Austrian economics: a response to Boettke

I’ve long promised a post on Austrian economics. To organise my thoughts and minimise the risk of attacking a straw man, I’ve taken as my starting point this encylopedia article by Peter Boettke. Boettke sets out ten claims and derives some claimed conclusions. I’ve responded point by point, and then given my own summary.

As I’ve had trouble with various fringe adherents of Austrianism, I’m setting out some strict ground rules for discussion here. Comment should stick strictly to discussion of economics. Anyone making personal attacks of any kind will have their comments deleted and be barred from this thread. Avoid anything that might be seen as insulting other participants in the discussion

Boettke’s points follow, with my responses in itals

The Science of Economics

Proposition 1: Only individuals choose.

Man, with his purposes and plans, is the beginning of all economic analysis. Only individuals make choices; collective entities do not choose. 

The primary task of economic analysis is to make economic phenomena intelligible by basing it on individual purposes and plans; the secondary task of economic analysis is to trace out the unintended consequences of individual choices.

So far so good. Methodological individualism seems like a good starting point. But it’s important to remember that individual choices are very much affected (sometimes, effectively determined) by the collective entities of which they are a part. 

Proposition 2: The study of the market order is fundamentally about exchange behavior and the institutions within which exchanges take place.

The price system and the market economy are best understood as a “catallaxy,” and thus the science that studies the market order falls under the domain of “catallactics.” These terms derive from the original Greek meanings of the word “katallaxy”—exchange and bringing a stranger into friendship through exchange. Catallactics focuses analytical attention on the exchange relationships that emerge in the market, the bargaining that characterizes the exchange process, and the institutions within which exchange takes place.

Markets are places where exchange takes place, so this is more or less self-evident. But there is more to economics than markets. The extensive attention given to Robinson Crusoe in economic textbooks is evidence of this, as is the huge amount of activity that takes place within firms, households, governments and so on. The absence of any real theory of the firm, or of the household, is a major weakness of Austrian economics, partly reflecting the very limited work done in this framework in recent decades, a period which has seen huge developments in mainstream analysis of contracts, asymmetric information and so on

Proposition 3: The “facts” of the social sciences are what people believe and think.

Unlike the physical sciences, the human sciences begin with the purposes and plans of individuals. Where the purging of purposes and plans in the physical sciences led to advances by overcoming the problem of anthropomorphism, in the human sciences, the elimination of purposes and plans results in purging the science of human action of its subject matter. In the human sciences, the “facts” of the world are what the actors think and believe.

The meaning that individuals place on things, practices, places, and people determines how they will orient themselves in making decisions. The goal of the sciences of human action is intelligibility, not prediction. The human sciences can achieve this goal because we are what we study, or because we possess knowledge from within, whereas the natural sciences cannot pursue a goal of intelligibility because they rely on knowledge from without. We can understand purposes and plans of other human actors because we ourselves are human actors.

The classic thought experiment invoked to convey this essential difference between the sciences of human action and the physical sciences is a Martian observing the “data” at Grand Central Station in New York. Our Martian could observe that when the little hand on the clock points to eight, there is a bustle of movement as bodies leave these boxes, and that when the little hand hits five, there is a bustle of movement as bodies reenter the boxes and leave. The Martian may even develop a prediction about the little hand and the movement of bodies and boxes. But unless the Martian comes to understand the purposes and plans (the commuting to and from work), his “scientific” understanding of the data from Grand Central Station would be limited. The sciences of human action are different from the natural sciences, and we impoverish the human sciences when we try to force them into the philosophical/scientific mold of the natural sciences.

As an objection to naïve behaviorism this is fine. If you want to understand what people do, it’s important to understand what they think. But the facts economists try to explain are what people do.

Microeconomics

Proposition 4: Utility and costs are subjective.

All economic phenomena are filtered through the human mind. Since the 1870s, economists have agreed that value is subjective, but, following alfred marshall, many argued that the cost side of the equation is determined by objective conditions. Marshall insisted that just as both blades of a scissors cut a piece of paper, so subjective value and objective costs determine price (see microeconomics). But Marshall failed to appreciate that costs are also subjective because they are themselves determined by the value of alternative uses of scarce resources. Both blades of the scissors do indeed cut the paper, but the blade of supply is determined by individuals’ subjective valuations.

In deciding courses of action, one must choose; that is, one must pursue one path and not others. The focus on alternatives in choices leads to one of the defining concepts of the economic way of thinking: opportunity costs. The cost of any action is the value of the highest-valued alternative forgone in taking that action. Since the forgone action is, by definition, never taken, when one decides, one weighs the expected benefits of an activity against the expected benefits of alternative activities.

This can be read in two forms. The weak form, which Peter Boettke adopts in comments relies on the opening claim that “all economic phenomena are filtered through the human mind” and are in that sense subjective. This is true of the standard neoclassical theory as presented by Marshall, and it was equally true of the older labor theory of value. The strong form is the implication that a theory of value (different in some substantive sense from the Marshallian) can be developed without reference to objective conditions of production. The strong form is important, but wrong. The weak form consists of claims that are true, as Boettke says, “by definition”, and are therefore tautological. The problem I have with this kind of thing is twofold. First, you commonly get a rhetorical two-step where the strong form of the claim is put forward, then replaced by the weak form when it is challenged. Second, it seems to be supposed that purely tautological claims of this kind justify the kind of a priorist metholodogy favored by Mises and some (but not all) other Austrians, in which economics is supposed to consist of logically self-evident truths.

Proposition 5: The price system economizes on the information that people need to process in making their decisions.

Prices summarize the terms of exchange on the market. The price system signals to market participants the relevant information, helping them realize mutual gains from exchange. In Hayek’s famous example, when people notice that the price of tin has risen, they do not need to know whether the cause was an increase in demand for tin or a decrease in supply. Either way, the increase in the price of tin leads them to economize on its use. Market prices change quickly when underlying conditions change, which leads people to adjust quickly.

True and important, but not the whole truth, as witness the fact that people (including the managers of enterprises) so frequently choose to dispense with prices and rely on direct control to get things done.

Proposition 6: Private property in the means of production is a necessary condition for rational economic calculation.

Economists and social thinkers had long recognized that private ownership provides powerful incentives for the efficient allocation of scarce resources. But those sympathetic to socialism believed that socialism could transcend these incentive problems by changing human nature. Ludwig von Mises demonstrated that even if the assumed change in human nature took place, socialism would fail because of economic planners’ inability to rationally calculate the alternative use of resources. Without private ownership in the means of production, Mises reasoned, there would be no market for the means of production, and therefore no money prices for the means of production. And without money prices reflecting the relative scarcities of the means of production, economic planners would be unable to rationally calculate the alternative use of the means of production.

As with P4, this has a strong and a weak form. The strong form suggests that rational economic calculation is impossible in enterprises where the means of production are publicly owned. This is false, unless the term ‘rational’ is stretched so as to make the claim meaningless. Publicly owned enterprises have operated successfully for decades, sometimes in competition with private firms and sometimes as monopoly providers. There’s a case to be made that, on balance, private ownership yields better performance, but even if you accept this case, this does not sustain the claim above. The weaker view, defended by Boettke in comments, is that an economy needs at least some private ownership to produce informative money prices. This obviously leaves open the question of how large the publicly-owned sector can be without inducing economic collapse. Experience here and elsewhere suggests that substantial public ownership is compatible with continued economic growth. Determining the optimal balance is a matter of empirical assessment not abstract arguments of the kind put forward by Mises.

Proposition 7: The competitive market is a process of entrepreneurial discovery.

Many economists see competition as a state of affairs. But the term “competition” invokes an activity. If competition were a state of affairs, the entrepreneur would have no role. But because competition is an activity, the entrepreneur has a huge role as the agent of change who prods and pulls markets in new directions.

The entrepreneur is alert to unrecognized opportunities for mutual gain. By recognizing opportunities, the entrepreneur earns a profit. The mutual learning from the discovery of gains from exchange moves the market system to a more efficient allocation of resources. Entrepreneurial discovery ensures that a free market moves toward the most efficient use of resources. In addition, the lure of profit continually prods entrepreneurs to seek innovations that increase productive capacity. For the entrepreneur who recognizes the opportunity, today’s imperfections represent tomorrow’s profit.1 The price system and the market economy are learning devices that guide individuals to discover mutual gains and use scarce resources efficiently.

This is probably the most distinctive and valuable point of the Austrian school. But it’s important to remember that discovery is ultimately a public good, and that markets only reward some kinds of discovery 

Macroeconomics

Proposition 8: Money is nonneutral.

Money is defined as the commonly accepted medium of exchange. If government policy distorts the monetary unit, exchange is distorted as well. The goal of monetary policy should be to minimize these distortions. Any increase in the money supply not offset by an increase in money demand will lead to an increase in prices. But prices do not adjust instantaneously throughout the economy. Some price adjustments occur faster than others, which means that relative prices change. Each of these changes exerts its influence on the pattern of exchange and production. Money, by its nature, thus cannot be neutral.

This proposition’s importance becomes evident in discussing the costs of inflation. The quantity theory of money stated, correctly, that printing money does not increase wealth. Thus, if the government doubles the money supply, money holders’ apparent gain in ability to buy goods is prevented by the doubling of prices. But while the quantity theory of money represented an important advance in economic thinking, a mechanical interpretation of the quantity theory underestimated the costs of inflationary policy. If prices simply doubled when the government doubled the money supply, then economic actors would anticipate this price adjustment by closely following money supply figures and would adjust their behavior accordingly. The cost of inflation would thus be minimal.

But inflation is socially destructive on several levels. First, even anticipated inflation breaches a basic trust between the government and its citizens because government is using inflation to confiscate people’s wealth. Second, unanticipated inflation is redistributive as debtors gain at the expense of creditors. Third, because people cannot perfectly anticipate inflation and because the money is added somewhere in the system—say, through government purchase of bonds—some prices (the price of bonds, for example) adjust before other prices, which means that inflation distorts the pattern of exchange and production.

Since money is the link for almost all transactions in a modern economy, monetary distortions affect those transactions. The goal of monetary policy, therefore, should be to minimize these monetary distortions, precisely because money is nonneutral.

With a handful of dogmatic new classicals, all economists agree that money is non-neutral. And with a similar handful of exceptions, all economists agree that inflation is undesirable (if sometimes unavoidable)

Proposition 9: The capital structure consists of heterogeneous goods that have multispecific uses that must be aligned.

Right now, people in Detroit, Stuttgart, and Tokyo City are designing cars that will not be purchased for a decade. How do they know how to allocate resources to meet that goal? Production is always for an uncertain future demand, and the production process requires different stages of investment ranging from the most remote (mining iron ore) to the most immediate (the car dealership). The values of all producer goods at every stage of production derive from the value consumers place on the product being produced. The production plan aligns various goods into a capital structure that produces the final goods in, ideally, the most efficient manner. If capital goods were homogeneous, they could be used in producing all the final products consumers desired. If mistakes were made, the resources would be reallocated quickly, and with minimal cost, toward producing the more desired final product. But capital goods are heterogeneous and multispecific; an auto plant can make cars, but not computer chips. The intricate alignment of capital to produce various consumer goods is governed by price signals and the careful economic calculations of investors. If the price system is distorted, investors will make mistakes in aligning their capital goods. Once the error is revealed, economic actors will reshuffle their investments, but in the meantime resources will be lost.3

Again, no one disagrees with this. I was waiting for a claim that capital markets always do a better job of allocating capital than any alternative, or that they would do better in the absence of government regulation, but it hasn’t been made, so I won’t impute it. I will note that the price system may be distorted by all sorts of factors, including systemic biases in capital markets. The dotcom bubble/bust is a prime example of capital market failure in the leadup to the GFC.

Proposition 10: Social institutions often are the result of human action, but not of human design.

Many of the most important institutions and practices are not the result of direct design but are the by-product of actions taken to achieve other goals. A student in the Midwest in January trying to get to class quickly while avoiding the cold may cut across the quad rather than walk the long way around. Cutting across the quad in the snow leaves footprints; as other students follow these, they make the path bigger. Although their goal is merely to get to class quickly and avoid the cold weather, in the process they create a path in the snow that actually helps students who come later to achieve this goal more easily. The “path in the snow” story is a simple example of a “product of human action, but not of human design” (Hayek 1948, p. 7).

The market economy and its price system are examples of a similar process. People do not intend to create the complex array of exchanges and price signals that constitute a market economy. Their intention is simply to improve their own lot in life, but their behavior results in the market system. Money, law, language, science, and so on are all social phenomena that can trace their origins not to human design, but rather to people striving to achieve their own betterment, and in the process producing an outcome that benefits the public.

This is true, but so is the converse: social institutions are often the result of human design.

The implications of these ten propositions are rather radical. If they hold true, economic theory would be grounded in verbal logic and empirical work focused on historical narratives. 

This is a gigantic non-sequitur, which reflects the cultural predilections of the Austrian tribe. If anything, the outline above supports an axiomatic and mathematical approach of the type favored by the neoclassical school. Prices are numbers after all, and information is a mathematically precise concept. Why would you throw all that away and stick to verbal methods, except for lack of capacity to do it right? And the claimed focus on empirical work seems to be the exact opposite of the a priori methodology espoused by Mises and supported above.

With regard to public policy, severe doubt would be raised about the ability of government officials to intervene optimally within the economic system, let alone to rationally manage the economy.

Not many people these days would claim optimality for government intervention. But there’s nothing so far to show that government intervention can’t improve outcomes in the standard cases of microeconomic market failure and macroeconomic co-ordination failures.

Perhaps economists should adopt the doctors’ creed: “First do no harm.” The market economy develops out of people’s natural inclination to better their situation and, in so doing, to discover the mutually beneficial exchanges that will accomplish that goal. Adam Smith first systematized this message in The Wealth of Nations.

The first sentence seems entirely inconsistent with the general policy stance of the Austrian school, which involves a wide range of radical policy measures, based on untested hypotheses. “First do no harm” would suggest cautious incremental changes to the existing mixed economy. It’s true that markets develop out of natural inclinations to better our situation, but then so do governments.

In the twentieth century, economists of the Austrian school of economics were the most uncompromising proponents of this message, not because of a prior ideological commitment, but because of the logic of their arguments.

Sorry, but I can’t agree. Maybe this was true at the beginning of the 20th century, but in recent decades, the Austrian school of economics has been a dogmatic sect, characterised by extreme ideological views on all subjects. About the only thing I agree with in this point is that the Austrian message is based primarily on a priori logic and not on openness to empirical evidence.

