5. The Debate over Calculation and Knowledge

CHAPTER 5

The Debate over Calculation and Knowledge^*

Peter Boettke and Roger Koppl join a discussion launched by Murray Rothbard, Joseph Salerno, Jeffrey Herbener, Hans-Hermann Hoppe, and Jörg Guido Hülsmann. Those five contributors to the Review of Austrian Economics seek, as they say, to “dehomogenize” Ludwig von Mises and F. A. Hayek, differentiating between their doctrines. Subtly or not so subtly, these “chasmologists,” as Koppl calls them, often disparage Hayek.

In many writings Hayek portrayed social institutions—notably, language, the common law, money, and the market economy itself—as “spontaneous” products of evolutionary processes. Though these institutions were unplanned as wholes, they have benefited from a kind of natural selection tending to weed out their most inexpedient forms, leaving their relatively successful ones still in the running.

Salerno (1990a) attacks these aspects of Hayek’s work. Some of Hayek’s formulations, taken out of context, may admittedly seem exaggerated. Some disciples have indeed sometimes perverted Hayek’s ideas, erecting the fact of or capacity for “spontaneous” emergence into a test of whether particular institutions are desirable. Hayek’s own insight is consistent, though, with points made by Mises and reiterated by Salerno: however unplanned as a whole the evolution of an institution may be, most steps in the process were taken by individuals acting rationally in the light of their own purposes and information. Human rationality must not be disparaged and blind impersonal processes exalted. Surely, however, there is no need to imagine a rationalist Mises and irrationalist Hayek at loggerheads with one another. Nor is there any warrant for imputing to Hayek the view that “Whatever is, is right”; his writings on economic and political reform demonstrate the contrary. The two men’s insights are mutually reinforcing.

The dehomogenizers particularly disparage Hayek’s elaborations on Mises’s analysis of why accurate economic calculation is impossible under socialism. An early example appears in Salerno’s 1993 article, which criticizes several Austrian economists’ diverse contributions to a Festschrift for Hans Sennholz. Salerno distinguishes between two paradigms. The “Hayekian” one “stresses the fragmentation of knowledge and its dispersion among the multitude of individual consumers and producers as the primary problem of economic and social cooperation and views the market’s price system as the means by which such dispersed knowledge is ferreted out and communicated to the relevant decision-makers in the production process” (1993, p. 115). The “Misesian” paradigm “focuses on monetary calculation using actual market prices as the necessary precondition for the rational allocation of resources within an economic system featuring specialization and the division of labor” (p. 125). Surely, though, no sharp contrast is warranted. Both strands enter into a full description of the problem and process of economic calculation.

Salerno emphasizes that numerical data, especially market prices, are necessary for economic calculation; qualitative information is not enough (1993, p. 121). Without genuine exchanges of factors and genuine market determination of their prices, central planners could not “cost” resources and allocate them efficiently or purposefully (p. 130). Agreed: quantitative results—suitable product and factor quantities—presuppose quantitative inputs. These must include, somewhere in the calculation process, the numerical specifics of utility and production functions. But these, along with the qualitative information also necessary, could never all be available for centralized, nonmarket decisions.

Market prices, though necessary for calculation, are not ultimate data. Prices represent intermediate steps in taking account of the more nearly ultimate data (often labeled “wants, resources, and technology”). By “costing,” Salerno presumably (and if so, correctly) means taking account both of how much of other outputs would have to be forgone to make incremental quantities of a resource available for the line of production contemplated and also of how highly consumers would have valued the forgone alternative outputs. Costing includes, then, taking account of innumerable bits of information about production opportunities and processes and about consumer tastes. Calculating the worth a prospective action requires knowing “the importance to others of the goods and services one commits to that action, and the importance to others of the goods one will obtain from that action” (Kirzner 1996, p. 150; quoted in Boettke’s Symposium contribution, note 22).

Already it is clear that the calculation problem cannot be distinct from the knowledge problem.

Unlike Friedrich von Wieser and Hayek, according to Salerno, “Mises held that the social appraisement of productive factors via entrepreneurial competition in resource markets, which is the very basis of economic calculation and purposive action, can only proceed in monetary terms” (1993, p. 135). As if Hayek would deny that, as if his stress on the knowledge problem disparaged money prices and appraisals in money!

Strangely, the “chasmologists” fail to give a clear, precise, and compact statement of just how they conceive the problem of economic calculation. Their writings have a curiously allusive tone, at best alluding to points that they and their readers alike are presumed to have in mind. To demonstrate—not just assert—that the knowledge and calculation problems of socialism are distinct, one would first have to state the calculation problem adequately. Surely it involves more than bits of arithmetic performed on money prices. I am tempted to speculate—but perhaps the speculation is wild if not forbidden—that absence of a full statement of the problem reflects an inadequate grasp of it.

