Daniel's Menger Blog

Miscellaneous General
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As I wrote elsewhere,

Thanks to Jeffrey Tucker’s generous offer, I’ve started live blogging Principles of Economics by Carl Menger. I have two posts on my blog NO FED, NO WAR, entitled Live Blogging Menger and Introduction by F.A. Hayek: Part 1. Please let me know what you think!

I have a second post for my live blog entitled The mathematical marginalists, which is pasted below.

I hope it’s okay if I continue posting updates to this thread, as I’m much more interested in feedback for my blog from this community than from random people who happen to stumble upon it.

This post continues my exploration of Friedrich Hayek’s introduction to Principles of Economics by Carl Menger.

It has been curious phenomenon in the history of thought that a key discovery will often be simultaneously and independently made by two thinkers. In this way was calculus developed along different lines by Newton and Leibniz, and the principles of natural selection in evolution discovered by both Darwin and Wallace. Even stranger is the case of the “Marginal Revolution” in economics. The formulation of subjective marginal utility as the basis of value theory was independently discovered by three economists: Menger, William Stanley Jevons, and Léon Walras. Compounding the strangeness are the drastically different routes taken by Menger and his fellow marginalists to the same destination. Menger’s analysis, as will be discussed in future posts, was logico-philosophical and deductive. Like most of political and economic theory up to that time, he started from clear, almost self-evident insights, and reasoned out their implications. Jevons and Walras, on the other hand tried to make economics a mathematical science. Instead of carefully revealing the causal chains that lie behind economic phenomena, Jevons and Walras tried to reduce the behavior of markets to functional equations. This would ultimately prove a tragedy for the science. Had Menger swept the field alone , all economics might have developed as Austrian economics. Instead, Jevons’ and Walras’ admittedly pivotal roles in the Marginal Revolution set the stage for the profession’s fruitless obsession with mathematics (Rothbard calls it “quantiphrenia”) and the aping of physics (Hayek calls it “scientism”) that continues to this day. Ever since, economists have been dutifully mining data, pursuing the chimeric ambition of evaluating their precious equations. Why do economists continue down this path that has perpetually led them astray? I believe most of them cherish the exclusivity and mystique that mathematics lends to their profession.

A churlish mathematical economist might retort that Menger (and Austrians in general) simply aren’t good at or don’t care for math, and that their epistemological objections are just a fog to obscure their innumeracy. Regarding later Austrians, one need only point to Rothbard himself who held a degree in mathematics, and other quant-jocks like Robert Murphy to refute that point. In his introduction to the Principles, Hayek addressed Menger in particular regarding this question:

It is a curious fact that, so far as I am aware, he has nowhere commented on the value of mathematics as a tool of economic analysis. There is no reason to assume that he lacked either the technical equipment or the inclination. On the contrary, his interest in the natural sciences is beyond doubt, and a strong bias in favour of their methods is evident throughout his work. And the fact that his brothers, particularly Anton, are known to have been intensely interested in mathematics, and that his son Karl became a noted mathematician, may probably be taken as evidence of a definite mathematical strain in the family. But although he knew later not only the work of Jevons and Walras, but also that of his compatriots Auspitz and Lieben, he does not even refer to the mathematical method in any of his writings on methodology. Must we conclude that he felt rather sceptical about its usefulness?

In my next post, I’ll cover Hayek’s discussion of the life of Carl Menger.

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The Methodenstreit

When Menger’s Principles of Economics was published, its brilliance and tremendous insight was undeniable to most who read it. In Germany, however, it was subject to an academic blackout, conducted by Gustav von Schmoller, “who, from his throne at the University of Berlin, ruled the German academic world in the latter part of the 19th Century.”1 As mentioned in a previous post, the German intelligentsia at the time was extremely beholden to the state: and the University of Berlin was the nerve center for state apologia (scholars there called themselves the “intellectual bodyguard of the House of Hohenzollern”). Schmoller and his cronies were also hard-core anti-theory members of the Historical School (also mentioned previously). The following funny story exemplifies just how anti-theory Schmoller was:

At a conference in Geneva where [Vilfredo] Pareto was presenting a paper, Gustav von Schmoller was in the audience and kept noisily interrupting Pareto’s talk by shouting “There are no laws in economics!” The next day, when Pareto spotted Schmoller in the streets of Geneva. Pareto approached Schmoller and hid his face, pretending to be a beggar (which was not too difficult since Pareto was a shabby dresser). “Please, Sir,” Pareto said, “Can you tell me where I can find a restaurant where you can eat for nothing?” Schmoller replied, “My dear man, there are no such restaurants, but there is a place around the corner where you can have a good meal very cheaply.” “Ah,” said Pareto triumphantly, unveiling himself, “so there are laws in economics!”2