Summary. The main thing I find useful in Austrian economics is captured by Proposition 7, which encapsulates the limitations of neoclassical general equilibrium theory, where all possible states of nature are assumed known, so that discovery is not really possible. Unfortunately, this is wrapped up with both some misconceived methodological views (for example, the commitment to verbal logic) and a set of ideological blinkers which guarantee in advance that the policy conclusions will be those of laissez-faire.

Final point. Boettke doesn’t talk explicitly about Austrian Business Cycle Theory, which is obviously of some interest. I’ll treat this topic in a later post.

Update I advertised this in comments over at the Austrian Economics Blog. I got a couple of comments from Greg Ransom (thanks!), but I was hoping for a bit more of a response from serious Austrian economists, while avoiding the lunatic fringe. Is there anywhere else I should be looking?

Further update I’ve edited this a bit in response to comments from Peter Boettke. In particular, I’ve changed my treatment of Props 4 and 6. As clarified Prop 4 doesn’t reveal any substantive difference between Austrian and mainstream economics, and Prop 6 is much weaker than it appears.

164 thoughts on “Austrian economics: a response to Boettke

  1. “Prices are numbers after all, and information is a mathematically precise concept. Why would you throw all that away and stick to verbal methods, except for lack of capacity to do it right?”

    Markets only make sense as an allocation mechanism if we are substantially ignorant of preferences and costs, otherwise we could simply allocate everything centrally to maximise some measure of welfare. Most formal models assume that preferences and costs are known (at least to the modeller) and so embed the conclusion that welfare could be increased through a centralised allocation. That’s why Austrians don’t like formal models. I guess that’s also why so many excellent mathematical microeconomists are raging socialists 😉

  2. John – I don’t understand why you say that proposition 4 is “clearly wrong.”

    As I understand it, Boettke is arguing against the claim that costs are determined purely by objective conditions.

    Marshall framed the argument by denying that “the value of a thing tends in the long run to correspond to its cost of production”.

    It seems to me that while the “objective reality of scarcity and the constraints imposed by technology” are part of what determines costs, they can’t be the only determinants.

    For example, if you accidentally drop your dentures into a public toilet, the objective state of the toilet (and your access to gloves etc) is only part of what determines the cost of getting them back.

    Surely your subjective response to the prospect of reaching into the toilet and cleaning the dentures can’t be excluded?

    The path from objective scarcity, technology etc to cost measured in dollars has to pass through the subjectivity involved in opportunity costs — doesn’t it?

  3. Don, it seems to me you’ve reversed the positions of the protagonists. Boettke says “costs are subjective” and makes it clear he means “purely subjective”. Marshall, with the analogy of two blades of scissors, says that both objective and subjective factors are relevant.

    Joseph, “Most formal models assume that preferences and costs are known (at least to the modeller) and so embed the conclusion that welfare could be increased through a centralised allocation” and, as you say, this conclusion would be correct if the central planner (as opposed to the modeller) had perfect information. But of course most models don’t assume a perfectly informed central planner and don’t yield the conclusions you describe. Moreover, the same error, as well as errors of overstatement on the other side) can be made in verbal reasoning The great socialist calculation debate predated math models and was riddled with errors on both sides.

  4. “But of course most models don’t assume a perfectly informed central planner and don’t yield the conclusions you describe.”

    That might be true if they model the planner explicitly — most don’t. It’s tricky to create models that don’t implicitly assume that welfare could be weakly improved with some centralised allocation. I think it might be impossible.

  5. The entire problem I have is the underlying assumption of competitive markets. These days it doesnt apply. In the Austrian view price is all – it freely ranges whenever there is fluctuations in the economy to restore equilibrium. It doesnt. The markets athese days are nowhere near any perfect competition model and in Australia it unlikely they were anywhere near close except for the first fifty years after colonisation. After that we did have as Marx noted the rise of monopolising capitals. With monopoly power comes price control. Since then, through merger acquisition and takeover we have very concentrated markets in many industries and the price is no longer flexible (no matter how much people try to ascribe the inflexibility to labour and want further de-regulation of labour). We went there, it wasnt that, still the price is sticky – so where is it sticky ? try looking at the upper echelons of the labour force – the area where there is jobs for the boys, jobs for those who sack rather than get sacked, jobs for CEOs who oversee asset strippings and raids and short term share price elevations through media spin. The rigidities are there above the middle – time people started looking there and time they stopped using labour market rigidities as the scapegoat for capital market rigidities.

  6. John – Yes, Marshall says that both objective and subjective factors are relevant to the determination of price.

    But aren’t Austrian economists complaining that he makes one blade of the scissors subjective (value) and the other objective (cost)?

    As I understand it, Austrians argue that costs are not determined by purely by objective factors but that they are also influenced by subjective factors.

    As Bohm-Bawerk puts it:

    “The Austrian economists found: 1st, that the value of the materials of production needs, first of all, to be explained; and, 2nd, that after this explanation is made, and after the net of complicated relations is untangled, the value of the materials of production is seen in the end to be the effect, and the value of the product the cause.”

    For example, you’re enjoying a meal at a waterside restaurant and you ask one of your friends why it’s so expensive.

    “It’s because of the high cost of the land,” one of your friends says.

    So you ask why the land is so expensive. And, if there’s an Austrian at the table, you’ll get an answer that includes the high value many patrons place on having such an attractive view when they’re eating.

    Economics isn’t my field, so I might be wrong about this. But my understanding is that Austrians deny that you can explain costs without invoking subjective factors.

    There isn’t an objective blade and a subjective blade.

    Have the Austrians misunderstood Marshall?

  7. Don’t you think that there is a circularity in the Austrian view that makes it impervious to critiques in its own eyes? I refer to the notion that free markets *define* the best outcomes. (The concessions to public goods and externalities are not at issue here.)
    There is no external standard by which markets can be judged to fail. Prices reflect whatever people are thinking. Value is the net market view of what people currently think something is worth. Full stop.

  8. It’s true that markets develop out of natural inclinations to better our situation, but then so do governments“.

    That last has precious little basis to support it.

  9. “Since the 1870s, economists have agreed that value is subjective” – I think Sraffa would have something to say about this statement.

  10. “Economists and social thinkers had long recognized that private ownership provides powerful incentives for the efficient allocation of scarce resources.

    Ludwig von Mises demonstrated that even if the assumed change in human nature took place, socialism would fail because of economic planners’ inability to rationally calculate the alternative use of resources.

    And without money prices reflecting the relative scarcities of the means of production, economic planners would be unable to rationally calculate the alternative use of the means of production.

    Publicly owned enterprises have operated successfully for decades, often in competition with private firms. ”

    These arguments – from both sides – do not mak a clear distinction between *ownership* – public, collective or private – and *planning/decision making* – centralised or decentralised.

    Large-scale centralised planning and decision making is the reason of the problems alluded to above. And this is independent of who the nominal owner is.

    Greetings
    Karl Heinz

  11. “Economics isn’t my field, so I might be wrong about this. But my understanding is that Austrians deny that you can explain costs without invoking subjective factors”

    I don’t think anyone claims that you can, certainly not if disutility of labour is subjective. If there is a distinctive claim here, it’s that you can explain costs by invoking only subjective factors. That’s how I read Boettke.

    So, on your reading, this point is another statement of the obvious, while on mine it’s an error. Either way, it can’t be both true and original to the Austrian school.

  12. Is it exactly true in a historical sense that an entrepreneur is what Boetkke is inclined to suggest as!? History would suggest something more in line with home economics. So I feel this description then doesn’t always deliver goods of real value,eg. cigarette entrepreneurs.And any evaluation of entrepreneurs as he sees them are both false historically and perhaps destructive ,if legislative aspects aren’t protecting users and maybe competitors for the elusive spending monies,or disposable capital…if that can be dually applied to commercial entities and consumers.The biro pen was a great innovation and a lot of flogging them went on against the ink writing pen,obviously an entrepreneur can be many things if the marketplace represents that use of money behind a product.But an entrepreneur in the original sense wouldn’t have the mass production mass marketing possibility.I think there is a cleverly disguised deceit in the the claims of deciding someone is an entrepreneur.Look what happens to poorer patent holders or intellectual property rights holders.I know with myself an idea and the company that used it was sold to an international market.Economics to me is more a penalty against me,than be worthy of giving much respect too.

  13. Proposition 6 tries to make a clear distinction between private property and socialism. But this is a comparison which is not as relevant for today as it was, say, 20 years ago. What do people think the Austrian economists would say in making a comparison between those views and a modern mixed market economy? Do we need to differ between the owners and the managers (bring in agency theory) into prop 6?

  14. Prop. 1 isn’t Hayek.

    Hayek argues in several places that economic analysis begins after we experience problem raising patterns in our experience, and he gives several examples, including the problem raising patterns people experienced with attempts to enforce usury laws, the patterns people saw with debauched coins, the patterns of the business cycle, etc.

    I’ve got citation after citation in my dissertation notes where Hayek lays out this position.

    Problems come first.

    “Proposition 1: Only individuals choose.

    Man, with his purposes and plans, is the beginning of all economic analysis.”

  15. Hayek’s work is replete with discussions of this matter — and perhaps no person has ever discussed the individuals place in the social world from as many angles and as scientifically as has Hayek — from the brain to culture to philosophy to learning to language to choice to logic, etc. You name it, Hayek has covered it.

    “Methodological individualism seems like a good starting point. But it’s important to remember that individual choices are very much affected (sometimes, effectively determined) by the collective entities of which they are a part.”

  16. Hayek has no, zip, zero “commitment to verbal logic” as a “methodological view”.

    There’s math throughout Hayek’s career and work — and Hayek even suggested the idea for some of the most momentous mathematical breakthroughs in the history of economics, such as the indifference curve method, which Hicks developed at Hayek’s suggestion.

    So the following is buncombe:

    “this is wrapped up with .. some misconceived methodological views (for example, the commitment to verbal logic)”

  17. proposition 4 is the critical one.

    “Utility and costs are subjective”.

    Whatever your subjective whims may be, final exchange costs are disciplined by:

    1) budget constraint
    2) circular flow requirements

    Of course with crazy expansion of per capita debt, we have been living in a fool’s paradise, but still, these 2 factors mean that costs can never be truely subjective in the final analysis.

    this is an appearence one must dig beneath.

  18. #18 I’m responding to your co-blogger, Peter Boettke here. He says, and I’ve quoted above

    The implications of these ten propositions are rather radical. If they hold true, economic theory would be grounded in verbal logic and empirical work focused on historical narratives.

    (emphasis added).

    If you think that’s “buncombe”, take it up with him, not me. (Also, to keep the temperature down, please stick to less emotive terms such as “wrong” in future. There’s no need to pound the table here).

    Obviously, I can’t adjudicate between competing versions of Austrian economics, or rule on the relative canonical status of, say, Hayek and Mises, but it certainly seems to me (and to Joseph Clark at #1) that hostility to mathematical methods is pretty widespread among self-described Austrians.

    If you can point me to a good mathematical presentation of the main points of Austrian theory, I’ll be happy to take a look.

  19. On Greg Ransom, maths and words.

    First, I think GR may be distinguishing Hayek from Mises.

    Second, is indifference analysis maths? I take it as a pictorial representation of verbal logic. You spend all your money to reach the highest point possible. It purports to generate familiar resullts using an ordinal method.

    *Reliance* on maths is when you accept conclusions that you don’t intuitively grasp because these are derived from other equations that you accept, and it tends to be non-realist so far as the truth of assumptions is concerned. In physics we make assumptions about underlying unobservables and are more instrumentalist. In Hayek, do we not proceed from introspective truths; ie things that make direct intuitive sense in the light of common understanding (e.g., people have goals and strive to pursue them effectively)? Things keep in touch with our verbal understanding, and maths is never the master in Hayek, wouldn’t you say?

  20. I have problems with proposition 1 – for me it would be better thought of in terms of individuals being a locus of decision – which I assume is PQ’s point.
    I think this is a non-trivial matter as all sorts of problems arise when a simple idea of ‘choice’ is assumed. It is too often a slippery slope down to ‘free choice’ and ‘free will’.

  21. Bruce, the Cartesian plane (in which the indifference curve is drawn) is certainly mathematical. The idea that algebraic concepts could be represented in geometric form was a huge step forward when Descartes introduced it. And the convexity property of indifference curves, which is critical, can only be described in mathematical terms.

  22. The propositions supporting Austrian economics are easily demolished. If I get time, I will address each one.

    Proposition 1: Only individuals make choices; collective entities do not choose.

    This proposition begins by being trivial. Where is not trivial it presupposes. Where it is does not presuppose it prescribes. As an attempt at empirical description it is simplistic and as a theory of causation it is fallacious. Overall, proposition one represents a crude form of reductionism. It also has more than a hint of solipsism about it. The proposition is making a rhetorical appeal and not an case that is objectively supportable.

    The statement that “only individuals make choices” is superficially attractive, true only in a trivial sense and then only if we make a circular definition. It is superficially attractive because it appeals to our subjectivism. Each person identifies himself as an individual, feels he makes choices and feels his choices are important. It is true only in the trivial sense if we describe choice, that is to say human choice, as the sole preserve of human individuals; a circular definition. It is a large and unjustified leap to rush from feeling subjectively that individual choice is important to asserting that individual human choice (and the aggregate of individual human choices) is the sole agent of causation in the economy, or more properly, in the political economy. The proposition makes a fetish of human choice and presupposes that human choice is the only causative agent, the only enabling or constraining factor worth considering in economic analysis. The natural environment, resource availability and wider societal constraints are all left out of such an analysis.

    JQ seems prepared to concede proposition one even though he too raises this objection which on its own demolishes proposition one. JQ says, “… it’s important to remember that individual choices are very much affected (sometimes, effectively determined) by the collective entities of which they are a part.” Not only are there the constraints of belonging to collective entities, there are also the natural constraints as I mentioned above. The Wikipedia contains a general passage which happens to illuminate very well the particular reductionist fallacy of proposition one.

    “Reductionism is strongly related to a certain perspective on causality. In a reductionist framework, phenomena that can be explained completely in terms of other, more fundamental phenomena, are called epiphenomena. Often there is an implication that the epiphenomenon exerts no causal agency on the fundamental phenomena that explain it. Reductionism does not preclude emergent phenomenon but it does imply the ability to understand the emergent in terms of the phenomena from and processes by which it emerges.” – Wikipedia.

