I appologize if this post is ‘old news’ to anyone (as I’m sure it will be), but after listening to an episode of EconTalk on Hayek, I think I’ve gained new insight into his famous essay which I think is different from (and stronger than) its most commonly-repeated meaning on the Internet. I have most often heard Hayek’s criticisms as refuting the idea of the setting of prices by any central planning board, because the knowledge of how to do so is private, and dispersed throughout society. This seems to indicate that good enough methods of gathering information, polling, prediction (markets), or some sort of mind-reading device could render his critique obsolete. Most people seem to view it as an extention of Mises’ calculation argument. However, after re-reading his paper, I began to think there was something more:
I believe what Hayek is saying here is that innovation necessarily involves the expansion of resource utilization (i.e., rights over factors of production) to minds with knowledge the market does not currently have. Their preferences cannot simply be polled or their minds read, because their knowledge is frequently both not communicable or understandable to other market actors. These minds are effectively “alien” in respect to their innovative ideas on resource utilization, because if the others were able to understand them they would have been able to discover the innovative knowledge on their own. So the only way to utilize these ideas which may be uncommunicable and not understandable to anyone else is to reward their successful implementation via an incentive-compatible mechanism (i.e., markets). Innovation in all many instances thus requires the lessening of conscious control.
Anyways, I thought I would share my insights, so (if they are correct) others could use them. In my opinion, Hayek’s criticisms are far stronger than most people give them credit for.
However, to answer the question “why should government get out of the way, how could markets do it better?” with “we can’t know how they’ll do it better” is likely considered a poor argument by many. I’m not sure how to overcome that, as its doubtful government supporters care to read and really understand Hayek.
I like your post. I think the whole the free market is untested, or never really been done, is hooey. Free market actions everday. I like how we just don’t study price formation. We use our knowlage of market actions, to understand better whats goin’ down, using our knowlage of people actin’. I think he elucedates on the case for order, like a tao of exchange. He and Mises use the arguments of the controllers so well against them. They want control over markets, yet even knowing it’s unhealthy, and that all the stuff they want to justly do, can only be done without control. Liberty gets more positive externalities over control.
It is rather a problem of how to secure the best use of resources known to any of the members of society, for ends whose relative importance only these individuals know. Or, to put it briefly, it is a problem of the utilization of knowledge which is not given to anyone in its totality.
I dislike being treated like an animal by social planners. I like the case he makes against polylogism. Biology can tell us about actors, but can not read their thoughts. I feel like he is not really writing to his choir, but pleas’ to those that would desire interventionism.
To assume all the knowledge to be given to a single mind in the same manner in which we assume it to be given to us as the explaining economists is to assume the problem away and to disregard everything that is important and significant in the real world.
Well I havn’t read a lot of Hayek, so I can only give it to you how it hit me. I don’t ask how my sausage is made before I buy it.
That’s a good point. Decentralized info and free markets have already worked to create language, money, etc., so the real point is that it’s taken people a long time to even have a good understanding of free markets, much less how they work. I still think that, once markets are better understood, it may eventually be possible to consciously direct them. However, they would still have to overcome the knowledge problem to do that.
It’s like everybody gets a small piece to a very large puzzle, and the only thing each individual sees is where his puzzle piece will fit. Of course, as circumstances change, the puzzle and the pieces to it change, as well, adding to the complexity.
Isn’t treatment of the term ‘free market’ as though it’s synonymous with ‘market perfection’ - with transactions occuring with pure competition and perfect information - an all too common error? Am I missing something (be nice)?
You make some interesting points. Hayek was great on information, knowledge and competition in a free society. I think there is a point that could be made against predictions, polling and methods of gathering information: Dispersed knowledge and information is also tacit and cannot be articulated. That would also mean that our knowledge is expressed through action, we reveal our preferences through action (very Austrian point). That means that the results of the polls wouldn’t be the same as the results that would evolve in a free society. There is no way to get access to our dispersed, tacit and not articulated information by a central planner, as you have well defended in your post.
TomG, a free market is not the same as the perfect competition model. The former would be the situation of an unhampered market, whereas the latter is something impossible to get, it has nothing to do with reality. Perfect competition and perfect information could happen in a different world, a world without action and uncertainty, but not here.
