The Essential
Henry Hazlitt

The Foundation for Economic Education

FEE’s mission is to inspire, educate, and connect future leaders with the economic, ethical, and legal principles of a free society.

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The Foundation for Economic Education
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ISBN (ebook): 978-1-57246-082-9

2016
Published under the Creative Commons Attribution 4.0 International License

Cover design by Marianne Copenhaver and John Hartwell

The Foundation for Economic Education is pleased to present this reader of Henry Hazlitt’s works. All of the material included in this book are published on FEE.org under Creative Commons Attribution 4.0. You are free to reprint all contents for any purpose, provided you credit the source. In addition, FEE would like to recognize the initial source material as follows:

“The Lesson.” Economics in One Lesson, (Irvington-on-Hudson, NY: The Foundation for Economic Education, 1952), 3–7.

“The Early History of FEE.” The Freeman. March 1984. Irvington-on-Hudson, NY: The Foundation for Economic Education, 1984).

“Understanding ‘Austrian’ Economics.” Commissioned by the Silver and Gold Report, Newtown, Connecticut, 1981.

“Problem of Poverty.” The Freeman. June 1971. (Irvington-on-Hudson, NY: The Foundation for Economic Education).

“False Remedies for Poverty.” The Freeman. February 1971. (Irvington-on-Hudson, NY: The Foundation for Economic Education).

“On Appeasing Envy.” The Freeman. March 1972. (Irvington-on-Hudson, NY: The Foundation for Economic Education).

“Planning vs. The Free Market.” The Freeman. December 1962. (Irvington-on-Hudson, NY: The Foundation for Economic Education). Originally appeared as a lecture at the 1962 meeting of the Mont Pelerin Society.

“The Lesson Restated.” Economics in One Lesson. (Irvington-on-Hudson, NY: The Foundation for Economic Education, 1952), 169–178.

Table of Contents

1. The Lesson

2. The Early History of FEE

3. Understanding “Austrian” Economics

4. The Problem of Poverty

5. False Remedies for Poverty

6. On Appeasing Envy

7. Planning vs. The Free Market

8. Can We Keep Free Enterprise?

9. The Lesson Restated

Henry Hazlitt (1894–1993) was one of the greatest economic journalists of the 20th century. He is the author of Economics in One Lesson among twenty other book; was a chief editorial writer for the New York Times; and wrote weekly for Newsweek. He was a founding board member of the Foundation for Economic Education, where he served in an editorial capacity at The Freeman. Upon his death in 1993, Hazlitt bequeathed his library to the Foundation, which it retains to this day.

1

The Lesson

1

Economics is haunted by more fallacies than any other study known to man. This is no accident. The inherent difficulties of the subject would be great enough in any case, but they are multiplied a thousandfold by a factor that is insignificant in, say, physics, mathematics or medicine—the special pleading of selfish interests. While every group has certain economic interests identical with those of all groups, every group has also, as we shall see, interests antagonistic to those of all other groups. While certain public policies would in the long run benefit everybody, other policies would benefit one group only at the expense of all other groups. The group that would benefit by such policies, having such a direct interest in them, will argue for them plausibly and persistently. It will hire the best buyable minds to devote their whole time to presenting its case. And it will finally either convince the general public that its case is sound, or so befuddle it that clear thinking on the subject becomes next to impossible.

In addition to these endless pleadings of self-interest, there is a second main factor that spawns new economic fallacies every day. This is the persistent tendency of men to see only the immediate effects of a given policy, or its effects only on a special group, and to neglect to inquire what the long-run effects of that policy will be not only on that special group but on all groups. It is the fallacy of overlooking secondary consequences.

In this lies almost the whole difference between good economics and bad. The bad economist sees only what immediately strikes the eye; the good economist also looks beyond. The bad economist sees only the direct consequences of a proposed course; the good economist looks also at the longer and indirect consequences. The bad economist sees only what the effect of a given policy has been or will be on one particular group; the good economist inquires also what the effect of the policy will be on all groups.

The distinction may seem obvious. The precaution of looking for all the consequences of a given policy to everyone may seem elementary. Doesn’t everybody know, in his personal life, that there are all sorts of indulgences delightful at the moment but disastrous in the end? Doesn’t every little boy know that if he eats enough candy he will get sick? Doesn’t the fellow who gets drunk know that he will wake up next morning with a ghastly stomach and a horrible head? Doesn’t the dipsomaniac know that he is ruining his liver and shortening his life? Doesn’t the Don Juan know that he is letting himself in for every sort of risk, from blackmail to disease? Finally, to bring it to the economic though still personal realm, do not the idler and the spendthrift know, even in the midst of their glorious fling, that they are heading for a future of debt and poverty?