    The key sentence for us is this one. “Often there is an implication that the epiphenomenon exerts no causal agency on the fundamental phenomena that explain it.” Proposition one asserts that collective entities do not “choose”. If this means “do not determine any outcomes” then it amounts to a denial of the existence of feedback loops in the dynamic system that is society. It amounts to asserting that I alone choose and determine outcomes and that society never chooses nor determines outcomes for me. This is palpably false as JQ asserts. Society, as a collective, does determine some of our choices, just as it socialises us by training us and by encouraging and discouraging various individual choices.

    The Austrians’ reductionism implies that a full explanation of society can be produced exclusively by accounts of individuals. Margaret Thatcher took this view to its “logical” or rather illogical conclusion with her infamous statement “There is no such thing as society.” It is instructive to see how quickly Maggie got herself into trouble with this line of reasoning;
    “And, you know, there is no such thing as society. There are individual men and women, and there are families. And no government can do anything except through people, and people must look to themselves first.” – Margaret Thatcher

    The “family”, a collective entity, was hastily re-introduced into the argument as Maggie’s political instincts reminded her that she could not deny something which was not only real but also a conservative shibboleth. Another important collective “the government” is added and then “people” are also introduced collectively. Maggie’s self-refutation is so devastatingly effective one scarcely needs to add anything.

    The desire to deny the existence of society and the importance of collective choices and decisions is essentially an ideological one. First, it is a denial of the reality of a political economy and a pretence that there is just an economy. It is a denial of the existence of both phenomena as a dynamic working whole (individual choice and collective choice) and therefore a denial of the complex social and political tasks we face in balancing individual choices with collective choices. Democracy is the most important collective phenomenon (or epiphenomenon) which denied most of its essential validity by the Austrian theorists. They want democracy (choices made by methods other than free market forces) to wither away. What they do not highlight is that if free market forces rule exclusively then the choices of the richest and most powerful players in the free market determine, or at the very least, severely constrain the choices of others.

  23. Darn, various typographical and grammatical errors crept in as I rushed and re-edited the text for my post above. Please don’t judge it by those relatively minor errors.

  24. This sort of didactic thread is so contrary to so much of the stuff that turns up in media, eg sleazy and salacious Hanson rubbish in Murdoch press discussed by Media Watch on Monday night.
    Much thanks Prof Q- will not comment now- am putting computer to bed, going out for a trip to the shops and then coming home to re-read thread, then comments.
    A good steak is worthy of savour and needs digestive time. And something that teases my mind and threatens to provide me with new answers is becoming a bit of a shock, as one becomes more and more conditioned, to laziness and stupour, by commercial schlock.
    One has to adopt or readapt one’s approach when worthwhile stuff turns up, not least at the fact of someone making an effort to share and explain, rather than hoodwink, patronise or exploit.

  25. great stuff,

    but what i want to know is this, when are you going to deal with the real issues,

    because it doesnt matter whether your economic policies are austrian, german, chicagoan or cambridgian,
    they are like different dreamcoats placed on a sociopathic zombie

    private central banks, mega-corporations, cartels, concentration of media, secrecy jurisdictions, private equity funds of funds, CDS, dark pools, shadow banking and organisations like the DTCC
    these things constitute the REAL economy
    all the rest is just dancing stooge puppetry,

    debating the colours of the dreamcoat is honestly just fiddling while the looters do their thing

  26. Smiths, I know where you are coming from. As a non-rich individual I do feel powerless in the face of the corporate forces you mention. It is true that there is a futile and quixotic aspect to our debating, fulminating and expounding on issues we cannot directly affect.

    However, as a counter example, I will point out that democracy is our power, the power of the little people; a collective power I might add. This power is imperfect and has limits but it is all we have and it does work to some extent. Preparatory to the exercise of democracy, by voting, we have the process of debate and sharing ideas.

    US citizens exercised their democratic power (albeit in a somewhat flawed system IMO) and elected Obama. I think the change in national mood along with the stance and mettle of Obama himself means that current government responses to the market failure and corporate malfeasance implicated in the GFC will be considerably stronger and more effective than they would have been under McCain.

    We can have some hope too that, as this crash is so bad, at least some proper regulation (and re-regulation) of the market economy will come out of it.

  27. John #23 ICs and Descartes

    This is not really a digression because I think that maths has two roles in economics: as a didactic means of explanation and as an engine of scientific discovery. I’d punt that Austrians would incline to agree with the former orientation and take a view similar to mine about ICs (though they would not delight in being so openly crass).

    Does indifference analysis tell us much that marginal utility analysis doesn’t? (Scitovosky paradoxes are amusing, perhaps, and require explanation, but their practical relevance is a verbal/intuitive judgement call.)

    An IC is something you *draw*. It’s common sense tarted up to look formal and scientific. The shape of an IC is not mathematical, I reckon: it reflects the law of diminishing marginal utility (itself based on common sense, despite the trappings of differential calculus) while theatrically avoiding the then dreaded sin of cardinalism. How seriously would one (esp. if “one” were Austrian) take attempts empirically to plot ICs? Or isoquants for that matter.

  28. “Does indifference analysis tell us much that marginal utility analysis doesn’t?”

    Not really, but marginal analysis is derived from calculus, which is more “advanced” than the maths used for indifference curves, although the latter is arguably more sophisticated. Value theory was a complete mess for a century before Edgeworth, Jevons, Menger and Walras. And they were in no doubt that they were bringing proper maths to the subject, as titles like this indicate:

    “A General Mathematical Theory of Political Economy” (Jevons)

    “Mathematical Psychics” (the first appearance of the indifference curve) (Edgeworth)

  29. John #30
    Indeed. The self-image of economics has this foundation.
    The relationship between the marginalist formalists and the Austrians rather puzzles me. (Greg Ransom may be prepared to steer me succinctly in the right direction.) At some point Austrians spurned neoclassicism, partly due to “excessive” mathematicisation and partly due to the interventionist ethos of the latter in seeing market failures everywhere and wanting to correct them. Writing an equation for something does not imply, of course, that we can pin it down and control it, but it’s the first step.

    It’s hard to be stridently anti-mathematical and a subjectivist who adheres to marginalism: I don’t quite see how they do it — if they take a line different from what I’ve espoused earlier (that the maths is largely metaphorical). While GR rejects the idea that Hayek was anti-mathematical, you must be right that some Austrians give the impression of hostility to it.

  30. “The idea that algebraic concepts could be represented in geometric form was a huge step forward when Descartes introduced it”.

    Oh, JQ! You’ve got that exactly backwards. What Descartes introduced was the idea that geometric concepts could be represented in algebraic form – analytical or algebraic geometry. The converse did come out in the wash, but it was no big deal. (Geometric algebra is something else again.)

  31. I am extremely skeptical of the efficacy and efficiency of ‘markets’ full stop.

    A simple metal trick, swap the work ‘mob’ for ‘market’. Try it, it will do wonders for understanding the mess we are in, and why neo-classical (inc Austrian) dogma that the ‘market’ is the be all and end all, does not and cannot work.

    “The MOB discovers the correct price”. The MOB always maximises human desire and utility”. “The MOB is efficient”.

    Right?

    The real challenge is working out better ways of understanding individual, small group and large group behaviour. In each of these contexts individuals act quite differently, often in quite perverse ways. Until then any economic model is going to be very deficient, at best a first order approximation with very (very) limited predictive capacity.

    There are complex behavioural feedback loops here, where people watch other people to see what they do/wear/buy/say/etc, then a critical mass happens and a large scale movement happens. Such as a ‘must have’ product.

    A practical example is that modern marketing is often trying to create these movements, to try and create a large enough initial group that then becomes a mass movement. Suddenly everyone wears their cap backwards or has an iPhone.

    So, at the level of the base assumption, the Austrian (and many other) schools of economic thought are deeply flawed models, with effectively no analytic or predictive power.

    Translated: they cannot explain why things happened and they cannot predict what is going to happen.

  32. Plus, Alice is quite correct. Assuming a ‘free’ market is a pretty dodgy idea anyway.

    It is normal for individuals and sub-groups to manipulate MOBs, more often the norm I’d say. Therefore their precious ‘markets’ are going to be manipulated by motivated people (Duh).

    Simply put, human ingenuity will always find a way to fiddle/manipulate a ‘market’ to suit some people’s short term interests.

    Adam Smith himself warned about this.

    From a modelling point of view (and I build mathematical models for a job) unless you can account for these factors in some way (or have them eliminated from the real world) then whatever model you create is inadequate with … no analytic or predictive power.

  33. Oldskeptic says
    ““The MOB discovers the correct price”. The MOB always maximises human desire and utility”.

    “The MOB is efficient”.The real challenge is working out better ways of understanding individual, small group and large group behaviour.”

    Agree, economists have supposedly long known that research on data at the disaggregate level may bear little relationship to the same research outcomes at the “mob” level and by analysing the “mob” we do not capture the real relationships, yet we are being asked to accept and implement what is essentially a “mob theory”.

  34. Re Alice 35
    James Surowiecki, The Wisdom of Crowds, 2004, reminds us to distinguish between the benign outcomes that occur when large numbers of individuals make independent assessments versus the malignant ones when they observe (or ask) what others are doing and find it individually rational to go with the crowd.

  35. 36# Bruce
    That is like saying well we put students in classrooms of diverse ability (greater heterogeneity) but we dont change our teaching methods and continue to teach to “the mob.” I dont buy it.

  36. Alice is right again: this is not a MOB theory at all. We know by simple observation that MOBs can be far more irrational than individuals.

    Famous example in England a MOB attack on a paediatrician.. because they thought she was a paedophile, the word are similar (I know it does not say much about English education, but are we any better in Oz).

    Plus we know, from small group theory, that even small groups of people (ie 5-20+) are far greater risk takers than they are as individuals (distributed responsibility syndrome).

  37. Ok, there is a wonderful set of podcast’s from the ABC’s Science show, from a mother with an high performing autitic child.

    From him, she learned the ‘invisable force fields’ (her comment) around every neuro-norm person. The incredible amount of mental processing power we dedicate to looking at everyone else, understanding them, copying them, fitting in with them.

    So every ‘normal’ person is someone who watches others and crowds .. with all their mental processing power .. and works out how to fit in, manipulate, survive …

    The idea of rationality is nonsense, except for Vulcans and mutants (ie autistic) .. and a tiny, miniscule percentage of the population that can actually train their mind to think.

    Again, another nail in the coffin of any ‘economic’ theory that depends on ‘rational’ people.

  38. 35-39
    Don’t you think there is a spectrum or a wide domain of possibilities here? There are autistics and there are those who observe and care too much about the views and feelings of others (is there a word for this?). There are people on the altruistic end and people on the psychopathic. And there are lots of people with attributes of each.

    When I buy baked beans I do so independently of the brand I observe others reaching for. Markets work here. But I am influenced by social factors that gave rise to my desire to consume baked beans in the first place rather than tinned whale. (Group tastes matter here.)

    There is also the possibility that markets do a crappy job (if this pairing is not redundant) but that non-markets do an even crappier one.

    If each system (market and non-market) has an absolute advantage in some cases or functions, then this is one argument for the mixed economy. It is also an argument for putting and keeping markets (and non-markets!) in their place. What irks so many people about the Austrians is how easily and irreversibly they are persuaded that market solutions apply so widely.

  39. Does it? The baked beans you get are selected by someone else. Yes, you have an illusion of ‘choice’, but realistically the choice was made for you.

    Dictatorship of the commons is a term I never forget.

    Perfect example: Now I am a person who is objectionable to most people. Yes I say the things to their faces that they dont like (and have been fired a lot of times). Damn tough and independent mind here. Honed by adversity and challenge.

    But, today I bought some stockings for my wife (yes the real ones). In David Jones. The social pressures you could feel. Me a male bought stockings. I felt it, especially when the staff thought I was a cross dressor. I actually left there sweating. There were no other guys there, only women .. and you could feel the pressure “I was an interloper”, the staff added to that as well.

    So social rules apply, a lot and they will change your behaviour whether you believe or not.

    For the guys, do a simple example “buy a pair of stockings”. For females, they get this all the time, talk to your mechanic about your car, realistically.

    And then understand ‘markets’.

  40. Now that you are on to that comment about cars and females Oldskeptic – let me tell you there is one price for males at a car repair shop and one price for females in distress with a broken down car. The price for the latter can reach 300 to 400%. How do I know? Ive had to rescue friends and their cars from the clutches of “try it on” motor repair shops (I might also add the large brand ordinary service centres can be the worst chargers for inferior service – male or female). Husband is a second hand car dealer and know “what it should cost”.

    is that an example of an efficient price? (even though there are lots of motor vehicle repairers – at least monopolistically competitive?)

    Even that isnt an efficient price driven market when a car is broken down and it depends on the producers perceptions of how well the buyer can a) choose or b) has imperfect information.

    In fact imperfect information is the norm in many markets and producers will make the most of it if they can (that is why promoting the idea that the market is efficient is so appealing to some, precisely because it is not and there are vast areas of imperfect knowledge, or other factors eg in the case of cars, gross inconvenience and lack of mobility, combined with imperfect knowledge, that can be exploited for the most profit).

  41. Really? From your own link:

    “Ms Cloete said the graffiti had been daubed across the front door windows and surrounding woodwork on Monday”.

  42. Having someone paint graffiti on your house does not equal getting attacked by a mob.

    Read the headline: “Paediatrician attacks ‘ignorant’ vandals”.

  43. Oldskeptic – hopeless arent they? Black is white and white is black but we have to listen to them tell us that.

  44. Dead Right Alice. Imperfect information .. and the power relationship, or at least the perceived power relationship.

    Basically, the ‘market’ so loved by neo -liberals, neo-classical economists and their logical cousins, neo-conservatives (you know the ones that got us into several wars .. still going and expanding, boy just wait until we got to war with Iran).

    Is piffle.

    Their idea of a market is, because they are far more realistic than we are, is something that the big boys get a personal advantage from, today.

    You honestly think (say) Kerry Packer believed in a ‘free market’? ‘Useful idiots’, in the Lenin sense, as he would call them. He spent his life logically creating monopolies, so he could extract a massive ‘rentier’ income .. again Duh.

    Adam Smith again .. I told you but no one reads him..