Unfortunately, many economists believe in this perfect competition model as an ideal we should try to get close to. The closer we are to that “Nirvana”, the better, they say. The problem is that, due to that Nirvana is unreachable, they are always justifying state interventions, in order to “correct so-called market failures”.
that’s my basic observation about all talk of ideal states, that the starting point is never a clean slate - that an already-imperfect set of conditions will inevitably lead to distorted outcomes, even if the right applications are finally realized. If for instance a bowling alley lane is less than level, then the ball will never roll true. And therefore there will always be a need to intervene on its behalf and correct its direction as it goes toward the pins. But after awhile there’s no way of knowing whether a series of corrections here and there are going to bring it down the middle toward a strike or at least a spare - especially since real life doesn’t give us the benefit of knowing where the pins are actually set (part of the imperfect information too). So policies upon corrective policies - and after awhile it’s just time to either roll another ball or change lanes (sorry, getting too far into this allegory
The quote you present is actually one of the foundations of complexity science, which is the creation of systems that are more complex than we are. What Hayek is saying is that that the sum total human knowledge is necessarily individualistic. (Everyone being in a different place at any given time, the information they accumulate will be individualized.) Complex civilization must be able to utilize not just the information of one single designer or planner, but the sum total human knowledge held by all individuals. This is how a division of knowledge emerges, amongst other outcomes.
that sounds dandy if everyone’s to live in a grass hut and cook rabbit stew - but the truth is that complex systems require organization, which inevitably means a hierarchy of decision-making (ergo authority). Would the skunks works aircraft have been made if tried by a bunch of individualists throwing in their two cents worth on what could be done? Or the Apollo project to the moon and back? Theory is great, but what happens when put to practise?
I was only trying to stress that more complex systems (such as necessitated by economies of scale) require organization and therefore authority - which by definition makes its participants yield a certain degree of autonomy. So that there’s always someone “calling the shots” at every level up the hierarchy that complex systems demand - and their knowledge supersedes each individual’s respective knowledge in being put to action (and knowledge never acted upon is rendered superfluous and/or impotent).
But this is backwards–more complex systems reach a complexity beyond the capacity of any person or small groups of people to understand, much less manage. The authority’s knowledge is insufficient to properly manage a complex system, and can only interfere with the workings of the system, not properly direct it towards suitable goals.
The effectiveness/progress/achievement/productivity of any willingly-cooperative group required consensus - which also means, at times, a compromise of certain members’ views of what direction/step to take case by case. An organization is always weaker in commitment than the individual interests of its players, but doesn’t have to be deemed ineffective or dysfunctional unless it: 1) allows an individual or subset faction of its total population undue power (usually psychologically-based, such as a magnetic personalityor appearance or disproportional intelligence), and/or 2) creates convoluted policies that result in distorted incentive structures away from the stated goal/purpose of the organization. Sorry to be so wordy, but hope this clarifies how I see things (at the moment, though always willing to understand in a better light). Cheers.
Does that mean you could yank an assembly worker off the line and ask him to give an equally valid input to the financial 5 year plan to the board of directors? Or that the guy bolting the chairs into the space capsule should’ve been asked to decide whether the engines had enough thrust to get the astronauts out of earth’s graviational pull? Isn’t greater and greater degrees of authority naturally rendered to those most capable of making the decisions of greater complexity in the hierarchy of any organization?
You can yank an assembly worker off the line and put him on the design team for the next product, simply because he has hands-on knowledge of his work that the other designers don’t have. This is what the concept of quality circles was about.
Competence for decision-making is not totalistic. For example, the immensely successful German army in WWII allowed its officers to overrule orders when they met conditions that contradicted the plan. The plan was not more competent than a live officer watching a battlefield in real time. French officers did not have this power. As a result, the Germans annihilated the more powerful French army.
To understand that paper you need to read first his 1937 article: Economics and Knowledge. I consider this article Hayek’s best article and perhaps the greatest paper in the history of the social sciences.
The central point in Hayek’s though is that knowledge is generated by an spontaneous discovery process. The market system permits millions of people to transmit their discoveries spontaneously through the price system. A socialist system cannot do this, since all discovery process is concentrated in one mind (the central planner’s mind).
Kirzner’s theory of the entrepreneurial process is a more refined and better articulated theory of this spontaneous discovery process.
Is there a difference between Hayek’s and Mises’s arguments against socialism?
While Mises and Hayek are typically mentioned in the same breath as critics of socialism, their critiques are fundamentally different. Mises’s argument is this: If there is no private property in land and other production factors (everything is owned by one agent), then, by definition, there can also be no market prices for them. Hence, economic calculation, i.e. the comparison, in light of current prices, of anticipated revenue, and expected cost expressed in terms of a common medium of exchange—money— (permitting cardinal accounting operations), is literally impossible. There can be no “economizing” under socialism. Socialism is instead “planned chaos.”