To such an avid foe of economic theory and and a disbeliever in economics laws, Menger, who so thoroughly established the former and brilliantly discovered the latter, must have seemed like the ultimate nemesis. But Schmoller didn’t deign to debate Menger. Being at the top of the heap, he had the luxury of attacking Menger by snubbing him…

The crowning offence from the Austrian point of view was given by Schmoller himself who, on the appearance of Menger’s pamphlet, took the probably unprecedented step of announcing in his journal that, although he had received a copy of the book for review, he was unable to review it because he had immediately returned it to the author

…and by blacklisting him and his students…

Schmoller, indeed, went so far as to declare publicly that members of the “abstract” school were unfit to fill a teaching position in a German university, and his influence was quite sufficient to make this equivalent to a complete exclusion of all adherents to Menger’s doctrines from academic positions in Germany.

Schmoller, for all his power and arrogance, could not stop the Marginal Revolution, as it swept his profession in spite of him. The real damage he did, however, was to preoccupy Menger in a methodological debate (famously known as the Methodenstreit) for almost the rest of his career. Menger wrote tract after tract defending his methodology. This seems a waste of his brilliance, when contemplating how much he might have accomplished had he been able to focus on further developing actual economic theory.

1The History of Economic Thought Web Site, http://cepa.newschool.edu/het/profiles/schmoller.htm 2Ibid.

3

That’s why we have Bohm-Bawerk [:)]

4

Indeed. [:)]

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The Principles of Principles

The Austrian economist who is thought to have brought the tradition to its apogee is Ludwig von Mises. Among other feats, he is the one who established its methodology on the firmest possible foundations. In his axiomatic-deductive formulation of praxeology, the study of human action achieves the degree of certainty of mathematics itself. One should not be surprised that most thinkers, immersed as they are in the dominant empiricism of these times, are highly skeptical of the grand claims of the praxeological project. While Austrians should persevere in the epistemological good fight when discussing fundamental questions, bringing up the notion of apodictic certainty in every economic discussion can be distracting and unprofitable.

Besides, one’s economic argument can be rigorous and irresistible without invoking apodictic certainty. Menger proved this by constructing in his Principles a work of nigh undeniable truth without the benefit of Mises’ epistemological Archimedean point. He did this by simply invoking principles like “all things are subject to the law of cause and effect”. He didn’t establish this proposition’s self-evidence. But who besides Pyrrhonist skeptics and interested parties will deny it? And if they do not deny it, and find that Menger’s deductive inferences from that principle are sound, then how can they deny his conclusions? They cannot; if they dislike his conclusions, their only recourse is to ignore his work as Schmoller did and mainstream economists do today.

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Goods

According to Menger, a good is a thing which can lead to the satisfaction of a need of a human, which is recognized as such by the desiring human, and which the desiring human is capable of utilizing. As Menger wrote:

If a thing is to become a good, or in other words, if it is to acquire goods-character, all four of the following prerequisites must be simultaneously present:

  1. A human need.

  2. Such properties as render the thing capable of being brought into a causal connection with the satisfaction of this need.

  3. Human knowledge of this causal connection.

  4. Command of the thing sufficient to direct it to the satisfaction of the need.

This theory is an advance from some previous theories for which a thing’s “goods-character” (that which makes the thing a good) is an inherent property of the thing itself, without regard to those who desire, need, or use it. According to Menger, however, a thing’s goods-character is based on its relationship with people; if that relationship changes, the thing ceases to be a good. Thus, while the other theories placed “goods-character” in the Aristotelean category of “quality”, Menger placed it in the category of “relation”. While Menger is typically credited with establishing subjective value theory, his theory of goods is not entirely subjective. For him a thing, to be a good, must be capable of satisfying an objective “need”, not a subjective “desire”. Thus he terms things like cosmetics and ineffective traditional medicine as “imagined goods.” This is dangerous territory, because it leads the economist towards the chimerical goal of scientifically determining what objectively is in the best interests of other people in order to distinguish between “true goods” and “imaginary goods”. Such a feat is impossible without omniscience or without imposing the economist’s value judgments on others. The only criterion for whether a thing is a good that can actually be discovered is the fact that it is desired, which is evidenced by the choices people make.

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Gee if only Silas (on the Mises blog) could comprehend these basic points.