    And how much did he paid lobby groups, ‘think tanks’ (yeh sure dud tanks are better) politicians, etc. .. and how much tax did he pay?

    Digressing, I find it so fascinating that we are so anti-Russian. We slag them off all the time. Not democratic, authoritarian .. etc. We must buy F-22’s to deter them.

    But actually our Govt has powers the Russian Govt doesn’t. We can, and do, lock up children for all of their life. We can, and do, pass our citizens to another Govt to be tortured. And just wait until the Internet is censored.

    Sort of a free market I suppose? Rubbish.

  45. Oldskeptic # 47 I am sure virtually none of the Monty pelicans and their friends reads or has ever, in any depth, read Adam Smith. The only part of Smiths they like to quote is “the invisible hand of the market.” That phrase turns them on but most of them dont even know Smith let alone understand Smith.

  46. Sj, have you ever been in a fight, have you ever been attacked. Have you ever quaked in fear when a gang is smashing everything under you.

    Have you ever had 10 people try to beat you up. Have you ever been faced by someone with a knife. Have you ever been beaten by a MOB, where everyone takes a turn on hitting or kicking you?

    I do, had to face it recently actually.

    And JQ, this is very relevent, when I did my lecture in 2003, which as a part of the paper I disproved Schoals-Black. The amount of people, in private who agreed with me, but would never say it in public, bacause it would cost their job.

    So social pressure is immense. Plus, just like a manipulated MOB, step out of line and you get fired (or beaten up or both, some places killed).

  47. “Again, another nail in the coffin of any ‘economic’ theory that depends on ‘rational’ people.”

    Surely the validity of the above statement depends on the concept of rationality.

    To illustrate, is a mathematical economist who is entrepreneurial in the sense of making new discoveries (new theoretical knowledge) irrational because he or she is not motivated by making accounting profits?

  48. Smith was, as all good Scotsman are, a skeptic.

    He was scathing about businessmen. His idea, was that, unless carefully controlled they will become rentiers. And do anything it takes to get that .. which includes killing.

    Long after Smith life insurance was finally regulated, because it was profitable to insure a strangers life .. and then kill them .. bit like CDS’s, or hedge funds. Yes, they took ‘ ‘insurance’ on the risk that a company would go down. Then made it happen by shorts. Win-win from their point of view.

    For the simple here (Sj). Bet a company will collapse, then make it happen.

    Economic Terrorists I call them. Makes Bin Ladin look like an amateur.

    Digression: Never understood why the UK Govt didn’t set the SAS on Soros, since he damaged the UK far more than the IRA. Frankly I would have.

  49. Oldskeptic, if you want to use an example of mob behaviour, why don’t you use one that actually happened, rather than one that didn’t? It couldn’t be that hard to find one.

  50. Ernestine Gross Said:

    March 19th, 2009 at 9:40 pm
    “Again, another nail in the coffin of any ‘economic’ theory that depends on ‘rational’ people.”

    Surely the validity of the above statement depends on the concept of rationality.

    To illustrate, is a mathematical economist who is entrepreneurial in the sense of making new discoveries (new theoretical knowledge) irrational because he or she is not motivated by making accounting profits?

    Is this a new definition of a non sequitur?

    Do you here actually understand economics?

  51. Oldskeptic Says:

    And JQ, this is very relevent, when I did my lecture in 2003, which as a part of the paper I disproved Schoals-Black. The amount of people, in private who agreed with me, but would never say it in public, bacause it would cost their job.

    What’s this supposed to mean? It’s not possible to disprove Black-Scholes. Black-Scholes is true given its assumptions.

    It’s trivial to show that the assumptions don’t hold. That’s been known since the original publication in 1973.

  52. SJ,
    Next thing you will know “oldskeptic” will disprove the labour theory of value. Wow. Maybe during that process he will also learn that the theory he is referring to is almost universally known as Black-Scholes. I would think Myron might be a little upset about the mis-spelling of his name. Odd for someone who knows enough about it to disprove it to get that wrong.
    .
    Louis,
    I have always found it odd that those who are most active in attempting to prove that a lack of rationality on the part of economic actors is a good excuse for government action are also those who are most reliant on a theory that the government is not similarly so hobbled.
    News flash: Humans do act irrationally from time to time! – or at least what may appear as irrationally to the rest of us. This includes all members of the government. The difference is that the government has the legal capacity to force us to play along and the only comeback we have is a vote every few years or a hope that another arm of the government is capable of doing something to reduce the harm done.

  53. I’m pretty sure John is already acquainted with Louis Hissink, Ernestine.

    The point is obvious, though, and should be explained for those readers unacquainted with the facts.

    Climate change denying geologists do not have standing to question whether Phd qualified economics lecturers understand economics.

  54. I’m a sceptic about free markets and the comments of Alice and Oldskeptic resonate with me. I’m certainly a sceptic about extreme free market theory like the Austrian school. My opinion of the Austrian school is that it is extreme to the point of absurdity. We are all entitled to our opinions. 🙂

    However, I do think markets have a role to play in creating the “best of all possible worlds” with the emphasis on “possible”. I use this phrase in a worldly socio-economic sense and not in the sense of Leibniz.

    A Social-Democratic approach to government coupled with a well-regulated mixed economy and a committment to excellent free public education, primary to teriary and in all fields, is about as good as it is going to get.

    There is such a thing as human nature. It is modifiable but not able to be changed fundamentally. There is plenty about human nature that is ugly unless it is well regulated too. IMO, the above system has been demonstrated empirically (in all the trials in the “laboratory” of human history) to be the best that we have come up with so far.

  55. Ikonoclast,

    Your’s is a very sound and noble position to take: Healthy skepticism should be applauded.

    What do you think about the free market as an agent to turn the seemingly negative aspects of human nature; self interest and striving for personal gain, into a positive. The free market encourages people to act in the interest of others because they are acting in the interest of themselves.

    Whereas regulation and protectionism seems to encourage an accumulation of power at the top which only encourages the negative aspects of humanity to flourish in order to gain.

    If you don’t see it this way can you give some examples of where you see regulation being of benefit and where you see Austrians as being “extreme to the point of absurdity”?

    Cheers

  56. Ben S: could you please give some examples of free markets so I can investigate them. I’m never that sure what people mean by a free market or how they work in practice.
    thanks, nanks

  57. yeah,

    and while someone searches for nanks chimera,
    can someone find me a rational actor and a system that tends toward equilibrium

    ha ha

  58. Ernestine#55

    They are everywhere…. They mass attack genuine blogs..they do not have a brain cell to share between them. They use no real facts or research and they quote the same thing like a broken down record, over and over again. Ignore the troll. It is more than clear with the two links you posted the nature of what is behind them. Link to Marohasy? Say no more…

  59. Ikonoclast – I second
    “A Social-Democratic approach to government coupled with a well-regulated mixed economy and a committment to excellent free public education, primary to teriary and in all fields, is about as good as it is going to get.

    There is such a thing as human nature. It is modifiable but not able to be changed fundamentally. There is plenty about human nature that is ugly unless it is well regulated too.”

    On your last comment, we are still seeing in the newspapers everyday as bail out recipients in the US keep handing out million dollar bonuses (oh but they couldnt possibly risk an exodus or a contractual breach could they?).

    An exodus of the self righteous leeches is an essential first step to recovery.

  60. nanks:
    I think the wiki definition sums it up fairly well: A free market is a market in which property rights are voluntarily exchanged at a price arranged completely by the mutual consent of sellers and buyers.

    There is an excellent example outlined in Reason. It shows that the lifting of regulation in homebrewing beer in the United states lead to a renaissance of beer and eventually a microbrewery revolution.

    “Drinkers began to envision a new role for home-brew: Instead of functioning as a cheap do-it-yourself alternative to well-made commercial beers, why couldn’t it function as a well-made do-it-yourself alternative to cheap commercial beers?”

    The lifting of the homebrew ban as shown in this article illustrates that the market in beer went from 44 breweries nationwide in 1979 to the situation now where “the U.S. boasts 1,463 breweries, including 975 brewpubs”.

    The example here has a clear message: Restriction and regulation leads to stagnation whereas when you remove restrictions it leads to innovation and choice.

    I see this as a universal experience and would be happy to talk about any examples where you see the reverse as true.

    Check out the article here: http://www.reason.com/news/show/131411.html

  61. Hi Ben – thanks for the link. I can’t see the strong connection between homebrewing and boutique breweries – which would be regulated I imagine (though don’t know).
    By the way I am not in principle opposed to free markets at all – I don’t really understand them enough – but I am certainly in favour of diversity and limitations on power – whether public or private. Free markets seem to be one way of sharing power.

  62. nanks,

    I think the point was made that the homebrewers ended up starting the microbrews. There is a quote in the article from the president of the Brewers Association “I’d say over 90 percent of small brewers I talk to today have roots in home brewing,”

    Diversity and limits on power are all awesome ideals in my book!

  63. Ikonoclast @24. I’m slow to respond, but great post!

    Proposition 1 more or less sums up the AE world view. It’s certainly not an empirical claim because it is trivially wrong. Sure, individuals make choices. But do groups and organisations make choices? Yes, by more or less the same kind of observation we can see that they do.

    Moving down the scale, do brain subsystems make choices? Yes. The neuropschological picture is particularly interesting to me (at least) because it turns out the subjective individual is not as involved in most of our “choosing” as we might presume. We tend to be presented with the results of choices made by unconscious parts of the brain and typically go along with them. Any good analysis of human activity should take this into account. (There’s a good accessible piece on the neurology of subjectivity http://www.dericbownds.net/I_illusion_web/I_illusion_web.html if anyone’s interested. The choosing entity is an illusion, but not a trivial one.)

    “Only individuals choose” is already an ideology. It sets the whole flavour for Austrian Economics and discloses it’s appeal to people who are interested in, or often obsessed with, individual choice. I like your word “fetish”. (In my experience, they tend to be intelligent males with a good capacity for abstract thought who were subjected to some dominating parenting at the time when they should have been growing out of rule-based social thinking. There’s a mass of psychological research that indicates happy people tend to see themselves existing in relationships rather than as an individuals.)

    This seems to me to be a fundamental problem with any ideology whether it’s dressed up as a rational analysis or not. All the propositions contain approximations, slants, ambiguities, assumptions parading as definitions, and so on. Of course they all feel right to the adherents – that’s why they were chosen – but string a few together and you can no longer tell if you’re in fairyland. AEs don’t need to justify – or even nuance their belief system – with empirical evidence, it’s all in the book. The crash isn’t a failure of markets – ie Failure of Markets – that just isn’t logically possible. There is actually no evidence that could reasonably appear in the real world that would break the system.

    This isn’t just a problem with AE it’s a more fundamental problem with the limits of human rationality and representation of the world in language. For me that’s the advantage of using science to determine what’s going on; you’re still prone to these problems but at least you have a clear indicator of when you’ve gone off the rails.

  64. A free market is a market in which property rights are voluntarily exchanged at a price arranged completely by the mutual consent of sellers and buyers.

    whats the starting point?

    what if you have no property rights?

    what if 1% of the buyers and sellers own 90% of the property rights?

    is that still a free-market?

  65. smiths,
    It’s a free market as long as people are allowed to exchange freely. The initial allocation is beside the point. If you are concerned about initial allocations consider this: there is not a fixed amount of wealth in the world. People create property simply by engaging in productive activities. Also consider that the alternative to a free market is people not being able to exchange freely, even when they find it mutually beneficial to do so.

  66. There appears to be a religious-like belief by some that markets are best in all conditions where, in reality, markets only deliver optimal outcomes where there is genuine competition.

  67. sdfc,
    I’m not sure about that. I can think of lots of cases where an authoritarian solution is better. I just think the presumption should always be in favour of freedom.

    Take social policy as a neutral example. There are lots of ways that the government might be able to help people by forcing them to engage in certian socially desirable ways. However most people would agree that this is a dangerous path and there should be a pretty good reason to start dictating how people live their lives. I just think the same logic should apply to peoples economic choices as their social choices.

    I’m not trying to convince you, just to explain why people like me think the way we do.

  68. People create property simply by engaging in productive activities

    this is infantile,
    what about if i buy something and it turns out to be a lemon?

  69. Sdfc 70

    You seem to think that there may be a rational way to break into the Austrian mindset. They argue, with some plausibility, that markets promote competition; monopolies are transitory — technological artificacts– unless governments protect them from new entrants and technologies.

    “Optimal” suggests “efficient”, but they reject static neoclassical “efficiency” based on perfect competition in favour of the dynamic efficiency resulting from creative destruction.

    I don’t see a way in.

  70. smiths @ 68:

    whats the starting point?
    Finders keepers. If you found it first it’s yours. Lot’s of people will complain about this way because the way we got to the current ownership of property involved wars, persecution and genocide etc. Because of this it’s never going to be 100% perfect from day 1. However the free market works in a way that benefits the entire world. We may not have started out equally but implementing voluntary action is the best way for us to get as equitable as possible.

    what if you have no property rights?
    Then you’re probably dead! Everyone at the very least has rights to their own body, time, talents and labour.

    what if 1% of the buyers and sellers own 90% of the property rights?
    If this is a suitable situation for everyone then awesome! Nothing gets done in a voluntary society unless it is mutually beneficial. If it’s beneficial for most people to not bother to own property like land and simply rent it from 1% of the population because they do a good job of maintaining it then why not?

  71. the system you advocate is not a free market ben,

    it is anarchy, followed by a mafia-like system,

    i wouldnt want to be part of the world system you advocate and i feel saddened to think that people actually think this is a good way to organize life on earth

  72. Don’t be too sad smiths; lot’s of people have all sorts of crazy ideas and it doesn’t look like people are all that keen to stop telling other people what to do any time soon.

  73. 76# Well join the club Ben. You know, all that talk about a society where no one can tell anyone else what to do because individual freedom reigns supreme…I keep trying to remember where Ive heard it all before….It was in the 1970s…and Woodstock had a lot to do with it.

  74. Why is it that people who like to denigrate the free market are conversely passionate and idealistic believers in government action?

    Without property rights then we are on the slippery-slope to totalitarianism. Property rights are fundamental to the free markets operation. It provides a level of security and reduces risk of expropriation.

    Setting prices takes in multiple inputs and is usually determined based on different factors for different firms. Yet government manipulation via price controls undermines the supply-demand equilibrium and can lead to long term shortages and a lack of investment in R&D. Do the government-action ideologues believe that government should set prices for goods and services? I would not be surprised if there are a good number who would like government interference in this sphere.