Socialism’s fatal error, then, is the absence of private property in land and production factors, and, by implication, the impossibility of economic (monetary) calculation. Hayek’s criticism is altogether different from Mises’s. For Hayek, the ultimate flaw of socialism is the fact that knowledge, in particular “the knowledge of the particular circumstances of time and place,” exists only in a widely dispersed form as the personal possession of a multitude of different individuals, and that it is “practically impossible” to assemble and process all the actually existing knowledge within the mind of a single socialist central planner. Hayek’s solution to this problem is not private property, but the decentralization of the use of knowledge.
Let me only point out one fundamental error in Hayek’s argument. If socialism’s central problem is the practical impossibility of concentrating decentralized knowledge in the mind of a single central planner, then it is difficult to explain why there are firms and why the owner of a firm does not face exactly the same problem as the central planner under socialism. The owner of a firm also cannot concentrate in his mind all of the decentralized knowledge of the particular circumstances of time and place of all of his employees. Nonetheless, the owner of the firm designs a central plan, and within the guidelines of this overall plan the firm’s employees then use their own decentralized knowledge to implement and execute this plan. And yet: the owner of a firm does not face the problems of the socialist central planner! This demonstrates that the so-called knowledge problem identified by Hayek cannot be responsible for the known inefficiencies of socialism. Instead: the problem of socialism is precisely the one identified by Mises: the absence, under socialism, of private property in factors of production and hence of money prices for such factors. In contrast: private firms are based on the institution of private property and operate within an environment characterized by the existence of factor prices; hence, unlike a socialist dictator, the owner of a firm can calculate and economize.
Interesting, I had no idea Hayek helped found a science.
Actually, I think there is. See Robin Hanson’s Futarchy. The problem with this, of course, is that prediction markets cannot articulate any sort of information and the selection of the utility function most certainly ignores tons of tacit knowledge. An idealized socialist futarchy would, it seems to me, act very similarly to a market economy, with more successful predictors effectively gaining control over the means of production with their predictions. I suppose a futarchy would be better at providing public goods than our current mixted economy, but I’m not convinced a free market has to have any trouble providing public goods. Anyways, I don’t think governments have any incentive to base decisions off of something as logical as a prediction market, but I haven’t read much of Hanson’s work. God knows prediction markets could certainly improve governance (e.g., “Does Iraq have WMDs?”, “Will New Orleans’ dikes hold?”), and they aren’t even currently legal.
I don’t think Hoppe dug deep enough here. Its not that it is practically impossible to assemble and process all the existing knowledge; it is impossible in a society operating under the division of labor. Just like natural resources, the distribution of intelligence in society is uneven; it is heterogeneous. When intelligence is extremely specialized, as it must be in any market, no central intelligence can exist which could even understand all of the pieces of private knowledge out there. As intelligence (whether machine or human) advances, it is applied in specialized areas which much grow more and more dissimilar to each other as society becomes more complex. In my opinion, compiling all knowledge in one place is always becoming more difficult for this reason.
In my opinion, even if a central intelligence was somehow constructed which was able to understand more or all knowledge of society, any dictatorial rule by this intelligence would necessarily stifle other advances which might emerge after its creation, because it could not understand them.
I think these are both the same things. The only way to make use of nontransferable knowledge is for property rights to exist. Action must take the place of information the other actors cannot understand, or else there is no way to make use of that knowledge at all. Its as impotent as a Henry Ford being born in Moscow.
I think he is much more mistaken here. First, the entrepreneur most certainly faces a knowledge problem. If he did not, his plans would always succeed! He cannot know exactly what his consumers want, or exactly how his suppliers supply him with their products. The difference between the entrepreneur and the central planner is that the entrepreneur is receiving price signals from his competitors, customers and suppliers. These signals greatly reduce the amount of knowledge he must have. Another difference is that the entrepreneur generally becomes an entrepreneur for a reason: He likely has some bit of private knowledge he believes will give him an advantage in the market. So he possesses private knowledge (although, to be fair, a socialist planner does as well), and makes use of the private knowledge of others through the price system. Even still his plans can easily fail, because he does face a definite knowledge problem.
I’ve read some places that the USSR received great aid in its planning due outside trade and the rest of the world having market economies. So in that sense, even the Soviet planners had price signals helping alleviate some of the knowledge problem.
I think Hayek did articulate the causes of Mises’ calculation problem, which Hoppe certainly recognizes. But I think he also went a bit deeper. To any individual planner, the problem of making better use of scarce resources than the planner can on his own is always a problem of extending control over those resources to other minds and giving up conscious control. So there is no other way for a planner to increase potential productivity than to grant property rights to others. Because the planner sometimes cannot understand all the potential uses of property and their outcomes, he must let successful property owners acquire property from unsuccessful ones. In other words, I think he must become the watchman of a market economy.
