Suppose we have a complex socialist society which is in the state of an evenly rotating economy or equilibrium. There are numerous production processes operating. The planner, Smith, has before him equations like these:
where C stands for consumer good, and P for producer good. These are methods of production. On the left side of each equation, C1, P1, etc. are the revenues yielded by the sale of each good. On the right side are the costs of production.
It seems these costs can be discerned if we solve the equations.
The question is, why can’t Smith introduce a marginal improvement to the ERE, say, a new product Cn?
Cn = 3Pa + 6Pb + 10Pc
Suppose Smith knows the state of consumer demand. He knows the revenues he will obtain by selling X Cn to the consumers for all X. In order to produce Cn, Smith has to withdraw the factors involved in making it from other lines of production. This means that some of the goods previously made will be unmade. So, why can’t Smith find those products, canceling which will harm the consumers the least? He can do that by tallying up the lost revenues for the different possibilities and sacrifice those combinations of other consumer goods for the sake of Cn that already provide him with the least amount of revenue.
If Smith finds that he receives a profit by producing X Cn, then he can keep withdrawing factors from elsewhere in the economy until the costs of the factors go up so much, and the revenues of an extra Cn go down so much that the two are equal.
It seems that we have an instant motion from one inferior ERE to another superior one without any need for entrepreneurial competition or market for capital goods. There is neither disequilibration and profits nor imitation and disappearance of profits but what seems like a perfectly efficient smooth move from one ERE to another. There are neither monopoly prices nor entrepreneural losses.
Mises (among others) routinely refers to the notion of an evenly rotating economy as a hypothetical or imaginary construction.
There are often, if not typically, multiple ways to produce something. Which way is most economically efficient? Furthermore, there’s also the time factor of production to take into account - which doesn’t seem to be indicated by the above equations.
How does he know this? How can he know it?
A final note: one could say that the market is a giant, real-time, massively parallel, and (most importantly) self-modifyinglinear programming system that is constantly in the process of solving itself.
The ERE is not impossible only unrealistic. Monetary profits can be 0 for every firm, as long as psychic profits from exchanges within the ERE are positive. An ERE is unrealistic, because of entrepreneurial actions that keep disturbing it. But under socialism, there is only one entrepreneur, Smith. Hence, an ERE is a natural state of a socialist economy.
As for knowledge of consumer demand, Mises makes this assumption, too: “We may for the sake of argument at first disregard the dilemmas involved in the choice of consumers’ goods to be produced. We may assume that this problem is settled. … We do not deal with the problem of whether or not the director will be able to anticipate future conditions.” In other words, we assume that Smith does not make entrepreneurial errors.
It’s true that there are multiple ways of producing anything; that’s why I am allowing Smith to make single marginal improvements to the economy. It is obvious that he can’t reconstruct the entire production structure.
So, wait a minute… this is really neat. Is the socialist problem precisely that improvements can be introduced only sequentially, while the market does it in parallel, as Autolykos said “massively parallel”?
There is revenue, because there is a consumer goods market. There are costs, insofar as the system of equations is solved. And there are profits, until the central planner equilibrates the new production structure toward a new ERE by making marginal costs equal marginal revenues.
All the equations with a P on the LHs are flawed, because we are talking about a socialist economy, meaning the govt owns all the P’s and never sells them to anyone.
All the equations with a P on the RHS are flawed, because the govt has no costs for using the P’s. They own them all, and got them all for free.
All the equations with a C are flawed, because sometimes the consumer cares not what P’s are on the RHS; other times he cares a lot. This will leads to contradictory solutions of what the P’s are.
For example, whether toothpicks are made of wood or plastic, say he is willing to pay the same price. On the other hand, say he will pay ten times as much for wooden furniture as for plastic furniture.
1 penny for toothpick = one gram of wood = one gram of plastic. Conclusion: Price of wood equals price of plastic.
$100 = what one consumer will pay for wooden bookshelf = what ten consumers will pay for ten bookshelves [one each] made of plastic. Conclusion: Price of wood equals ten times price of plastic.
The prices of the producer goods of the 2nd order are determined by solving the equation with Cs on the LHS. Then, if these Ps, too, are made, then the prices of the good of the 3rd and higher orders are determined by solving the equations with Ps on the LHS.
For example, Mises objects to “Schumpeter’s dictum according to which consumers in evaluating consumers’ goods ‘ipso facto also evaluate the means of production which enter into the production of these goods.’” The reason is that consumers evaluate capital goods not directly but only via the intermediation of entrepreneurs who on their own accord demand and supply the factors of production. But Schumpeter would be correct with respect to an ERE, where there are no entrepreneurs except the central planner.
All the equations with a P on the RHS are flawed, because the govt has no costs for using the P’s. They own them all, and got them all for free.