  75. I’m not such a big fan of government as it is implemented at the moment because I don’t think the people at the highest level show any particular aptitude for much other than the acquisition of power without much in the way of proper scrutiny or checks. However how does a ‘very’ free market deal with fraud unless through the threat of forceful retribution which seems to necessitate some sort of government scrutiny and apparatus.

  76. nanks,

    I think most libertarian types are quite happy to have a government that enforces contracts and not much else.

  77. Ben S
    The next issue then is what about children who are neglected – or more generally, how do you ensure equal access to resources for children – who are obviously not in a position to guarantee that for themselves.
    Similarly for people with profound disabilities – how do you ensure decent opportunity for people with disabilities? Similarly, how do you ensure decent medical treatment for children born with correctable disabling conditions but whose parents lack the resources to have the problem corrected.
    There is an obvious history here with hip dysplasia which is simply corrected in most cases where resourcing is available.

  78. Sean G #78

    You probably werent even alive when there was, what I considered a half way decent public service in this country. You (I gather young) people are apt to criticise the government’s role these days (and I am to criticise it myself but not for the same reasons as you).

    It is not a case of being pro government. It is case of having lived long enough to see it one way, and then see the inferior funblings of an eroded public sector befuddled with private sector ideals and corrupted by private sector ideals and firms as it is now.

    Two different objectives between private profit and public ideals (but an individual can choose where they sepnd your life’s work – but apparently can no longer choose to devote tehmselves to public service?) but I doubt whether you would even understand those that, in Australia’s history, dedicated their careers to providing a service to the public and for the greater public good.

    I have met them, talked to them and there are still some wonderful individuals at senior level in the public service who know the true meaning of the word “public service”, and who epitomise its lofty ideals, that is to dedicate your career to helping the produce the higher ideal of a common good, service to others, your actions subservient to the greater good that benefits all in society, not just your own self interest (or your immediate families).

    It falls short of the mark for me to attempt to praise these type of people here, surrounded as I am by people that have no notion of a collective benefit or a collective action, and if I tried I would greatly underestimate their true worth or risk having them held up to ridicule (by so many inferior persons). Those who would riduicule government and public sector employees, see themselves and the world around them as a world where all that matters is individual entrepreneurial ability and aspiration and a claw like hold survival to get ahead, even and especially where it means sacrificing your rival. Isnt that the spirit of free competition?

    Its quite sad Sean G or at least I find it so. You do not need to feel sorry for me, for I feel quite sorry for you, that you do not know the difference between public service and private interest and would sacrifice the greater common good for the latter in a heartbeat.

    Alanna

  79. Alice,

    Let us start with “good public service”. I am sitting in London where the Government for the last 12 years have been “investing” in public services. Massive amounts of expenditure have gone into education, health, transport, welfare etc etc. This massive increase in spending has resulted in an additional 500,000 public service employees and in some parts of the United Kingdom government expenditure is above 50%.

    Despite massive increases in spending, the only real progress in public services have come from reforms to the public service. Money does not equate to quality and despite huge expenditure on public services independent and Grammar schools (equivalent to independent and selective high schools) still get top league placings. Along with these selective schools are the City Academies which are private-public funded schools and run independently of the local authorities over here.

    I have seen the waste, the multiple levels of government creating work for themselves and the stiffling regulations that come from this.

    Good public services are not a by-product of the size of government or the level of spending. You need a more nuanced view than that. The sheer size of Government is mind-boggling but the sheer waste and inefficiency destroy’s the publics view of Government.

    The Government is an autonomous organisation to society (the public). There are undoubtedly good people in the Government – doctors, nurses, police etc but that is the front-line staff. What about the administrators? Are they there for the public good or for the generous pension scheme and secure job? Do you extrapolate from your conversations with a few public servants and apply that across the entire public service.

    Government is notoriously ham-fisted and lacking in flexibility to deal with society, individual communities and individuals. It is a by-product of an era from the industrial revolution that had massive, clunking organisations in both public and private sectors responding like automatons. Very much like the old factories these organisations are dying off because society is not homogenous while the public sector is.

    I am disappointed that you think that just because I am a free marketeer that somehow I am a selfish being, entirely devoted to myself and not the community surrounding me. That is your opinion based on no facts but full of fluff. I am a free marketeer because the free market is the more efficient allocation of resources.

    I am a believer in helping my community and by extension society. But I would not ask for a salary like a public servant. People’s priorities tend to rank as: family, community, society. Irrespective of public or private sector employment that is most people’s view.

    Can you explain to me what the “common good” is? Does this not presuppose that I am exactly the same in needs and wants and requirements as everyone else? Or that the community that I am in is exactly the same as every other community? It puts together a construct of society as a single unit; very mechanistic and that pulling a lever will get a certain reaction. This is a wrnog approach.

    Finally I would like to add that in Australia the government is very large. Fed, State and Local. Do you honestly think that public services are getting value for money? Or are achieving their social purpose?

    Back on topic though.

    The Austrian School of Economics does raise interesting points regarding social psychology – why people act certain ways. I think that the current crisis will provide a boost to behavioural economics especially the behaviours as shown in trading rooms in banks across the globe!

  80. 83# Sean,

    I have no interest whatsoever in the behaviour of tradings rooms and bank boards across the globe. I am more interested in what the government is doing to close the loopholes. It is clear the private sector is inept at reigning in its corporate excess.
    I will not explain to you what a common good is. You have google and wikipedia for that.

  81. Alice,

    I want your definition of it. I understand what it is but what is your view of the common good – what does it mean? How does it come about? I am a believer that our own views and bias affect our arguments and opinions and this will help us form a better understanding of where you are coming from.

  82. Alice,
    How do you explain your apparent faith that the government is likely to be any better – any at all – at reigning in excess than the corporate sector is?
    As part of your answer please incorporate excess and deaths due to war.

  83. surrounded as I am by people that have no notion of a collective benefit or a collective action

    That high moral hobby horse you have built for yourself is quite amusing. Sad but amusing.

  84. This thread has probably run its course and needs to be closed off.

    Terje Says:

    That high moral hobby horse you have built for yourself is quite amusing. Sad but amusing.

    On the flipside, your sociopathic attitude is just, well, sad.

  85. So Joseph 71, running a health or a bus service is an authoritarian solution? That’s a bit over the top isn’t it, are you sure?

    Bruce 73

    First up, I don’t believe in neoclassical static efficiency either, economies are dynamic, and unstable.

    As for some monopolies being transitory, well in my opinion that is simply not true. Certain markets (for want of a better word) lend themselves to monopoly, or oligopoly at best. When the government privatizes or sells infrastructure assets or social services it’s usually selling a monopoly. Many of these new markets require regulation or run on government handouts.

  86. Certain markets (for want of a better word) lend themselves to monopoly, or oligopoly at best.

    Such as?

  87. Ben, I’ve already given you two, however jsut off the top of my head, we can also add roads, elecricity networks,telecommunications infrastructure, water distribution and airports.

  88. Thanks for the examples sdfc,

    Now that you’ve made the claim that some markets lend themselves to monopoly and provided examples please provide reasons why you seem to think they lend themselves to monopoly. The burden of proof lies with your claim.

  89. If you’re a conservative then you think anybody that wants to change the status quo carries the burden of proof.

    If your a liberal (a real liberal) then you think anybody that wants to reduce freedom carries the burden of proof.

    If your a socialist then you think anybody that wants to be free must first prove themselves worthy. In practice they would just rather that every act requires prior permission.

    I fall into the liberal category however I recognise that not everybody does so I’m resigned to the fact that if I want conservatives and socialists to change I need to offer evidence. Tiresome but that’s life.

  90. There is also the academic burden of proof: necessitas probandi incumbit ei qui agit.

    This is where the burden of proof lies with someone making a claim. Since sdfc has made the claim, the burden of proof lies with sdfc.

  91. I think that monarchies also come from the ‘forbidden til approved’ background. That’s where I see the mainstream Australian tradition coming from – more postcolonial “the site of meaning is elsewhere”, which lends itself to passivity.

  92. 86 Andrew Reynolds says

    “Alice,
    How do you explain your apparent faith that the government is likely to be any better – any at all – at reigning in excess than the corporate sector is?”

    I see no signs the corporate sector is reigning in their excess. If they dont do it, the market may do it for them, or the “mob” (same thing).

    You may care to read that those who have lost their houses as a result of the credit crisis in the US are driving past the AIG executives houses on organised bus trips (past those very houses of the AIG bonus recipients from taxpayers money).

    As a result quite a few have given their bonuses back.

    In the face of this intrusion so close to his family and children and neighbours one disturbed executive complained that neighbours would be disturbed by this. Yet a neighbour stopped in front of his house to speak to the press to tell them how disgusting she found the bonuses paid. A number have resported to security guards around their houses because of the unwanted attention from media and demonstrators.

    Would you rather have the government fix it or the market Andrew or the mob?

    Take your pick. I like law and order myself and the corporate sector has chosen to thumb their noses at everyone else (shareholders, creditors, employees) whilst they essentially indulge in theft from what should be an insolvent organisation. If thats your idea of the market its a pretty inadequate response.

    There are a lot of pretty angry people out there about CEO salaries. The government will not ignore this one, when so many people are suffering the direct effects of too many CEOs poor management and outright gluttony.

    Silly question Andrew.

  93. Everyone who has commented on this post may want to check out Peter Boettke’s (the economist who wrote the encyclopedia article JQ is responding to) rejoinder. I’ve quoted it below:

    “I believe Mr. Quiggin makes some interpretative errors that some of the commentators have tried to point out — e.g., the thread on the subjectivity of utility and costs. The key passage in my original article is “filtered through the human mind” — that is true for resource availability and technological possibilities. These must be perceived to be acted upon. How they impinge on human choice is what matters for economics. “Purely subjective” as Quiggin uses that term would mean that wishing it so could make it so, and that is not true — e.g., if it was true we wouldn’t have a problem of economic calculation, nor would we have a problem of booms/busts generated by malcoordination. Which brings me to another point — I DO talk about the ATBC, it is embedded in the propositions about money and capital (and about prices). ATBC is just one application of a more general theory of coordination that comes out of the Austrians (and has its roots in Wicksell as well).

    So I guess I would argue that Quiggin misses that — as I believe he makes a mistake in analysis on the calculation point — public firms engage in parasitic pricing (a term used in Italian Public Finanace tradition) to engage in calculation. The impossibility claim is when the instituitons of property and prices are eliminated by definition as technically was demanded in the original aspirations of socialism. I would suggest that if my work is not clear, that Quiggin spend a few minutes reading Mises’s Bureaucracy, or even Gordon Tullock’s work on coordination problems in bureaucracies, or Dick Wagner’s recent book on Fiscal Sociology. But anyway despite the fact that Quiggin admits in his critique that public enterprises are “competing” with private enterprises in the market place, he doesn’t see how this undermines his critique of the calculation argument. At least Oskar Lange understood that point — which is why he suggested a statue to Mises’s be errected in the future hall of socialist planning. That his “market socialist” model missed the boat (as pointed out by Hayek, but also by Nutter and others — e.g., markets without property are a grand illusion) is another matter. Lange admitted that market competition and prices were essential to ensuring the rational allocation of resources in an economic system. Quiggin might want to read Hurwicz and the other mechanism design folk as well.

    Finally, these “blog” and “chat room” debates about Austrianism are often silly. This one by Quiggin isn’t, but it does have silly moments. The Austrian position on “theory”, “empirics” and “testing” is always presented in the least favorable light, rather than understood on its own terms and in its most sophisticated statements. The critique of mathematical representations of an economy with functions that are continuous, smooth and twice differentiable, is not unique to Austrians, but has a long tradition of highly skilled technical thinkers in the 20th and 21st century — from Kenneth Boulding’s review of Samuelson to modern work on complex adaptative systems. The critique of econometric “testing” as unambiguous is not limited to Austrians, but found in thinkers such as Duhem-Quinne thesis in philosophy of science, and practical econometricians such as Ed Leamer, Greg Mankiw (see his paper on Growth empirics in Brookings), and Deirdre McCloskey.

    Mises’s book was titled THEORY AND HISTORY. You do both as a social scientist. Who within the Austrian camp ever said you didn’t?! Look at my students and the work we do — applied microeconomics and applied political economy. I am not a macroeconomics person, but if I was you would see a ton of my students doing applied macroeconomics — in fact you see it with those who have worked in the field of development economics. Though I do follow the position that while there may be macroeconomic problems (inflation, unemployment, etc.) we can only understand them, and we certainly can only address them policy wise, through microeconomic analysis. Macro problems, micro solutions.”

  94. By the way, JQ thanks for taking the time to address Austrian economics, I appreciate it. I wasn’t expecting to agree with you, however merely engaging with ideas outside the mainstream framework puts you in a class above 95% of Australian economists, who are so intellectually shallow they probably think “Austrian economics” is about the economics of the country of Austria!

    As to your last point about Austrian economists being ideological: if you read Epistemological Problems of Economics (by Mises), The Counter-Revolution of Science (by Hayek) and Man, Economy and State (by Rothbard), I think you would understand that many Austrian economists view the mainstream as being ideological – in the sense that they use numbers to conceal value judgments. Often, Keynesians don’t even understand the limitations of the aggregates that they deploy (as is obvious in the debate over whether World War II “got” America out of the Great Depression).

  95. Andrew at 86 says

    “As part of your answer please incorporate excess and deaths due to war.”

    and Sean at 85 says

    “I want your definition of it”. (Sean wants my definition for the word “common good”.) “I understand what it is but what is your view of the common good – what does it mean? How does it come about?”

    What is this??? – do I get any pay for taking instructions from you two?

    There was an elephant at Taronga Park Zoo in the 1930s. Her name was Jesse. She carried children around on her back for rides. If you two dont mind, please dont mistake me for Jesse. In exchange I wont mistake you for Jesse, for both having such thick hides.

  96. Alice – I would like to hear your definition because you refuse to argue using facts but rather make wild assertions. Such as that I am a fundamentalist libertarian-type person.

    Note that I wrote (#83) a long reply to your post and you ignore it. There is very little logic in what you are talking about so I thought that instead of discussing things with you; finding your personal definitions would be able to decipher why you go to extremes in debate.

  97. Sean G #102

    Isnt it your view I have individual “freedom of choice” .

    Then Ill take it in terms of who I respond to and how.

