First Outline of a Theory of Interventionism

Economists had traditionally asked whether government interventions into the otherwise unhampered market could benefit the national economy. Their characteristic answer was that this was not possible. For the rest of the eighteenth, and much of the nineteenth century, this verdict continued to be one of the defining features of what it meant to be an economist. Each succeeding generation refined the explanation of why government intervention was unsuitable.

When Mises set out to reformulate and systematize this traditional field of economic inquiry at the beginning of the 1920s, he had already made one significant contribution to the analysis of government intervention through his generalization of the Ricardian theory of international trade.² Whereas Ricardo had studied a world in which only commodities could be transferred from one country to another, Mises dropped the assumption of immobility for labor and capital. In his 1916 article on the goal of trade policy, he described the impact of free migrations and capital flows on the global allocation of factors of production and on the composition of nations. Most importantly, he dealt with the question of whether trade policy (tariffs, quotas, subsidies) could be helpful in enhancing or maintaining “national greatness”—the number of persons belonging to the national community, and their welfare. His answer was negative. Trade policy “cannot reach this goal in a manner beneficial to the nation,” and he observed that even the champions of protectionism had to notice that their proposed policies could not even advance, much less reach, “those goals that they had set themselves.”³

He restated this argument more forcefully three years later, in Nation, State, and Economy. Combining detailed theoretical and historical analysis, he showed that the protective tariffs the German government introduced after 1879 did not achieve their purpose, which was to halt the emigration of German workers into foreign lands.⁴

The next occasion for him to elaborate on this traditional field of economics came rather unexpectedly. In 1922, Friedrich von Wieser invited him to contribute to the new fourth edition of the standard social-science dictionary, Handiwörterbuch der Staatswissenschaften (Concise Guide to the Political Sciences). Wieser's invitation had an air of reluctance and condescension.⁵ Rather than soliciting an article on a topic covered by Mises's previous research, he asked him to write on price controls—a subject that could have been given to any average economist. All entries relating to money, banking, business-cycle theory, and socialism were written by other authors, including Wieser himself. Mises tried to decline, but when Wieser insisted, he eventually agreed to write about the theory of price controls.⁶

The theory of price controls was a contested field, where two incompatible views dominated. On the one hand, free-market economists denied outright that price controls were possible at all. Laws of nature governed society and economy, and no government decree could violate such natural law. It might therefore be possible to create a socialist society (though this would not be advisable for several reasons) but it is impossible to create a society based on government decree. On the other hand, the kathedersocialist professors of Government Science objected that legislation and government decrees regulating prices obviously did exist. No law of nature had prevented them from coming into existence and from modifying prices according to the wishes of the authorities. The facts proved that it was possible to create such a thing as a mixed economy, or “Third Way,” which could be made to combine the advantages of capitalism and socialism while avoiding the disadvantages of either extreme.

Now Mises definitely believed that economic laws are as unbreakable as the laws of nature.⁷ How, then, could he handle the kathedersocialist objection? He applied the utilitarian method of analysis that he had discussed in Nation, State, and Economy. The decisive question, Mises argued, was not whether it was possible to enforce price controls (it evidently was), but whether price controls can attain the goals of the policy makers—and he proceeded to show in his article that they actually detract from the very goals they were supposed to attain. They are therefore destructive from the policy makers' own subjective point of view.

It follows that the old liberals (and some of the old socialists, too) had it right: there is no Third Way, in the sense of a meaningful, non-destructive economic system. Mises emphasized that this was the political significance of the theory of price controls. And this insight in turn led straight to the adoption of laissez-faire policies. By this reasoning, classical liberalism was not an ideology, in the value-laden sense, but only the straightforward application of economic science.⁸

Only in one sense could it be meaningful to talk about mixed economies, namely, “in the sense that some means of production may be publicly owned while others are owned privately.”⁹ In other words, a meaningful economic system presupposed clearly defined and respected property rights. When the government blurred property rights through decrees and legislation, making itself a virtual co-owner of the factors of production, then the original owners would use the remaining control in a way contrary to the stated purposes of the government. Price controls prevent factor owners from using their property the way they think best. They “fix prices in deviation from those prices that would be formed on the unhampered market.”¹⁰ Thus the factor owners turn to various second-best actions that jeopardize the government's plans.

Mises showed that these unintended reactions of the factor owners would prompt the government to encroach ever further on the property rights of the citizens, thus instigating a downward spiral of interventionism. Each additional intervention would be counteracted by another round of reactions contrary-to-purpose, and so on. The process can stop only when the government controls all factors of production—that is, once a system of pure socialism comes into existence. The German and Austrian economies in World War I are perfect examples:

He who traces back the war-economy policies can easily find the phases mentioned above: at first price controls, then forced sales, then rationing, then regulation of production and distribution, and, finally, attempts at instituting central planning of the entire process of production and distribution.¹¹,¹²

Mises also discussed various other examples to illustrate the counterproductivity of price controls. His most important example of the destructiveness of price floors was the minimum wage rate that labor unions enforced with the passive support of the government. This case also had a wider theoretical significance because it showed that it was “irrelevant for our analysis whether the apparatus of coercion imposing the controls is the ‘legitimate’ state apparatus or a sanctioned apparatus with public power.”¹³