That’s true, but if the government does not pay the original factors like wages to workers, the workers will have no money to buy consumer goods. Socialism means that the state owns all capital goods, but there is still the labor market. It’s just that there is only one employer: the state.
Of course, there are costs of using Ps for producing some C1. They are opportunity costs of these items’ being unavailable for producing C2, C3, etc.
The equations with Cs are not flawed, because if the quality of plastic or wooden toothpicks differs, then the consumers will pay different amounts of money to the state for them.
I think the answer lies in the idea that the market is a planetary, real-time, massively parallel improvement and optimization engine that is able to accommodate changes to the economy that are happening to it every second, as suggested by Autolykos. On other hand, socialism is a local, delayed, sequential, and inflexible system.
The govt cannot possibly actually make all the things corresponding to each equation, because there is not enough land on the planet for the thousands of different factories required to make every imaginable product ten thousand different ways. [Especially when multiplied by 32 million, see below about colors]. So that the Cs will not be found in the real world by going out and seeing what people are willing to pay, but rather by some kind of vote must be held. So that every citizen will have to vote on tens of millions of items appearing in a catalogue. And of course, every day millions of people reach voting age, so the voting will have to take place anew. Many people prefer variety, especially in their food, so that will have to be voted on every meal. Many times people think they want things, but when the time comes to actually pay for it, or when their eye is caught by something in the store or on TV, they change their minds. So that their voting will not reflect what they will actually spend their money on.
Many people have secret desires. Internet porn thrives because it is anonymous. How many people are willing to go on record with a govt agency saying they want a nice couple of Ps to be used to make perverted movies?
What if they want pets? Many people only decide if they actually want this particular dog after actually seeing it. How will the govt know whether to breed beagles or german sheperds. And how many?
I’m sure there are many more impracticalities to actually determining the values of C.
Since each C can be manufactured in tens of thousands of different ways, there will be many more equations than unknowns. What guarentees they will be consistent? [in the sense of guarenteeing the existence of a solution?] For example 3=P and 2=P is an unsolvable system. You are guarenteed solvability only if number of equations equals number of unknowns.
Even then, what guarentees exostence of positive solutions for all Ps? For example,
2= X+Y 4=X-Y. then Y must equal minus 1.
So you admit that the equations with the Cs are not flawed IF. That’s a big if. What if they don’t differ enough to make a difference, which is very often the case. Even as things are right now, plenty of things have the same price, in fact plastic and wooden toothpicks cost the same thing.
Or if they have offsetting advantages and disadvantages. Some people like one color, some like another. Some just don’t care about the color of their plastic toothpicks. You will find different colors for toothpicks all at the same price, so that cost of white dye = cost of black dye. But very few people want a black wedding dress, which leads to cost of white dye = hundreds of times more than black dye.
I think we can agree that a consumer has a price range beyond which he will not go for a toothpick. Let’'s choose from one to ten cents per toothpick, to be generous. But there are thousands of ways to make toothpicks. How will there be different amounts to pay the state for each of them?
4a. A good computer screen nowadays recognizes 32 million different colors. Each mixture of dyes to make those 32 million colors will have to have a different price. Remember, it’s not enough, to be able to solve the equations, to say “I don’t care”. Every one of those 32 million options has to be given a price by every consumer. Same thing for cars. And clothing. And every possible thing on the face of the Earth.
I do not understand what you are talking about. Resources are scarce, whether under capitalism or socialism. The economic problem is to squeeze the most utility with the least amount of effort: to economize on those resources: to produce the most while laboring the least.
It is assumed that the socialist government’s aim, exactly like that of a laissez-faire society, is to (1) satisfy as many desires of an many consumers as possible, given the factors of production, the environment, and the technology they have and (2) improve this satisfaction as time goes by. It is not to make people perfectly happy.
You may be thinking that the central planner will not be able to anticipate consumer wants, especially if the whole world is communized. How can the planner, located thousands of miles away from me, know what’s going on in my local community? That is true. But it’s not the only problem of socialism. Its fundamental defect is that the planner must introduce creative advance into the economy step-by-step sequentially rather than numerous improvements at the same time.
Another difference between capitalism and socialism is obviously incentives. In competing with other entrepreneurs, every businessman is offered a rigorous incentive to excel. He puts his own time and money on the line. He must do his utmost to win. Smith, on the contrary, would need to be “public-spirited” in order to push himself to get anything done. We all, however, know that the search for private profit is far more motivating than some vague desire to improve the world. Capitalism is a system whose every member struggles with a “will to power”; socialism is disinterested. Which is bad for socialism.
So, if “local, delayed, sequential, inflexible, and disinterested” sounds like a description of a capitalist business firm, then we have something here. V.I. Lenin who, when asked about the economics of socialism, answered that it would be organized on the lines of the postal service, was hopelessly confused.
