The so-called Austrian School, is the creature of a number of academics starting with Carl Menger (1840-1921). It is identified with Von Mises and people in his circle (Hayek and others), touted as if it something new, but this is misleading. What is called the Austrian School today might as well be called the Von Mises school. The Austrian School under people like Menger and Bohm-Bawerk were part of the dialogue that developed classical, neo-classical, and modern economics and they differed from each other and Von Mises on important matters. The only thing they all had in common was that they were working out of Austria and that they needed to differentiate themselves from French, British or German economists.
Ludwig Von Mises, [See: http://mises.org/about/3248] (1881-1973) who also was the teacher and founder of many of the core doctrines of his school. I've done a lot of reading on him. Indeed I've read more about him than the others: Frederick Von Hayek, Murray Rothbard, and some others whose names currently escape me. It is touted as something new, but the Austrian School is very similar to (almost identical to) popular economics prior to the writings of Keynes, and developments in the early 20th century such as the Great Depression.
Basically the Austrian School was founded by Carl Menger and developed by people such as Bohm Bawerk and others in Vienna. It was Carl Menger who developed the theory of "marginal utility" to describe price and purchasing choices. He did a lot of work to define how people make choices on the basis of "marginal utility." That is, when someone is thirsty water is of more utility than bread, and if two people have more of one item than they need; one with more water and no bread, and the other with no water and plenty of bread, economics lies in exchanging them for their marginal utility. Carl Menger had many disciples and admirers including his son Karl Menger, who was also a Mathematician.
These disciples in turn had disciples. Von Mises was one of a number of second generation heirs to Menger. the first generation of Menger's disciples centered around Bohm- Bawerk, and Weisel. All of these people had huge fights with one another but agreed on certain things. They sought to use logic, to find causal relations, and tended to downplay the importance of mathematical economics, statistics and experimentation. Schumpeter (who both respected and argued with them) "speaks of the "defective technique" of the Austrians and their inability to "understand the meaning of a set of simultaneous equations." [http://mises.org/mofase/ch2.asp]. Weisel, Karl Menger and other second generation economists tried to address these gaps. Wesel led a "Kreis" or community that sought to create a mathematics for expressing economics rationally. Von Mises would substitute "A-Priori reasoning."
Von Mises would go on to typify all these characteristics. the Von Mises Institute states:
"Ludwig von Mises, in the course of a long and highly productive life, developed an integrated, deductive science of economics based on the fundamental axiom that individual human beings act purposively to achieve desired goals. Even though his economic analysis itself was “value-free” — in the sense of being irrelevant to values held by economists — Mises concluded that the only viable economic policy for the human race was a policy of unrestricted laissez-faire, of free markets and the unhampered exercise of the right of private property, with government strictly limited to the defense of person and property within its territorial area."
Some of these attributes would apply to any school of economics. Some of these can be characterized as common features between him Menger and the other Austrian School economists. However, some of these attributes are problematical in a rational school of economics.
His basic theory was established in his 1912 work, The Theory of Money and Credit (1912). His own website claims that:
"Mises performed what had been deemed an impossible task: to integrate the theory of money into the general theory of marginal utility and price (what would now be called integrating “macroeconomics” into “microeconomics.”)"
Bohm-Bawerk didn't accept Von Mises theory. And apparently neither did Menger.
"Since Bohm-Bawerk and his other Austrian colleagues did not accept Mises’s integration and remained without a monetary theory, he was therefore obliged to strike out on his own and found a “neo-Austrian” school."
Carl Menger played a role in the debates. He didn't fully join with either the Kreis Community [which sought to develop a formalized mathematical approach to Economics, or Von Mises, who appears to have been distanced with them on more philosophical grounds. He and his father also had critiques of Bohm-Bawerk. Karl Menger felt that a purely mathematical approach to economics could be a dangerous thing because there could be "multiple" mathematics that would describe mathematical problems. I think Karl Menger anticipated the problems of Chaos theory. More precisely he understood the difficulties of applying mathematics to problems with more than 3 variables. Every economic theory in the 20th century era has been forced to hold at least one variable constant (or try to combine variables) in order to even seek to rationalize its theories.
Von Mises, in his attempt to develop a Monetary theory developed core premises around Gold, fiat money, and the business cycle:
his monetary theory, Mises revived the long forgotten British Currency School principle, prominent until the 1850s, that society does not at all benefit from any increase in the money supply, that increased money and bank credit only causes inflation and business cycles, and that therefore government policy should maintain the equivalent of a 100 percent gold standard.
