 14th edition. 23. For a full discussion of Say’s Law, see below, pp. 559–580. 24. See below, pp. 561–569.

25. An illustration of this principle is the devastating storms which occurred in Bangladesh in 1992. Had the same storms occurred in a more prosperous country, in which people could afford concrete houses instead of thatched huts, and in which adequate sea walls could be built, the death toll would have been in the hundreds, rather than over one hundred thousand. See “Even in Bangladesh’s Storms, Poverty Is Underlying Killer,” New York Times, May 11, 1991, p. 1, p. 5. Unless otherwise noted, throughout this book all references to this publication are to the national edition.

26. For further discussion of the role of wealth in the lengthening and enrichment of human life, see below, pp. 76–78. 27. Capital is wealth employed in the production of wealth. In the context of a division-of-labor, monetary economy, it is the wealth employed by business enterprises, that is, means of production which have been purchased for the purpose of producing goods or rendering services which are intended to be sold. For further elaboration on the meaning of the concept, see below, pp. 445–456.

28. See Böhm-Bawerk, Capital and Interest, 2:268–273. 29. See below, pp. 743–744.

30. See below Chapter 17, in particular pp. 824. See also pp. 629–631.

31. Later discussion will show that the capitalized value of land also contributes to the ineradicable scarcity of capital. See below, pp. 856–857.

32. See below, pp. 813–824.

33. See below, pp. 813–826.

34. See above, pp. 19–21.

35. Depending on the extent of the alteration of the matter, the product may be described either as a new good or merely as the alteration of an existing good. On this point, see below, p. 130. 36. For elaboration of this very important subject, see below, pp. 462–464 and 475–485.

37. See below, pp. 63–71.

38. See below, Chapters 12–19.