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Orders of goods

Menger’s calls goods which satisfy needs directly “goods of the first order” (also known in modern terminology as “consumer’s goods”); examples would include bread ready for the eating, a house ready to be lived in, a back rub ready to be enjoyed, or a romance ready to be cherished.1. He calls goods which satisfy needs only indirectly, through producing a good of the first order, a… (you guessed it) “good of the second order”; i.e., the flour to make the bread, the wooden beams to build the house, the training of the masseuse, or the wooing of the girl. Third order goods are those which produce second order goods (grain mills, trees to be chopped… you get the picture), and so on. Goods of second order or higher are now called “capital goods”.

1 Menger includes non-physical goods like services and relations in his definition of a good.

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Thanks so much to Jeff Tucker for the Mises.org post today referencing my Menger blog!

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Above is a diagram I’ve created representing Menger’s scheme for what gives something goods-character. As can be seen at the top, the “thing” is being held up by two legs in the “good” realm, which means that it has goods-character. If either of the two legs gets knocked out beneath it, it falls into the “non-good” realm. If a person has no potential to command the thing, it falls (stops being a good). If a person has no knowledge of the thing’s ability to satisfy a need, it falls. If the thing has no such ability, that knocks out the “knowledge” support (one can’t know of a thing’s usefulness if it has none), thus it falls. And there can be no capability to satisfy a need if the need itself does not exist, so of course if the “need” foot of the left leg is gone, the whole thing comes crashing down.

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Complementary goods

Let’s say you are out camping, and you would like a fried egg. The fried egg would be a consumer’s good, or good of the first order. But in order to get a fried egg, you’d need the following second-order goods: a raw egg, some oil, a pan, and a fire. These second-order goods are “complementary” to each other. Since they are all needed to create the first-order good: there are “complementary goods”. If any one of those complementary goods were unavailable, the other three would lose their goods-character regarding the creation of the fried egg; you’d end up with either hot oil, a charred egg stuck to the pan, completely incinerated egg and oil, or a raw egg stewing in oil. Unless there is an alternate use for these complementary goods, they would stop being goods altogether. For example, the fire and the pan might retain its goods-character if they could be used to cook other things. If there’s no other food you want to fry, then the oil would lose its goods-character entirely. And course the raw egg would no longer be a good, unless you were starving (or a body builder).

As Menger puts it, “the goods-character of goods of higher order depends on our being able to command their complementary goods”.

Of course, you need wood to make the fire, as well as a match (let’s assume you don’t know how to start a fire without one). The wood and the match, then, are goods of the third order; and they are complementary goods to each other. In the third order, just as in the second order, the two complementary goods depend on each other for their goods-character regarding the fried egg. But now there is a new type of condition. The third-order match and wood also depend on the second order pan for their goods-character regarding the fried egg. If the fried egg is the match’s and the wood’s economic purpose, and the fried egg is impossible for want of the pan, then the match and the wood loses all its purpose. Even though the pan is in a different order than the match and the wood, it is still a complementary good to those two.

.

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Time and Uncertainty

Adding higher orders to a production process necessarily requires more time to spent in that process. Technological improvements can shorten that time, but it can never eliminate it entirely; it will always take time to go from one order of production to another. A necessary result of adding time to the production process is to add uncertainty. Grain intended for the mill is a higher order good. But grain set for the field is of a higher order still. The grain intended for the mill will most likely end up producing a certain amount of bread: not too much more, and not too much less. There is a chance rats will get to it, or the granary will catch on fire: but these chances may be small. The seed-grain however will take more time before it will result in bread: time to be sowed, to germinate; time for its crop to grow and be harvested. At every step of the way, there are additional chances for the seed and its crop to be destroyed. However, there is also an upside to the risk: the seed could yield a bountiful crop.

As Menger puts it:

A person with consumption goods directly at his disposal is certain of their quantity and quality. But a person who has only indirect command of them, through possession of the corresponding goods of higher order, cannot determine with the same certainty the quantity and quality of the goods of first order that will be at his disposal at the end of the production process.

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Higher ground via higher orders

After establishing the nature of goods and the causal mechanism of their production in society, Menger makes the case that the progress of human welfare throughout history- everything that each generation has to be grateful to the previous one for- has been due to extending the chain of production by adding to it goods of increasingly higher order. The very definition of a gatherer society entails that it deals predominantly with low order goods; it gathers plant-life as food (a first order good). A more advanced society puts potential food into the ground to use it as seed (a higher order good), and thereby increases its prosperity. The building of a plow extends the production chain further. This progression has continued to the present day, when a bowl of cereal on my breakfast table is the end of a chain comprising several hundred orders of goods, each one making the process more productive.