  98. Oh and Sean – I dont go to extremes. I believe in the public sector and the private sector. I dont believe in people who suggest an all or nothing approach to the management of economic policy and I dont like extremism (I dont subscribe to ideology for ideology sake) I dont beleive that private markets are the sole creators of wealth. I dont beleive everything boils down to an emphasis on “individuals being free to choose”. I dont beleive individualism should be the sole focus. We have a public sector (and a legal framework) to prevent market failure. As we speak there are republican senators in the U.S who are outraged by the payments to AIG executives from public bailout monies. So am I. This is clearly morally wrong and is evidence that CEO self reward and market systems of remuneration have failed us utterly. They have had almost perfect market freedoms over their salary processes and have abused it. Yet some remain persistently unwilling to see the flaws and weaknesses of the unregulated market model.

    Sean you have seen the waste in government. I do not deny that there can be waste in government but you would deny the government an existence to a greater extent than I would deny the market a place (and indeed I do not – I object to market abuses and market failures, not the market itself as you may well object to government abuses and not the government itself).

    If you see any place for the government, then you must see a need for public actions toward the common good and you are well aware of the meaning of the word.

    So what role do you see for the government Sean?

    (unless you want to exercise your freedom of choice not to answer my question of course).

  99. Ben, its funny how a comment challenging the view that governments are basically good for nothing parasites all of a sudden bears the burden of proof. The original proposition however bears no such burden. The rules of the exchange appear to be heavily weighted to one side.

    Lets start with the health system, that there is only limit scope for genuine competition in health is fairly self evident. The private hospital sector runs largely on public money.

    If there is true competition in public transport in any city anywhere I would be very happy to follow up the lead. This in fact goes for any of my examples. Privately run public transport services in Australia run largely on public money.

    Cable networks? I really can’t see how else they can be run. Even if we did get competition are we to have multiple networks? That strikes me as over-investment.

    You may say wireless, but I think this also eventually runs into the same problem, its called economies of scale.

    Water distribution, same problem.

    How about roads, are we to build multiple roads along the most efficient routes in a city? Sure you may say well they have a choice and go the long way, but if they choose to take the most direct and efficient route they are forced to deal with a monopoly. You could almost call that coercion.

    Airports – need I say more.

  100. Lets start with the health system, that there is only limit scope for genuine competition in health is fairly self evident.

    So you think the local GP doesn’t compete for clients by trying to have a nice office, convienient operating hours and friendly service?

  101. If there is true competition in public transport in any city anywhere I would be very happy to follow up the lead.

    The taxi industry seems to entail competition. And it does so in spite of barrier to entry costs of around $400,000 just in the government imposed vehicle license fee. And in spite of blanket price regulation. And of course in Sydney we had private buses until routes were regulated and then the services were ultimately bought out under compulsory government acquisition. And when it comes to intra city public transport all the airlines in Australia are privately owned and competitive.

    Japan privatised it’s urban railways back in the 1980s. Apparently they now have some of the best commuter rail services in the world.

  102. Alice @ 104 –

    My view on the economic role of Government is to create the right structure and framework to allow the private sector and the marketplace to operate as efficiently and productively as possible.

    This requires high amounts of physical and social capital – transport and energy infrastructure; a good education system that is not based on socioeconomic background; the rule of law; maintenance of public spaces to improve our quality of life.

    Government must provide a light-touch regulation focusing on areas that matter and enforcing high standards of behaviour.

    Not very in depth but it is a broad view on the role of the government. Do you require any more info?

  103. Terje,
    Don’t forget London up to the point where it was all nationalised. Same applied for many cities around the world – public transport was started by private companies and then it was nationalised.

  104. TerjeP

    “The taxi industry seems to entail competition. And it does so in spite of barrier to entry costs of around $400,000 just in the government imposed vehicle license fee”.

    Re your suggestion on taxi de-regulation – they tried that in the Northern Territory. It churned, and it churned as every layabout from Alice Springs North went off to NT with vehicle to be a taxi driver…rides from hell, drunken drivers, assaults in taxis….flood of angry customer complaints didnt stop. Sufficient to reverse it – a dismal failure.

  105. Your proposition that Austrian economics is a crude form of reductionism is false and misleading. Your attempting with your simplistic reductionist argument to undermine gentelman such as Mises, Hayek, Schrumpter, Menger and Smith whose wisdom and ideas have taken economics from its simplistic classical Newtonian form to something closer to a unified theory of economics.

    “Austrian economics adopts a humanistic perspective on the world. It is the socialist / marxist principles that are fundamentally reductive in its understanding of human action, displacing the human subject from the center of its concerns and turning instead to vast, impersonal forces to explain historical and social pattern.Hence socialist /communist ideas are reductionist – trying to understand higher more complex phenomena in terms of alower or less complex phenomena, it loses sight of what is fundamentally distinctive about human action.”

    “Bruce Littleboy Says:
    March 20th, 2009 at 1:45 pm
    Sdfc 70

    You seem to think that there may be a rational way to break into the Austrian mindset. They argue, with some plausibility, that markets promote competition; monopolies are transitory — technological artificacts– unless governments protect them from new entrants and technologies.

    “Optimal” suggests “efficient”, but they reject static neoclassical “efficiency” based on perfect competition in favour of the dynamic efficiency resulting from creative destruction.”

    Bruce raises an important point about the Austrians, It is difficult freeze the Austrians into a corner, as the view of there world is not classical Newtonian in nature.

    I will quote Paul Cantor here:

    http://mises.org/pdf/asc/2002/asc8-cantor.pdf

    “Austrian School respects the heterogeneity of phenomena and hence of a variety of methods of studying them. The Austrians do not accept the idea of a master science, one method of knowing that provides the key to understanding all phenomena. Far from being reductionist,
    Austrian economics refuses to study the human in terms of the non-human.”

    “The Austrian School views economics as the realm of freedom; indeed it regards economic behavior and above all the central act of choice as the defining manifestation of human freedom. Austrian economics is the very opposite of a deterministic doctrine. In addition to resting on the axiom of human freedom of choice, it stresses the role of chance and contingency in human affairs.”

    The precise reason I discovered economics, had a lot to do with the ubiquitous offering Austrian economic thought brings to the table of life. It reminds me of a book I read years ago “Zen and the Art of Motorcycle Maintenance” by Robert Prisig, the primary message I took away from this book was that no set of instructions was ever a watertight guarantee of providing a practical solution to a problem, as Robert discovered whilst trying unsuccesfully to mend his bike.

    The Socialist mindset reminds me of the Quantum Zeno effect (QZE) or Zeno’s arrow paradox

    http://en.wikipedia.org/wiki/Quantum_Zeno_effect

    The QZE is reductionist in nature. It can be likened to Keynesian economic thought. Keynesian policies are currently being applied in many parts of the world. They are deterministic in nature, only address immediate consequences and deliberatley neglect the long term consequence of short sighted reductionist policies. In fact Kenyenesian eonomics is the perfect tool for the state, its short term populist solution tends to make the future consequences of its actions forgotten.

    Icono Austrian economics is far from as simplistic as you have labelled it. The fact you see it as reductionist implies you have as yet not grasped the full extent of its offering.

    Jim Birch @67

    Your views are flawed. I no it is attractive to put us all in separate baskets and put labels on us to explain your world. But it is not a realistic proposition. It is awfully reductionist don’t you think.

  106. Sukrit. Thanks for drawing my attention to this: it wasn’t where I looked for it. My response to the response.

    On the subjective nature of costs, it seems that Boettke’s claim is much weaker than it appeared to me, and much closer to the view that Don Arthur imputes. If so, I don’t disagree, but I also don’t see anything distinctively Austrian about it.

    On #6, again, the claim as explained seems much weaker than as originally stated. It now looks as if all that is being said is that a perfectly socialist economy will not function because of the absence of the price information generated by property rights, but that a mixed economy can do fine, since the public sector can use price information generated by the private sector. Conversely, as I note, the private sector depends heavily on public goods, including information generated in the public sector. So, a mixed economy looks pretty good here.

    Finally, I agree that some version of ABCT is implicit in #10, and I will come back to that.

    On mathematical theory and econometrics, there seems to be a lot of disagreement within the Austrian school. My view is that, while a fair degree of scepticism is appropriate, it is a mistake to reject these methods outright.

    This paper by “New Austrians” seems to put the case pretty well

    http://www.mercatus.org/uploadedFiles/Mercatus/Publications/An%20Appeal%20from%20New%20to%20Old%20and%20Middle-Aged%20Austrian.pdf

    Feel free to repost this over at the Austrian blog.

  107. Bruce – you state the esteemed of the Austraian view “They argue, with some plausibility, that markets promote competition; monopolies are transitory”

    If Monopolies are so transitory why do we still have the excessively large pharmas, M’soft and numerous others and why is AIG too big to fail? The CEOS at the top these mountains like to flex their political muscles and keep their monopolies intact by exerting pressure on governments to protect them (whether through less regulation or whether through taxpayer subsidies). Transitory – hardly. Efficient – hardly. AIG, Merrill Lynch and whole lot of others may be transpiring right now but they are showing strong resistance to the idea of being transitory.

  108. Alice @116

    The markets Austrians argue for don’t currently exist. Thus comments like “AIG is to big to fail” are possible scenarios.

  109. 118# The markets Austraians argue for Ubiquity will never exist because it is an extreme view and extremes rarely work. Economists of all people should understand this (and the concept of equilibrium – it should also apply to economic policy decisions). I dont think I am alone in thinking this, but there now appears to be a backlash against policy direction that has swung unhealthily too far towards along the continuum towards the Austrian view…
    I am pleased to see their is now a Bill that Obama has drawn up to impose a 90% tax surcharge on bonuses paid to executives at firms who have received 5 bill or more of bailout monies, for those executives who earn in excess of 250,000 (U.S.). Id like to see this imposed on all corporations, not just firms who have received bailout monies (and extend it to their usual remuneration – anything in excess of 250K U.S. is taxable at 90%. The use of off shore tax havens to launder taxable income into tax free income should be made an incarcerable offence).

    It needs to be done. The plunder has been obscene.

  110. “Proposition 6: Private property in the means of production is a necessary condition for rational economic calculation.

    Obviously false, unless the term ‘rational’ is stretched so as to make the claim meaningless. Publicly owned enterprises have operated successfully for decades, often in competition with private firms. There’s a case to be made that, on balance, private ownership yields better performance, but even if you accept this case, this does not sustain the claim above.”

    Well, I think that you need to think a little more when you respond to this king of claim.
    First: The Austrians argue that socialism is irrational because there is no tendency for the means and ends structure with confront the central planner to be discovered. What this means is that without a social system based on private property we cannot have any systematic tendency towards the discovery of the structure of the problem with the central planner (or any planner) is confronted with. In the market there are millions of plans, each one of them is made based on a means and ends structure as perceived by each individual with is very small compared to the total “means and ends structure of society”. Each agent only needs to know his local data and anticipate the actions of other agents directly relevant to the completion of his action plan. The “total plan structure” of the economic system (made of millions of coordinated individual plans) becomes similar to the plan elaborated by an omniscient dictator.

    However, since human beings have a limited capacity to perceive the structure of the problem with they are confronted, a system were the knowledge of millions of individual minds are mobilized is needed for the existence of rational economic planning. Now, if you assume equilibrium you are assuming that this knowledge problem with confronts every planning being is solved instantaneously, so the argument is essentially that without economic freedom no systematic tendency towards equilibrium can occur in the economic system.

    Equilibrating tendencies exist in the market because the discrepancies in the price system permit the utilization of discoveries made by any agent participating in the market process. Or to put in other terms, it there is plan discoordination, then any agent can profit by discovering and coordinating these plans. With implies that the market utilizes the dispersed knowledge in the system in its totality. In central planning the central planner only utilizes his individual knowledge.

    State enterprises are inserted in the market process and do not suffer from the type of problems related to socialism.

  111. Rafael #120 Equilibriating tendencies and disequilibriating tendencies exist in the market or havent you noticed noticed lately? Unfortunately market abuse or abuse of market power tends to “disequilibriate”. Abuse of market power exists only because some have the wherewithall, the freedom and the power to choose to ignore the market or the price or demand (price control) – thus the Austrian design would appear to be fatally flawed – in that the implied freedoms of the market work to eventually concentrate power, permit greater, not lesser market power, and unravel the equilibriating tendencies of the Austrian model market. This is not new – Smith noticed the tendency for the growth of monopolies over time, so did Marx.
    There is also as much hype surrounding the socialist view as there is surrounding the Austrian view or the communist view. They all have hype or are hype and none on its own a worthy solution. What is needed is a micro approach to macro policy management.

  112. “With a handful of dogmatic new classicals, all economists agree that money is non-neutral. And with a similar handful of exceptions, all economists agree that inflation is undesirable (if sometimes unavoidable)”

    Well, it is true that everybody knows that money is non neutral. What nobody seems to know is that there is no scientific theory of how money exists. Where is the chapter on money on my micro textbook? There is none. The answer to the absence of money in rational choice theory is simple: money cannot exist in equilibrium, and since equilibrium plans are represented in mathematical economics as the solution to the maximization problem with the agent confront itself, then rational maximizing agents do not utilize money. Note that money neutrality is equivalent to the inexistence of money. The new classicals are only the most rigorous of the mathematical economists and have taken the traditional neoclassical economics to the full logical implications of defining economics as the science of scarce means and unlimited ends. To most economists of the Austrian school the traditional neoclassical theory is a special case of the Austrian theory of the market process.

    In Austrian economics money exists because of disequilibrium awareness. With means that since people become aware that they make spontaneous discoveries (they become aware that they do not know the means and ends structure with they are confronted and they become aware that, with the passage of time, they will discover opportunities to make better action plans), then they will demand the means necessary to explore these discoveries. Money is demanded because people expect it to be liquid. Since money does not have any value in itself, only as a means of exchange, monetary emission generates real effects because money is valued and since the cost of emitting money is zero, then in the short run people start believing that they are richer than they really are. Money them can disconnect (in the short run) the expectations of economic actors from the underlying reality of the market. In the long run money tends to be neutral because of the equilibrating tendencies of the market process.

    The process of disconnecting the agents from economic reality in the short run to connect in the long run is explained by the ABCT.