Sure, the dehomogenizers do emphasize that calculation includes comparing benefits and costs and estimating prospective profits and losses and that these comparisons and estimates require arithmetic done with cardinal units of value. Echoing Mises and Hayek both, they place well-warranted emphasis on the crucial importance of genuine prices expressed in money, including prices of privately owned factors of production and capital goods exchanged on genuine markets. Yet their writings are curiously inadequate in explaining what real circumstances are reflected, and how, in money prices, costs, and incomes. Behind the transactions and abstentions and bids and offers of current and would-be owners of the things exchanged lie these traders’ purposes and their knowledge and estimates of and entrepreneurial conjectures about resource availabilities, technical possibilities, including complementarities and substitutabilities in production, and their own and other persons’ tastes. Money prices embody or reflect knowledge, knowledge brought through them to bear on production and consumption decisions without being centralized and, for much of it, without even being articulated in words and numbers.

I won’t repeat my 1994 description of the economic-calculation problem, but I’ll add a bit to what I have already said here. Accurate calculation would assign productive resources to their most highly valued uses, taking account of people’s diverse tastes (as consumers, workers, and investors), as well as of production technologies, resource availabilities, and the principles of diminishing marginal utility and marginal productivity. Ideally, each consumer is informed how much worth of other things must be forgone to supply him with an increment of each particular product. Thus informed about alternatives, each consumer ideally leaves no opportunity unexploited to increase his expected total satisfaction by diverting any dollar from one purchase to another. In this sense consumers choose the pattern of production and resource use that they prefer. Ideally, their bidding keeps any unit of a resource from going to satisfy a less intense effective demand to the denial of a more intense one.

The result of fully successful economic calculation is a state of affairs in which—apart from changes in wants, technology, and resource availabilities—no further rearrangement of patterns of production and resource allocation could achieve an increase of value to consumers from any particular good at the mere cost of a lesser sacrifice of value from some other good. (Even if a dictatorial central planner totally disregarded consumers’ tastes and was concerned only with gratifying his own, he would still need vast amounts of other information.)

In a competitive market economy, patterns of resource allocation, production, and consumption get established on a decentralized basis. Of course, the market does not work with all imaginable perfection; nor does any other human institution. But entrepreneurs have incentives to ferret out price discrepancies and unexploited opportunities.

Things are different under socialism. When Mises first wrote about the calculation problem in 1920 and 1922, socialism was generally understood as a centrally directed (or “planned”) economy, with government ownership (or the equivalent) of the means of production. Mises maintained that socialist planners could not adequately duplicate the results of a market economy.

In a series of articles beginning in the 1930s and culminating in his 1945 article on “The Use of Knowledge in Society,” Hayek spelled out and elaborated on Mises’s argument. This, anyway, is the interpretation of the discussion that I share with Professors Boettke and Koppl. How could central planners know, for each resource, its potential contribution to the value of output at all possible margins, in all possible combinations with other factors of production, in all possible lines of production?

The planners would need to know more than the technical aspects of production and more than the actual and potential tastes of consumers and workers. Efficient use of resources would further require their bringing to bear of what Hayek called “knowledge of the particular circumstances of time and place.” Examples are knowledge of a machine often standing idle, of whom to call on for emergency repair of a leaking boiler, of an employee’s skills that could be put to more valuable use, of stocks of materials that might be drawn on during an interruption of supplies, of empty space in a freighter about to set sail, and of fleeting inter-local differences in commodity prices. Such localized and temporary knowledge can be used only by decisionmakers on the spot and would go to waste under centralization.

But decentralized decision makers cannot work with this particular knowledge alone, or with it combined with technological knowledge. Efficient decisions must also take account of conditions in the whole rest of the economic system—the availabilities and value-productivities of resources in the innumerable lines of production that compete for them. Here Hayek’s story brings in the role of the price system as a vast computer and as a communicator of information and incentives, in abbreviated form, to all consumer and business decisionmakers to whom particular bits are relevant. Here, also—if the example were not already so familiar—would be the place to recite Hayek’s example of the role of changed prices in motivating appropriate responses to an increased scarcity of tin, whether caused by a blockage of normal supplies or by development of new uses for tin.

A vaguely expressed misunderstanding sometimes attributes to Hayek the claim that prices convey all the information necessary for well-calculated economic decisions. Yet prices are no substitute for knowledge of production techniques in various industries and firms. Nor are prices a substitute for “knowledge of the particular circumstances of time and place,” which is not so much conveyed by prices as, rather, reflected in the actions of the decentralized decision makers who possess it.

But prices do convey much knowledge, though not all. They play an essential role in the economywide coordination of innumerable decentralized decisions. They are essential to economic calculation in the narrowest sense—the evaluation of benefits and costs and the calculation of past and prospective profits and losses.