Now this British Currency school theory was discarded by others for two reasons. One is that it pretty much de-legitimizes the entire banking realm. But the second is that it is pretty obvious that printed money serves a legitimate role, and has a value that directly derives from its role as a medium of exchange. Thus it is an experientially and demonstrably false theory as far as simple causality goes. But that didn't stop Neo-Austrians from adopting it and adding conclusions.
While Carl Menger pioneered concepts that found their way into Mathematical economics he and his son were also critics of the links between mathematics, logic and economics. He was a critic of any theories that claimed empericism based on pure logic or mathematics. (see http://www.gmu.edu/rae/archives/Becchio_essay.pdf. Carl Menger laid out the importance of experimentation and real world application in judging economics. Something Von Mises claimed to learn something from, but you don't see respect for it in his writings. As the author notes, Menger wrote this in refutation of Von Mises Contention:
“that certain propositions of economics can be proved [and] as an example he mentioned the law of diminishing returns and referred me to the literature for the proofs."
By proved he meant mathematically and by a priori reasoning. Menger criticized this. Yet Von Mises practiced a priori reasoning as the foundation of his theory.
There are limits to the value of printed money, and printed money depends for its marginal utility on its perceptive reserve value. That value is indeed determined partly by whatever is backing it up; Gold, Silver, Wampum, Oil. Some have suggested that even agricultural goods could be good for backing up short term notes. Money is like Stock, its real value rests in the strength and fortitude of the authority issuing it. So if money is printed irresponsibly, values are not stable, and investment is risky, all conditions that develop when Governments find they can inflate values and make money by making money. So Von Mises insight has some validity despite the absurdity of his arguments for it. But simply because one is associated with the other doesn't mean that one causes the other.
I'm not the only one to find his reasoning unsatisfactory:
"Mises added to this insight the elements of his business cycle theory: that credit expansion by the banks, in addition to causing inflation, makes depressions inevitable by causing “malinvestment,” i.e. by inducing businessmen to overinvest in “higher orders” of capital goods (machine tools, construction, etc.) and to under-invest in consumer goods."
Source: http://mises.org/about/3248
This later argument is what is almost plausible and seemingly intact about Von Mises theory. The problem is that it is a conclusion that flows from absurd and demonstrably false premises. He does that a lot. He claims his economics is value neutral, yet as we will see it is not. And he claims that economics need not be experimentally rooted. A very convenient argument when dealing with faulty premises.
[http://mises.org/misestributes/misesjgh.asp]:
"In the late 1920s he started publishing papers on the epistemological character of economics. Von Mises argued that economic science could not be verified or refuted through the analysis of observable data. Economics was an a priori science like mathematics or logic or geometry. Moreover, economics was just a part of a larger social science, which he would later call "praxeology"--the logic of human action."
It is one thing to caution on false causation and other caveates of economics, it is another to assert Aristotle style reasoning as a substitute for scientific testing and real world experience. It is easy to develop a theory if it need never be applied. The whole notion that economics can be developed as an a-priori science like mathematics, or reduced to a mathematical tautology (as some of his colleagues tried to do) is faulty. If economics is developed as mathematics is developed then its real world value is diminished. Mathematics is useful precisely because it seeks a link to real world problems. Sometimes maths developed as thought experiments prove to have real world applications, but mathematics without a real world link is a purely academic exercise with no utility to anyone.
And this is a very convenient, but faulty premise, for anyone to hang a set of theories that claim real world application.
Faulty premises and pure thought experiments can lead to diagnosis of problems that miss the real root causes of those problems.
Von Mises was right that cheap money tends to drive investment, and more cheap money. That in turn tends to drive investment into areas where the inflated value of goods is out of whack with their marginal value. That malinvestment can take many forms. It can even take the form of excessive investment in consumer goods (Tulips).
It is true that during the business cycle credit expansion by banks contributes to malinvestment but there are other causal factors as well. That malinvestment is also caused by inflated values which have as much a herd factor as a money factor. He is right that a commodity may be inflated by money, and that inflation feed back into money inflation. Housing, Tulips, whatever, start to get purchased because of their inflated money value. And smart operators start moving their money to other under-inflated values in anticipation of the coming bust.
However, this inflation may be reasonable and even sensible up to the point where the marginal value of the good starts to be less than its value as a trade good. For example the housing market was headed into a Bubble, when the price value of houses started being greater than their affordability to people actually living in those houses. This has to do with speculative value.