  113. Rafaal – my response to PB at #114 seems to apply also to your point @120

    @122. The fact that there is no chapter on money (I assume that you mean “money in GE” or similar, since most micro texts do have a chapter on money) in your micro textbook does not imply that there is no economic theory of how money exists or how its existence affects general equilibrium. You might try Google scholar before making such assertions.

    A combination of sweeping assertions about the superiority of school X on topic Y with obvious ignorance about mainstream work on the same topic is, unfortunately, a characteristic weakness of heterodoxy. I remember reading an econophysicist announcing triumphantly that, contrary to the foolish claims of mainstream economists that stock market prices can be predicted, they actually follow a random walk.

  114. 122# Ahh JQ. Stock market prices can be predicted – oh yes they follow a random walk (like “a drunk in a paddock” as one of my favourite lecturers explained it to me….).

  115. I should get a bit more serious here, much as it is nice to tweak ‘market lovers’ noses.

    When you don’t have reasonably accurate models, which are built on clear understandings (at least in the stochastic sense) of actions of components. Then you have to resort to (what I call at least) ‘1st order modelling’.

    That is, a top down model based on empirical history, superior trend analysis basically. The limitations are obvious, you have limited analytic power (ie it explains what happens, not why), and it has poor (or non-existent) predictive power, because the future never quite follows the past, it sort of resonates.

    If you do more research and you have the data then you might find 2nd order effects, that is components of the overall system you are analysing (basically correlations of sub-component). This give better analytic power and, sometimes better predictive power.

    This is basically the only options in economics as we do not have:
    (1) A good model of individual economic behaviour (though there is some great progress here).
    (2) A good model of the firm as JQ noted, though this is strongly linked to small group behaviour as this is the dominant effect on decision making in medium/large organisations. Small group research has barely made progress since the 1st work decades ago.
    (3) Large group behaviour. We have virtually nothing but rough guesses of mob behaviour. I was reminded of this today, watching a girl walk down the street with a bottle of water in her hand. This mob movement came out of nowhere and has made billions for some people out of frankly totally irrational and economically idiotic individual behaviour. Not long a ago the only people carrying water bottles were hikers … and we use tap or river water.

    Therefore, we have to concentrate on top down, observationally based, data driven 1st and 2nd order models, hoping to find patterns and relationships that will give us some analytic and predictive power (this is the basis of Operations Research).

    Used carefully these can be incredibly useful tools.

    Take a practical example, Minsky’s Instability Model. This is 1st (perhaps 2nd order) model. it offers some analytic power (too much debt creates asset bubbles, plus reduction in loan standards happen, with mob behaviour driving it).

    But the model tells us nothing about:
    (1) When this might happen.
    (2) What will trigger it.
    (3) How it continues to grow
    (4) What is the exact level that it will all fall over.
    (5) etc.

    So you can’t take this model and, plug in some observations, some assumptions and (say) predict that if current trends continue then in 15 years +- 3 years a debt deflation event will start.

    Importantly this does not mean it cannot be used as a management tool. Because we know this is a danger, then we can say “we will watch for this”. Measures of debt growth and quality could be drawn up and monitored, if things started to grow too fast then measures could be put in place to slow it down.

    Naturally this requires strongly empirical and rational minds. If you believe (that just about everyone did, including the RBA, Govt, etc) that rapidly rising house prices is a ‘good’ thing, then this is a blinkering ideology. It blinds you to risks and generates cognitive dissonance (that great enemy of rationality .. our own brain’s wiring).

    So empirical analysis and model building is going to be the key, for the foreseeable future, of successful economics. And, once the ideological blinkers are torn away it will be an incredibly fruitful and useful time.

  116. Most of the difficulties expressed here result from the confusion of discrete physical objects, individuals, with abstractions.

    In the Austrian POV only individuals think, and therefore act.

    Anything else are unthinking abstractions.

  117. Louis #126

    Then that is an abstraction, because individuals comprise groups and groups make joint and collective decisions and make collective decisions all the time, every day.

    This Austrian POV really is entirely a bit other worldly or new agey for me – but do wake me up and tell me when the age of enlightened individualism arrives.

    Ill try to use it work out which individual is going to decide to repair my back fence and which individual is going to pay for it.

  118. And that is something that is lacking today.

    Example:

    Living in Glasgow in a tennement block. There was a simple, low variety rule (ref Stafford Beer) that everyone followed.

    Wash the steps down from your level to the next (used to be one of my pocket money jobs). Each flat on a level (usually 3) took turns.

    Because of that the steps were always clean, with minimal work.

    Step forward 30 years. My old mum (80 year old no less), washing the steps every week, because no one else did. All the new people that had come in and the old ones died/left, never cleaned the steps. Who likes walking through filth?

    Now we actually had ‘enlightened individualism’ then. We were all, in my personal case fierce, individuals, but it was logical to do what we did, the benefit outweighed the small amount of work/cost.

    Are humans stupider now than then? Just ask my old mum.

  119. Alice: “Stock market prices can be predicted – oh yes they follow a random walk (like “a drunk in a paddock” as one of my favourite lecturers explained it to me….).”

    Not actually the case. It follows a chaotic series. A random walk can be estimated through gaussian statistics, but stock markets .. don’t.

    This is the great fallacy of the Schoeles-Black (which is based on these assumptions), nice maths … completely wrong assumptions.

    The practical effect is that ‘extreme points’ are FAR more probable than Guassian theory allows.

    So all those people predicting 1:10,000 events were actualy dealing with 1:100 (or less) events.

    Interesting ref: Richard Feynmen, the great physicist, look up his stuff on the Space Shuttle Challenger disaster.

  120. #129 “It follows a chaotic series”

    That’s a strong call Oldskeptic – what method would you use to tell that the market was chaotic?

  121. Oldskeptic – the Scholes-Black model is for option pricing. But your point is correct. The Random Walk hypothesis assumes that past information is immaterial. This is wrong.

    I think you might be interested in a book titled “The (Mis)behvaiour of Markets” by Benoit Mandelbrot.

  122. One thing I would like to correct. The model is named “Black Scholes” not the other way around.

  123. Dear me, Oldskeptic – I would have thought that someone capable of a comment like #125 would have known a bit more about behaviour of markets than you have subsequently and previously displayed.
    To start, I would partially agree with you when you said

    So empirical analysis and model building is going to be the key, for the foreseeable future, of successful economics. And, once the ideological blinkers are torn away it will be an incredibly fruitful and useful time.

    Problem is, of course, determining where the ideological blinkers are. As you have shown in your error-filled attempt at “disproving” the “Schoals-Black” model the blinkers may not be on those that believe that the freedom of the individual to transact should be limited as little as possible.
    For example, time and again the random walk you disparage has stood up to tests of its correctness. The fact they do not obey a simple Gaussian normal distribution is well known – but then, little in nature does. The fact that it is not a Gaussian random walk does not falsify the whole concept of a random walk any more than the failure of a particular politician to be corrupt means that the whole lot are incorruptible.
    Mandlebrot’s work (as SeanG has pointed out) shows clearly that a Lévy distribution random walk does work, with a D of 1.7 being commonly applicable – giving the fat tails that seem to cause you to disbelieve the whole thing.
    If you need a version of the Mandlebrot paper that is written for a popular audience (and will not be too long), try Casti’s 1997 piece in the New Scientist (hotbed of Austrian thought there) no. 2078.
    It should be simple enough to understand and you may be able to get it from your local library.

  124. My argument was that it, and the many variants of course, were widely used. As was the cousin, VAR.

    Thus a massive underestimation of risk was taken by many:

    Banks, investment and trading.
    Insurance companies, general and life.
    Hedge funds.
    Anyone else you can think of.

    Partially, these ‘tools’ were used as psychological props to justify behaviour that was short term profitable, but long term disasterously risky.

    You are quite right by the way, Mandlebrot was perfectly right, trouble was no one listened, (ditto, Minsky). But being a skeptic I wanted to prove it for myself, with hard numbers, it took about an hour to disprove one of the key assumptions of SB … on a spreadsheet. Another key assumption is so blidingly wrong that it remains amazing why anyone could ever believe it.

    If you plug in some empirical distributions the difference in VAR calcs of extreme events is massive. 5 std deviation events actually look more like 1.5, or less, this is orders of magnitude of difference.

    But no one wanted to listen, one reason being because that to do real calcs would mean needing huge amounts of capital for (say) Tier 1 and missing out on all those ‘investments’ and deals that made everyone so much money …. for a while.

    I should add, it is not as simple as just changing a statistical distribution and then everything is ok again, you have to come up with a completely different model entirely.

  125. “Rafaal – my response to PB at #114 seems to apply also to your point @120
    @122. The fact that there is no chapter on money (I assume that you mean “money in GE” or similar, since most micro texts do have a chapter on money) in your micro textbook does not imply that there is no economic theory of how money exists or how its existence affects general equilibrium. You might try Google scholar before making such assertions.”

    1- Well, my Mas-Colell does not have any chapter on money.

    2- What I meant was that there isn’t any satisfactory theory of money in mathematical economics. I admit that I was a bit aggressive. Of course there are models that try to model money, but I think that these models are clearly unsatisfactory. As I explained why I think that models based on maximization from means and ends frameworks cannot model money by their nature.

    “A combination of sweeping assertions about the superiority of school X on topic Y with obvious ignorance about mainstream work on the same topic is, unfortunately, a characteristic weakness of heterodoxy. I remember reading an econophysicist announcing triumphantly that, contrary to the foolish claims of mainstream economists that stock market prices can be predicted, they actually follow a random walk.”

    Well, there are thousands of articles about the topic that is being discussed (and there are many articles about any topic that can be discussed in economic theory), but them nobody can speak about it, since it is impossible to read them all? You showed a very superficial understanding of Austrian economics in your post, them, by your own logic, I would have to tell you to read more about Mises, Hayek and Kirzner before criticizing them.

    Not only heterodox economists show obvious ignorance about mainstream theories, but mainstream economists (well, I think that applies to all economists) show obvious ignorance about any theory outside their specialization.

  126. “Conversely, as I note, the private sector depends heavily on public goods, including information generated in the public sector. So, a mixed economy looks pretty good here.”

    Well, the point is that mixed economies function with less efficiency than free markets for the same reason that socialism does not work at all. The difference between mixed economies, free markets and socialism is only a difference in the degree of protection and respect for private property rights and contracts.

  127. 136 # Rafael
    How do you measure efficiency?? – is that when execs can remunerate themselves more and there are no regulations to stop them. Is is when there isnt a build up of toxic assets on banks balance sheets because the toxic assets were overproduced? We have been trying “less regulation” for 30 years and under your logic the market should be more efficient? If you call our markets now more efficient, then its only an efficiency for some judging by the way they are throwing labour on to the streets and then just watch what people vote for….it wont be more “efficiency.”
    Thats the trouble with these oh so pretty mathematical models that deliver “efficiency”. Efficiency means nothing and is highly over rated if the unemployment rate is insidiously rising. The underlying assumptions that people will be happy with that perfect efficiency in such circumstances, are all wrong…and short of dumping or disposing of the surplus labour into chain gangs so they dont object to the outcomes of the perfect mathematical model in the perfect world, I see these silly models and their proponents getting their marching orders from voters. You can fool some of the people etc
    Thats the real world.

  128. “Well, there are thousands of articles about the topic that is being discussed (and there are many articles about any topic that can be discussed in economic theory), but them nobody can speak about it, since it is impossible to read them all?”

    No, but you pretty much disqualify yourself from the start by saying there are no such articles, then saying you mean none that you like. If you want to make the claim that the mainstream literature on this subject is useless, you ought to be able to nominate what you regard as the leading articles and point out their limitations.

    As regards your suggestion that I haven’t read Hayek, Mises and Kirzner, what basis do you have for this claim?

    I haven’t given them the complete, close and multiple readings appropriate for an Austrian true believer, but I’m confident that I am much more familiar with these writers than most Austrians are with (for example) the literature on money in general equilibrium.

  129. Plus “what do you mean by efficiency” is a very profound quesion.

    If you take a complex system, such as an economy or a body, then the key issue is the total efficiency of the overall system. Some components may be, on a reductionist basis, less efficient than they could be, but that is an important mechanism for maintaining total system efficiency.

    Take a simple example, the electricity system. It may be efficient for that industry to work as close to failure as possible, with minimal redundancy of capacity, spare parts, etc. But this may not be efficient for the total economy.

    Simply put, they may make a mistake in their calculations or a ‘black swan’ event happens, then blackout, with all the attendent costs for the whole economy. The recent example was Melbourne, we were within a hairs breadth of losing power to the majority of the city, several times, for possibly an extended time.

    In this case, a less efficient sub-system, but with greater redundancy benefits the whole economy.

    A trivial example is brakes on your car. Now the manufacturer may decide to shave the size of these. Cheaper to make, less weight. Normally this will make the car more efficient. Until a truck swerves on front of you at 100kph, then you are efficiently dead.

    Take the human brain, this consumes 20% of your energy. Now this is clearly not efficient. What we need is too enginerr a brain that thinks a lot less and only consumes, say, 5% of your energy …. whoops this has already happened .. they are called neo-liberals.

  130. Exactly Oldskeptic. That is my point – to ruthlessly search for efficiency in every firm, market, submarket, or government department is quite capable of generating overall inefficiecies.
    (I wouldnt mind if CEOs had not been appropriating the surplus profits gained by the great efficiency hunt – and had not been exceptionally unentrepreneurial with those surplus profits).

    Last paragraph of yours above – naughty Oldskeptic but I agree. So busy counting piffling sub departments for signs of inefficiency, which includes the inefficiency of labour, they dont realise they are completely lost in small rooms and corridors the middle of a metropolis where the unemployed are angry and walking around the streets. They just dont get the bigger picture.

    An interesting study – I wonder how many unemployed financial sector workers, and other newly unemployed people will keep subscribing to the dream of a perfect market with no regulation, where CEOS can reward themselves and their mates seemingly unlimited amounts? I wonder how many of those unemployed will be changing their votes next time?

  131. Oldskeptic 134 –

    I agree that the Black Scholes and VaR models are not perfect. They are, however, but bases for more complex models that banks, insurance companies and hedge funds use to value products or to test potential losses.

    An example would be the use of Bayesian or binomial methods. The extensive use of stress tests are also examples of applying different methods of measuring impacts on a firm.

    The problem is what you referred to as the desire not to hold Tier 1 capital. This acts as a dead weight for many firms. However it goes beyond Tier 1 or 2 capital but to how firms are funded, the government regulations surrounding debt origination and the monitoring by agencies of “systemic” market risk.