The commies confused the global world market with their local oil change place.
Of course, there are costs of using Ps for producing some C1. They are opportunity costs of these items’ being unavailable for producing C2, C3, etc.
Do not confuse opportunity cost with price. Only price can be put into an equation. Opportunity cost, on the other hand, is a personal thing. Ponder this:
Costs are by nature subjective and not objectively measurable by an outside observer. An essential feature of Austrian economic theory, unlike the neoclassical theory, is that cost is directly related to the act of choice. A summary of the implications follows:
Most importantly, cost must be borne exclusively by the decision-maker; it is not possible for cost to be shifted to or imposed on others.
Cost is subjective; it exists in the mind of the decision-maker and nowhere else.
Cost is based on anticipations; it is necessarily a forward-looking or ex ante concept.
Cost can never be realized because of the fact of choice itself: that which is given up cannot be enjoyed.
Cost cannot be measured by someone other than the decision-maker because there is no way that subjective experience can be directly observed.
Finally, cost can be dated at the moment of decision or choice.
Therefore, there can never be objectively measurable external benefits. Costs (or benefits) are subjective and are inseparably tied to the act of choice. That is, an individual not involved in the economic decision or choice can never objectively measure another individual’s costs (or benefits). Thus no statement about either the size or the very existence of external benefits can ever be falsified, and cannot be an argument for government intervention.[3]
While that is a correct distinction, it doesn’t get to the heart of the matter.
Mises says: The central planner cannot calculate anything. This is because he is not exchanging anything with anyone. Hence, he has no profits or losses and has no way to tell whether he is better off or worse off. If we take the goal of the central planner to be purely altruistic the problem is even worse. An evil, greedy central planner (say, a global slavemaster that owns 100% of everything, including all people) could at least appeal to his own psychic satisfaction as a gut measure of improvements or disimprovements in the state of affairs. “Improvement” here means solely from the PoV of the central planner himself. But an altruistic central planner (which we are supposed to believe is possible in a socialist society) cannot even apeal to his own psychic satisfaction… he is left making random guesses as to whether his citizens are happier or less happy as a result of the decisions he makes. He must make arbitrary tradeoffs in the happiness of one citizen versus another when alternative uses of the same resource will benefit some citizens only at the loss of others. And so on.
Hayek says: The central planner cannot know anything. Hayek says that things are even worse than Mises described - even if the central planner could devise a method to calculate and form accurate estimations of the satisfaction of his citizens and make the best possible tradeoffs in the happiness of citizens, he still cannot know the information he needs to input into the method. Almost all the information that determines each economic choice made by individuals is localized, subjective and transient. Consider the choice of whether to buy a burger on your lunch break or wait until dinner time. If you’re hungry at that moment, you’re more likely to choose to buy the burger. If you’re less hungry and you don’t have any cash with you, you’re more likely to elect to skip the drive to the ATM for the burger and just wait until dinner. And so on. Thomas Sowell in his book Basic Economics uses the illustration of a gas station on a remote highway that has construction work being done on it for the next two weeks. The would-be all-knowing central planner must connect the dots between the gas station’s dependence on highway traffic and the reduced traffic caused by the activities of his road maintenance division. A private owner, on the other hand, is more likely to live near his gas station and encounter the change in circumstances, cancel outstanding orders of fuel and so on.
Linear algebra is no help with this. Linear algebra works for solving problems where all the variables are known at very low cost, high accuracy, high objectivity and with transience low enough that, by the time you solve the system of equations, you can use the result to inform the decision-making process.
@Smiling Dave: Not confusing. On the contrary, formation of prices of factors depends on these factors’ opportunity costs.
By the way, “disinterested” means this: Smith the planner is disinterested in the common good of the whole society, and so is an individual entrepreneur under capitalism. But the market as a whole is quite interested in fulfilling its utilitarian duty.
Have you read Human Action? It appears you have not. Mises makes it clear that in the ERE there is no profit. There would be no need for money as every worker would continue to go to work and consume the exact same goods, revenue would cease to have meaning.
All that aside, even if you were correct and your equations actually did work you are still faced with the complexity. It is impossible to know all the factors. Each change will ripple through everything else. The planner would need to be omnipotent for your scenario to work.
I read pretty much the whole thread, which is interesting. Then I came to this quote:
It is assumed that the socialist government’s aim, exactly like that of a laissez-faire society
Why do we have to assume so much? It is not enough to assume the ERE and admit the equations were only applicable to a tiny minimum of situations, but now we have to assume the absurd? That a (perfect!) all powerful omniscient socialist government’s aim is going to be identical to that determined spontaneously by billions of people on a free market?!
I politely disagree. But it’s worse: If the government’s aim was our aim all along, then we wouldn’t need/have needed it.