Thus the upward march of technique and technology for the benefit of mankind has been the story of adding ever higher orders of goods to the chain of production.

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Human drives and human nature

NEEDS ARISE FROM OUR drives and the drives are imbedded in our nature. An imperfect satisfaction of needs leads to the stunting of our nature. Failure to satisfy them brings about our destruction. But to satisfy our needs is to live and prosper. Thus the attempt to provide for the satisfaction of our needs is synonymous with the attempt to provide for our lives and well-being. It is the most important of all human endeavors, since it is the prerequisite and foundation of all others.

Menger’s second chapter of his Principles starts with this splendid paragraph. In it, he seems (to my relief) to veer away from his seeming emphasis on objective needs. By saying that needs arise from internal drives, and not from some externally objective notion of what is good for us, it seems that Menger really means “recognition of needs” or “desires” instead of “needs”. For how can, for example, the objective need for a body to have water to survive be said to arise from our drives? No, only our recognition of our need for water, and our resultant desire for water can be said to arise from our drives.

In his references to nature, Menger shows his Aristotelean bent. Aristotle argued that all things have a nature, and a thing’s nature is to evolve into the state into which it generally tends toward; such a state is the thing’s purpose.

For Aristotle, man’s purpose was the polis. Menger, in this paragraph, however, took Aristotle’s teleological view of man, and turned it toward his individualist and subjectivist view. Instead of a political animal, whose nature is to live in and for a polis, man is an economizing animal, whose nature is to pursue the satisfaction of his needs/desires.

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A person’s requirements, as defined by Menger are

those quantities of goods that are necessary to satisfy his needs within the time period covered by his plans.

This term is somewhat analogous to “demand”. He notes that even savages plan ahead for future needs. If a hunter has enough meat to eat for today, but does not have enough meat salted in store for him to feel sufficiently secure, then he does not have his requirements met. The more advanced an economy is (that is the longer its chains of production are), the further in advance do producers plan in anticipation of the needs of their consumers. Menger demonstrates with one of his many well-chosen examples:

When we are still wearing our heavy clothes for protection against the cold of winter, not only are ready-made spring clothes already on the way to retail stores, but in factories light cloths are being woven which we will wear next summer, while yarns are being spun for the heavy clothing we will use the following winter.

If an isolated economy has plenty of heavy clothes in its closets and stores for the current winter, but fails to spin yarn for the new coats that might be needed the following winter, then that economy is not meeting its requirements.

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Man plans for the sake of satisfying his future needs. He may not know which needs he’ll end up having; even if he did, he may not know the exact quantities of goods required to satisfy those needs. Man has foresight, but not divination. But still he plans, using his reason and his senses to predict as best he can about his future needs.

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Requirements, again, are the quantity of goods necessary for satisfying a man’s needs during the time period of his plans. Let’s say a man requires 6 cups of lemonade to satisfy his anticipated refreshment needs over the next week. Based on that requirement, he has a further requirements for higher order goods necessary to make the lemonade: 4 cups of water, 1 cup of lemon juice, and 1 cup of sugar. Unfortunately he only has 1/2 cup of lemon juice, and because of a food safety scare, he is unable to obtain any more. Since, with his limited supply of lemon juice he is only capable of making 3 cups of lemonade, he may only effectively require 2 cups of water and 1/2 cup of sugar; thus these quantities are called his effective requirements. His latent requirements of the higher order goods are still the first quantities mentioned, however, because, if possible he still would like his 6 cups of lemonade.

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According to Menger, the first prerequisite of effective planning (which is considering how to satisfy future needs) is foresight regarding requirements (the quantities of goods necessary to satisfy the needs that will arise in the planned-for time period). This, like all economic laws, is universal for all men at all times. Examples of it can be found even in ancient literature. In Works and Days, a didactic poem by Hesiod (circa 700 BC), the exasperated poet/farmer tries to enjoin his wayward brother Perses to plan for his future instead of idling about and leeching off his family and community.1 Hesiod instructed his brother to gather and work wood in the autumn, when wood is least wormy. He went on to exactly enumerate the higher order goods Perses should fashion from the wood (of what kind, of what dimensions, and of what quantity) in order to satisfy the needs that will arise in the coming year. Here is the relevant passage:

When the piercing power and sultry heat of the sun abate, and almighty Zeus sends the autumn rains, and men’s flesh comes to feel far easier, – for then the star Sirius passes over the heads of men, who are born to misery, only a little while by day and takes greater share of night, – then, when it showers its leaves to the ground and stops sprouting, the wood you cut with your axe is least liable to worm. Then remember to hew your timber: it is the season for that work. Cut a mortar three feet wide and a pestle three cubits long, and an axle of seven feet, for it will do very well so; but if you make it eight feet long, you can cut a beetle from it as well. Cut a felloe three spans across for a waggon of ten palms’ width. Hew also many bent timbers, and bring home a plough-tree when you have found it, and look out on the mountain or in the field for one of holm-oak; for this is the strongest for oxen to plough with when one of Athena’s handmen has fixed in the share-beam and fastened it to the pole with dowels. Get two ploughs ready work on them at home, one all of a piece, and the other jointed. It is far better to do this, for if you should break one of them, you can put the oxen to the other. Poles of laurel or elm are most free from worms, and a share-beam of oak and a plough-tree of holm-oak.2

1Hesiod was impelled to write the poem after being sued by Perses, who by bribing the presiding judges, managed to seize a portion of Hesiod’s inheritance from their father. 2Hesiod, Works and Days, ll. 414-447

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Successful human action depends on especially two kinds of knowledge.

  1. Foresight regarding requirements (quantities of goods necessary for the satisfaction of one’s needs in the time period of one’s plans), as discussed in my last Menger post, and
  2. Knowledge of stocks, or available quantities of the goods required.

Goods are considered “available” if a) they are in one’s possession or b) they are in the possession of someone you have a “trading relation” with. The more division of labor, and thereby trade, there is in a society, then the more important, and the more difficult b) (above) will be. As such, in advanced economies, one finds businessmen going to great lengths and expense to accurately ascertain the available quantities “on the market”. He cites as examples the exhaustive London grain reports, Berlin sugar reports, and Liverpool cotton reports of the time, the last of which…

contain periodical information about current stocks of the different grades of cotton in Liverpool, in England in general, on the continent, and in America, India, Egypt and the other producing regions; they inform us regularly about the quantities of cotton in process of shipment on the high seas (floating cargo), about the ports to which they are consigned, and whether the quantities in England are still in the hands of the wholesalers, already in the warehouses of spinners or other buyers, or assigned for export, etc.

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An early post that I didn’t share here…

The State of Economics Before Menger’s Principles

The great Austrian Economist Friedrich August von Hayek wrote the introduction to the 1976 edition of Menger’s Principles. Hayek lays out the intellectual background of Menger’s 1871 magnum opus, and it’s not a pretty scene. The Classical School of economics which had been dominant in Britain and France since John Stuart Mill’s Principles of Political Economy (1848) was “born in sin”, based as it was on David Ricardo’s fallacious theory of value. Theories of value had always been beset by an obnoxious paradox. Why is a good’s use value often so different from its exchange value? Why are such fripperies as diamonds priced so much higher than something as important as water? Ricardo tried to solve this paradox by separating exchange value from utility altogether. Instead, he tied exchange value to labor:

The value of a commodity, or the quantity of any other commodity for which it will exchange, depends on the relative quantity of labour which is necessary for its production.1

According to Ricardo’s theory then, diamonds command a higher price than does water, because it requires more labor to dig up diamonds than it does to scoop up water. This, as Menger would prove, is pure fallacy.

Having made that blind turn, mainstream economics had been stumbling around in the bushes ever since. Instead of adopting such a poor economic theory, the German-language economists had largely abandoned theory altogether. Economic theory up to that point had tended toward laissez-faire conclusions, which were highly inconvenient for the German-speaking intellectual class, beholden as it was to the state. The German-speaking intelligentsia therefore developed the Historical School of economics which eschewed the very notion of economic laws which apply to all societies at all times. Since every society was a special case, the Historical schoolmen were free to construct conveniently statist economic prescriptions custom-fitted for their own situation.

So economic theory in the 1850s and '60s was in a sorry state: bad theory in the west and anti-theory in the east. But running through this confused fabric was a single fragile thread of clear thinking; there was, throughout the classical era, a succession of German economists who did not give up on reconciling exchange value with utility. Menger, an avid bibliophile, read them all, and integrated their insights with his own contributions to form a undeniably powerful synthesis which blew away both the Classical and Historical Schools. Thus did Menger, through his Principles of Economics, sire the Marginal Revolution. Unfortunately, he was not its only parent: there were two other co-creators who replaced faulty theory with faulty methodology. What ought to have been a solid new foundation for economics was fissured by new cracks of fallacy which would eventually bring the whole edifice crashing down.

More on that in my next post

1 David Ricardo, On the Principles of Political Economy and Taxation