In emphasizing the role of knowledge in economic calculation, Hayek was making explicit and elaborating on points already implicit in the arguments of Mises. In no way was he creating a “chasm” between two rival positions. This, in agreement with Kirzner (1987, 1996), is what I have argued in my 1994 article and my 1996 and 1997 replies to the contrary interpretations of Salerno, Herbener, Hülsmann, and Hoppe. To try to drive a wedge between Mises and Hayek on this issue, especially to the disparagement of Hayek, is unfair to these two great men, unfaithful to the history of economic thought, subversive of understanding an important strand of economic analysis and the nature and ultimate collapse of the communist economies of Eastern Europe, and subversive of analytical and historical understanding that is vital for future policymaking.

REFERENCES

Boettke, Peter, and Sanford Ikeda, eds. Advances in Austrian Economics 5, Greenwich, Conn.: JAI Press, 1998. Includes the Symposium contributions of Peter Boettke and Roger Koppl, pp. 131-158 and 159-179.

Hayek, F. A. “The Use of Knowledge in Society.” American Economic Review 35 (September 1945): 519-530.

Herbener, Jeffrey M. “Ludwig von Mises and the Austrian School of Economics.” Review: of Austrian Economics 5, no. 2 (1991): 33—50.

———. “Calculation and the Question of Arithmetic.” Review of Austrian Economics 9, no. 1 (1996): 151-162.

Hoppe, Hans-Hermann. “Socialism: A Property or Knowledge Problem.” Review of Austrian Economics 9, no. 1 (1996): 143—149.

Hülsmann, Jörg Guido. “Knowledge, Judgment, and the Use of Property.” Review of Austrian Economics 9, no. 1 (1997): 23—28.

Kirzner, Israel. “The Economic Calculation Debate: Lessons for Austrians.” Review of Austrian Economics 2 (1987): 1—18.

———. “Reflections on the Misesian Legacy in Economics.” Review of Austrian Economics 9, no. 2 (1996): 143-154.

Mises, Ludwig von. “Economic Calculation in the Socialist Commonwealth.” 1920. Translated by S. Adler. Auburn, Ala.: Ludwig von Mises Institute, 1990.

———. Socialism: An Economic and Sociological Analysis. 1922. Indianapolis: Liberty Fund, 19 81.

———. Human Action. 3^rd ed. Chicago: Henry Regnery, 1949.

Rothbard, Murray N. “The End of Socialism and the Calculation Debate Revisited.” Review: of Austrian Economics 5, no. 2 (1991): 51—76.

Salerno, Joseph T. “Ludwig von Mises as Social Rationalist.” Review of Austrian Economics 4 (1990): 26—54.

———. “Postscript: Why a Socialist Economy is ‘Impossible’.” Postscript to Economic Calculation in the Socialist Commonwealth, by Ludwig von Mises. Auburn, Ala.: Ludwig von Mises Institute, 1990.

———. “Mises and Hayek Dehomogenized.” Review of Austrian Economics 6,no. 2 (1993): 113-146.

———. “Reply to Leland B. Yeager on ‘Mises and Hayek on Calculation and Knowledge’.” Review of Austrian Economics 7, no. 2 (1994): III—125.

———. “A Final Word: Calculation, Knowledge, and Appraisement.” Review of Austrian Economics 9, no. 1 (1996): 141—142.

Yeager, Leland B. “Mises and Hayek on Calculation and Knowledge.” Review of Austrian Economics 1, no. 2 (1994): 93—109.

———. “Salerno on Calculation, Knowledge, and Appraisement.” Review of Austrian Economics 9, no. 1 (1996): 137—139.

———. “Calculation and Knowledge: Let’s Write Finis.” Review of Austrian Economics 10, no. 1 (1997): 133-136.

---

^*Originally entitled “Introduction to Papers by Boettke and Koppl,” from a “Symposium: Did Mises and Hayek Have Conflicting Views of the World?” This paper comes from Peter Boettke and Sanford Ikeda, eds., Advances in Austrian Economics (1998): 123-129. Peter Boettke and Roger Koppl originally wrote their contributions for a session at the meetings of the Southern Economic Association in Washington, November 1996. Boettke addresses the calculation issue specifically. Koppl probes beneath it, examining philosophical, psychological, and methodological aspects of Mises’s and Hayek’s work. They both find the positions of Mises and Hayek largely reconcilable.

My introduction, slightly modified here, summarizes points made by Boettke and Koppl in the Symposium, by me in “Mises and Hayek on Calculation and Knowledge,” Review of Austrian Economics 7, no. 2 (1994): 93-109, and by Joseph Salerno, Jörg Guido Hülsmann, Jeffrey M. Herbener, Hans-Hermann Hoppe, and me in the Review of Austrian Economics (1996 and 1997): vols. 9 and 10. For the calculation-not-knowledge (Mises-not-Hayek) side of this debate in its members’ own words, see their papers available at http://mises.org/periodical.aspx?Id=5.