From this premise he developed a set of policy implications:
"The policy prescriptions for business cycles of Mises-Hayek and of Keynes were diametrically opposed. During a boom period, Mises counseled the immediate end of all bank credit and monetary expansion; and, during a recession, he advised strict laissez-faire, allowing the readjustment forces of the recession to work themselves out as rapidly as possible." (same source)
The trouble with this set of prescriptions, is that while they might seem to be a way to nip busts in the bud, they don't restart the economy. The faulty premise is that simply because paper money is risky it should be dispensed with. In a recession ending bank credit and money expansion just shuts down the whole business. Companies can trade using wampum, but they can't trade using nothing. But his policy implications go further.
"Not only that: for Mises the worst form of intervention would be to prop up prices or wage rates, causing unemployment, to increase the money supply, or to boost government spending in order to stimulate consumption. For Mises, the recession was a problem of under-saving, and over-consumption, and it was therefore important to encourage savings and thrift rather than the opposite, to cut government spending rather than increase it. It is clear that, from 1936 on Mises was totally in opposition to the worldwide fashion in macroeconomic policy."
This is not value neutral economics. Since bubbles tend to wipe out savings anyway, waiting until people can save again to boost and economy benefits almost no one. The economy will shrink until there is no saving and no consumption. The pie will get smaller, and the rich will only seem richer in comparison to everyone else. They too will feel poorer. One reason for this is because savings are always valued in currency. And if there is no currency there is no savings. His theory for dealing with recessions is a theory for turning the collapse of a bubble into the collapse of a country.
It is interesting that the Von Mises institute notes this, because of the two, Von Mises was the only one who got to try out his theories. I've saved several articles on this, but they are incredibly hard to find on the internet. Von Mises has been rehabilitated because his theories are good for numbing the minds of otherwise intelligent people and are incredibly seductive because they are incredibly convenient to main-street -- as long as they aren't actually applied.
Von Mises was Dolfuss's chief economic advisor from 1932-1934 when Dolfuss was assassinated. After Dolfuss was assassinated he appears to have taken a position in Switzerland, and it is from after that time that his writings on Nazism and Fascism take an anti-fascist turn. The fact is that Dolfuss was elected in 1932. Staged a coup in 1933. Tried to make Austria a Fascist Dictatorship modeled after Mussolini's, and was assassinated by Nazis in 1934.
During those two years he implemented Von Mises Policies. These policies impoverished workers, put people out of work, and made Hitler's task easier by putting the entire Socialist party and the Unions in revolt against Dolfuss.
Well it turns out that Von Mises was in the government longer than that. The Von Mises institute writes [http://mises.org/misestributes/misesjgh.asp]:
During the early 1920s, von Mises successfully fought inflation in Austria and had a decisive impact on the monetary and financial reforms of 1922. But he could not prevent the steady increase of government regulations and the deterioration of Austria's public finances. He developed an entire new theory of interventionism showing that government intervention is inherently counterproductive. Practically this ruled out all variants of third-way policies and left laissez-faire capitalism as the only meaningful option on the political menu. In 1927, he published a concise presentation of his utilitarian political philosophy in Liberalismus.
Talk about spinning! Von Mises is taking credit for being a leading economic adviser to Austria here, and to helping drive that country into the Great Depression. If this is so, he can also take credit for the economic disaster which drove Dolfuss to first conduct a coup, impose martial art, and later be assassinated by the Nazis.
"Von Mises eventually found the time to synthesize the various strands of his work into a praxeological treatise when, in 1934, he was called to a chair in international economic relations at the Graduate Institute for International Studies in Geneva. He would hold the chair until 1940, the same year in which his treatise was finally published under the title Nationalökonomie. While in Geneva, in 1938, he married Margit Serény (née Herzfeld), whose daughter Gitta Serény later became a well-known author. They had no children from the marriage."
Von Mises fled Austria when Dolfuss was assassinated in 1934. He was blamed by both left and right for the failure of Austria's economy. Was hated by socialists for his policies while financial advisor, and was hated by the Nazis because he was a Jew. By 1936 when the Anschluss occured he didn't even dare to return to get his things from his apartment -- which wouldn't be recovered until after the war.
The fact is that Von Mises loathed empicism because his theories didn't pan out in reality.
The more I read about the Mengers the more I find myself exploring other threads of enquiry. I'll have more to say on first rate minds like the two Mengers and more criticism on the third rate warmed over classical concepts that are sold as the "Austrian school."
Posted by cholte at November 29, 2009 11:58 AM