    Alice 140 – there are not that many people who work in the financial sector who believe in the concept of a perfect market. There are many who see government regulations that achieve nothing or make problems worse.

  132. Alice @118

    Of course I am realist and accept the fact that Austrian economics is not likely to be implemented in its extreme form and I am not likely to defend an extreme version of it. But I would object to unsubstantiated ridicule of its ideas.

    In regard to AIG for example, and I do not claim to be an expert on economic policy,the current economic commanders in hindsight have recognised that AIG bailout was taken advantage of in regard to executive bonuses and have introduced a new tax to circumvent those bonuses.

    If you had applied Austrian principles to begin with, the benefit of Austrian foresight would have avoided executive bonuses being paid out of public funds and anothet tax law.

  133. SeanG: Trouble is I’ve never seen one that is right!

    Yep. Seen a lot of, for example DFA models (even created a few myself). With the exception of my own, never came across one that was even half right. Many are biased. Usually on very shakey assumptions and extremely dubious statistics.

    Not that my own were great shakes, usually really crude. They had several advantages though, the maths were right, the assumptions were simple and tested and I could quantify the fuzziness. Based on actual data and real empirical distributions (or carefully tested and verified theoretical ones). Plus I always did the basic test “forecast the past”.

    What I find these days is that a lot of people make basic mistakes, disobeying the first basic rule of model building:

    “A simple model this is right, will always outperform a compex one that is wrong”. There is even a famous WW2 Operations Research story that emphasises this, taught to all newbies.

    Just like the use of GLM’s (and their ilk), have I seen some stunning mistakes in this area, mostly because people don’t know the underlying maths and just use a program, without examining the data to see if it justifies the underlying assumptions or not (which they usually don’t even know). If one more person quotes the CLT to me, without them even having a clue what it realy means and the, often severe, limitations of it, I’ll scream (after I dismember them). Let alone misunderstadings of independence and correlations.

    Blew a job a while back when I told them stright to their face “that all current credit models are wrong”. I must ring them up someday and say “I told you so”.

    I was lucky, I came up in the old days, when if you wanted a GLM, you wrote it yourself. So you understood it properly.

    Talib was right, and all the models in the world failed. Worse than that, they didn’t even give last minute warnings that everything was going belly up (which means that a lot of monitoring systems were even worse than their models).

  134. SeanG: the idea that Tier 1 (etc) is a dead weight displays exactly the idiotic misunderstading of reserves that has got us into this mess (not you personaly of course).

    Oh I know the attitude, met some people who, used to, express this. I find it breathtaking in its ignorance of how things work.

    My feeling that anyone in senior position in (say) a bank who expressed this should be immediately fired on the basis of terminal incompetence. Plus their boss for hiring such an idiot. And their boss for hiring someone who was so incompetent to hire … you get the picture.

  135. Oldskeptic – The problem with models is that they take on an assumption that we can diversify risk which turned out to be completely wrong when “diversified” products ended up with a correlation of 1.

    Nassim Taleb is right when he states (and restates) that we underestimate the chances of catastrophic incidents. That is part of the Knightian uncertainty that comes into it – which can only be handled by good judgement and experience.

    I think the financial markets lacked the experience. If you are working in capital markets and are 50 years old you would have experienced from the start of your working life severe recessions (1980-1982; 1991-1993), wild movements in equity and debt markets (’87, ’98 and ’00) as well as daily profits/losses. We do not have 50 year olds but people in their 20s who only experienced a bull market.

  136. Oldskeptic

    Could the computer be at fault for poor modelling – its one thing to be able to use one, another for the next generation to understand one (and the original in built faulty assumptions…)

    We think computers saved our lives and gained us efficiencies, but once a program is invested in, faulty assumptions may get passed on to the next generation of modellers, so has the ease of computer modelling stopped some people actually thinking….??

    Woulodnt surprise me at all. Did calculators stop high school kids doing long division in their heads? Yes, my elederly mother can do it in her head.

  137. Seab=n #145
    Let me tell you about a woman who experienced the great Depression. My grandmother referred to the seven years before 1929 as “the seven good years” of her entire married life and continued to do so for the rest of her life, with four young boys, an accountant husband and a housekeeper who helped with the boys. It all went (housekeeper and job) and he went selling door to door, despite qualifications. Took decades to recover but never ion front again. 1982, 1991 were not quite wild movements in equity. It took 14 years to 1942-43 to recover 1929 house prices in Sydney. 1982, 1991 no comparison. 2008 – 2009 could be on par with 1929. It has yet to play out. There are billions being poured in..

  138. “No, but you pretty much disqualify yourself from the start by saying there are no such articles, then saying you mean none that you like.”

    Well, I only thought that in the concept of economics as the science of rational utilization of means to achieve given ends, money cannot exist. In the mainstream articles about money that I have read, money is in the utility function (it cannot be more unsatisfactory than that), or it is only a numeraire, or it is demanded for future transactions because prices are expected to go down, that kind of sh*t. Some others have monetary theory without micro basis. None of them speaks about the money that we have in the real world, with exists because it is a mechanism that enables the utilization off the agent’s alertness.

    “As regards your suggestion that I haven’t read Hayek, Mises and Kirzner, what basis do you have for this claim?”

    Only this post.

    “I haven’t given them the complete, close and multiple readings appropriate for an Austrian true believer, but I’m confident that I am much more familiar with these writers than most Austrians are with (for example) the literature on money in general equilibrium.”

    I don’t know how familiar the Austrians are, on average, with mainstream monetary theory, but I do know that they had to study mainstream monetary theory in graduate school. While you (in my limited source of information in this post) has show that your understanding of austrian economics is less satisfactory than the understanding that any undergraduate student from a small college in Brazil that reads the Austrians for fun that I know has.

  139. Alice

    “How do you measure efficiency??”

    Efficiency is determined by the “strength” of the equilibrating forces (dynamic efficiency) and by the incentives that would exist in equilibrium iff the incentive structure remains the same as in the present (static efficiency).

  140. Alice computers are just a tool. Used properly they are wonderful at enabling analysis, model building, forecasting, etc.

    But they are just as good as the programs, which are just as good as the maths.

    What worries me is misuse of packages (statistical, etc). I first saw this trend in the late 70’s, with psychologists using SPSS (on a mainframe) and presenting work with no understading of the meaning of the stats. I had an argument with a PHD in Psychology about the meaningless of an R squared of 0.11. But this was dutifully used and presented.

    There also seems to be paucity of empirical work, assumption seems to the name of the game. Once overheard an argument between two people about the risk premium of shares over bonds. it went on and on. I went to my pc, pulled up some numbers and then went back to and told them it was about x% over the last 10 years. In other words pedagogy replaced solid empirical work.

    DFA’s are another example. The amount I’ve seen where the underlying statistical distributions are assumed and the mean and std deviations are assumed. Then these are used to make capital allocation decisions? Where’s the measurement?

  141. Oldskeptic – one of the senior academics (exec) at UTS is now stating unis must take some responsibility for the mess of the GFC because of the quality of what has been pouring out of economics schools…..and the basis of teaching ie emphasis on neoclassical models I presume..
    I agree.

  142. Thanks Alice, already got it through The Automatic Earth (a great site).

    Look there is a political element to everything, the neo-liberal/neo-classical/neo-conservative movement has always had, largely incoherent I might add, a ‘game plan’.

    I have not looked at neo-classical economics as an ‘economic’ discipline for decades now, rather I see it as an ‘intellectual cover’ for neo-liberal beliefs. This crossover happened in Friedman’s time, in fact he was one of the great offfenders in merging a political structure with an economic one, to the point where you really cannot seperate them (the neo-cons came later and added the military side).

    Which is why JQ, Steve Keen, Roubini, et al (many et al) simply could not get any traction within mainstream economics over the last few decades. They were fighting the wrong game.

    Et al played the technical game, the other side was playing politics (with no interest in technicalities or reality at all). You could present all the maths and data you wanted, but since you were fighting against a political ideology it had absolutely no effect at all. Might as well argue about improving agricultural output with Stalin for all the good it would do you.

  143. Oldskeptic,

    Economics and politics are invariably attached at the hip. Do you think Rudd’s conversion to social democracy came about because he read the works of someone like JK Galbraith?

    Economics is a theory, a “social science” and to presume that there are definitive answers to every question is begging for trouble.

  144. Oldskeptic #154

    you comment

    “I have not looked at neo-classical economics as an ‘economic’ discipline for decades now, rather I see it as an ‘intellectual cover’ for neo-liberal beliefs.”

    I agree. A bit of history Oldskeptic – the free marketeers want intervention when they need it and want regulation when it suits them but there continues to this day a concerted campaign of misinformation to ensure “free market ideology” continues as some sort of bona fide justification being a genuine economic theory ‘n all (and its a nonsense).

    Free market ideologies are actively promoted by Corporations when Corporations dont want government watching them (or interfering in their activities) and free markets are the reason proffered when they ask for Government protection and intervention when they need help (like now).

    Of course (the bailout) is proceeding – to help the “free market or free enterprise system.”

    I have to laugh – Friedman won the Nobel in 1976 for …”his demonstration of the complexity of stabilization policy”.

    Yet as Galbraith incisively noted (78 – two years after, nothing much has changed really since);

    “If you believe in the market, you dont allow such things.. (referring to the growth of oligoplies and monopolies or market power) to bother you; you deny that oligopoly makes any difference. This is the position of Professor Milton Friedman and his very distinguished communicants. And on occasion they produce statistics to show that concentration and oligopoly are not getting any worse.”

    “Quite a few liberal economists accept that concentration and oligopoly undermine the neoclassical market but hold that the trend will somehow, someday, be reversed. Their faith is also in the competitive market.”

    “Where, as occasionally happens, an oligopoly has difficulty maintaining prices it comes to the government for help in doing so. And our airlines have been fighting desperately to keep government price fixing of air fares as well as control over the granting of routes. They dont want any Freddy Lakers ..getting loose in the domestic market. Government regulation of fares and route allocations, they have been arguing, is an exceptionally advanced form of free enterprise.”

    Just what we are hearing now from AIG and others (and the car manufacturers).

    Some things dont change Oldskeptic. I dont like being taken for an idiot and I dont like seeing good economists, as you mention above, swimming against a tide of mud but it happens, it keeps on happening and its probably always happened.

    Corporations etc – toying with economic ideas courtesy of “expert economists” who deliver stats on standby (starting with the Chicago School – still keeping up the fine tradition).

    There are times when I wish a hole would open up in the ground and swallow the footsoldiers of the economics disinformation campaign (but then I realise they are probably just angling for a promotion in the Financial services firm they work for or a Treasury posting – God help us all -but actually, can economic policy get any worse? I doubt it. ).

  145. “Thankyou Rafael – but you missed the irony alert.”

    Well, I knew that you do not consider the concept of efficiency relevant. But I like to explain anyway.

  146. Alice,
    Most corporations hate the free market. They would much prefer to be protected from competition and showered with goodies from governments than to compete honestly and openly. Support for this kind of nonsense comes from across the political spectrum but much more strongly from the left. In opposing corporate welfare you become, if only for a brief moment, a free market economist.

  147. Alice:

    “I agree. A bit of history Oldskeptic – the free marketeers want intervention when they need it and want regulation when it suits them but there continues to this day a concerted campaign of misinformation to ensure “free market ideology” continues as some sort of bona fide justification being a genuine economic theory ‘n all (and its a nonsense).”

    Total nonsense – no free marketer wants interventionfor his self interest, but intervention to stop his competitors using the powers of the state to ruin his business so his competitors benefit.

    An intervening free marketer is an oxymoron.

  148. 158# Joseph
    I not only oppose the huge bailouts to AIG and the rest to save them (which as you note, may for a moment, make me a free marketeer) but after that I support as much regulation as it takes to hogtie them to home (which makes me an interventionist and an anti globalisationalist with regards to finance), to prevent at every turn these firms becoming global gigantors with tentacles in every nation’s money systems, cut them up into regional small banks with functional purpose and force the execs back down to local bank manager status (no more Brioni suits – just boring old pinstripes).

  149. Alice,
    You should expand your social circle to meet more bankers. They’re really not such bad people and don’t deserve much of the venom currently being spat at them.

  150. “Prices are numbers after all, and information is a mathematically precise concept.”

    There are more information than the prices alone in the markets. And therein lies the weakness of both neoclassical and keynesian economics, this refusal to accept that human behavior is not a mathematically precise concept.

    There are no equations that can perfectly reproduce human behavior, thus models need to rely on approximate equations. This makes both neoclassical and keynesian economics scientifically invalid at the starting block.

    For complex systems such as markets or the economy, models are sensitive to imperfect equations because the systems consist of a delicate balance of opposing forces, so a slight imbalance in their representation has big effects. That is why policy prescriptions always end up in failure or with worst unintended consequences.

    I do regret that you chose this Boetkke piece for your analysis though. A serious discussion of Austrian economics requires the reading of Hayek or Mises (I prefer Hayek). I provide excerpts from Hayek about mathematics to close on the subject:

    “…it is an erroneous belief, characteristic of bad mathematicians, that mathematics is essentially quantitative and that, therefore, to build on the great achievements of the founders of mathematical economics, men like Jevons, Walras and Pareto, one has to introduce quantitative data obtained by measurements. That was certainly not the intention of the founders of mathematical economics. They understood much better than their successors that algebraic mathematical formulae are the pre-eminent method for describing abstract patterns without assuming or possessing particular information about the specific magnitudes involved (…)

    The second point which I want to make is that a particular reason which in the physical sciences make measurements of concrete magnitudes the hallmark of scientific procedure for a very definite reason do not apply to the explanation of human action (…)”

    https://www.hillsdale.edu/news/imprimis/archive/issue.asp?year=1978&month=07

  151. As regards my choice of Boettke, I’m not in a position to arbitrate between Mises and Hayek, and I wanted to write about what (is taken to be) Austrian economics now, not in the first half of C20 when Mises and Hayek were active in economics. Most neoclassicals would argue that the mainstream has long since absorbed what was useful in the work done back then. The idea that there exists a distinct Austrian school depends on the claim that current Austrians are doing useful work.

    On your methodological points, Hayek is here praising mathematical economics at the expense of econometrics. You (like most Austrians) seem to be opposed to mathematical methods in general – certainly there is very little math in the Austrian publications I’ve seen.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

w

Connecting to %s