Yet when we enter the field of public economics, these elementary truths are ignored. There are men regarded today as brilliant economists, who deprecate saving and recommend squandering on a national scale as the way of economic salvation; and when anyone points to what the consequences of these policies will be in the long run, they reply flippantly, as might the prodigal son of a warning father: “In the long run we are all dead.” And such shallow wisecracks pass as devastating epigrams and the ripest wisdom.

But the tragedy is that, on the contrary, we are already suffering the long-run consequences of the policies of the remote or recent past. Today is already the tomorrow which the bad economist yesterday urged us to ignore. The long-run consequences of some economic policies may become evident in a few months. Others may not become evident for several years. Still others may not become evident for decades. But in every case those long-run consequences are contained in the policy as surely as the hen was in the egg, the flower in the seed.

From this aspect, therefore, the whole of economics can be reduced to a single lesson, and that lesson can be reduced to a single sentence. The art of economics consists in looking not merely at the immediate but at the longer effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups.

2

Nine-tenths of the economic fallacies that are working such dreadful harm in the world today are the result of ignoring this lesson. Those fallacies all stem from one of two central fallacies, or both: that of looking only at the immediate consequences of an act or proposal, and that of looking at the consequences only for a particular group to the neglect of other groups.

It is true, of course, that the opposite error is possible. In considering a policy we ought not to concentrate only on its long-run results to the community as a whole. This is the error often made by the classical economists. It resulted in a certain callousness toward the fate of groups that were immediately hurt by policies or developments which proved to be beneficial on net balance and in the long run.

But comparatively few people today make this error; and those few consist mainly of professional economists. The most frequent fallacy by far today, the fallacy that emerges again and again in nearly every conversation that touches on economic affairs, the error of a thousand political speeches, the central sophism of the “new” economics, is to concentrate on the short-run effects of policies on special groups and to ignore or belittle the long-run effects on the community as a whole. The “new” economists flatter themselves that this is a great, almost a revolutionary advance over the methods of the “classical” or “orthodox” economists, because the former take into consideration short-run effects which the latter often ignored. But in themselves ignoring or slighting the long run effects, they are making the far more serious error. They overlook the woods in their precise and minute examination of particular trees. Their methods and conclusions are often profoundly reactionary. They are sometimes surprised to find themselves in accord with seventeenth-century mercantilism. They fall, in fact, into all the ancient errors (or would, if they were not so inconsistent) that the classical economists, we had hoped, had once for all got rid of.

3

It is often sadly remarked that the bad economists present their errors to the public better than the good economists present their truths. It is often complained that demagogues can be more plausible in putting forward economic nonsense from the platform than the honest men who try to show what is wrong with it. But the basic reason for this ought not to be mysterious. The reason is that the demagogues and bad economists are presenting half-truths. They are speaking only of the immediate effect of a proposed policy or its effect upon a single group. As far as they go they may often be right. In these cases the answer consists in showing that the proposed policy would also have longer and less desirable effects, or that it could benefit one group only at the expense of all other groups. The answer consists in supplementing and correcting the half-truth with the other half. But to consider all the chief effects of a proposed course on everybody often requires a long, complicated, and dull chain of reasoning. Most of the audience finds this chain of reasoning difficult to follow and soon becomes bored and inattentive. The bad economists rationalize this intellectual debility and laziness by assuring the audience that it need not even attempt to follow the reasoning or judge it on its merits because it is only “classicism” or “laissez faire” or “capitalist apologetics” or whatever other term of abuse may happen to strike them as effective.

We have stated the nature of the lesson, and of the fallacies that stand in its way, in abstract terms. But the lesson will not be driven home, and the fallacies will continue to go unrecognized, unless both are illustrated by examples. Through these examples we can move from the most elementary problems in economics to the most complex and difficult. Through them we can learn to detect and avoid first the crudest and most palpable fallacies and finally some of the most sophisticated and elusive. To that task we shall now proceed.

2

The Early History of FEE

I’ve been invited to share some recollections about the early days of the Foundation for Economic Education. It must have been sometime in 1944 or 1945 that a handsome man dropped in to see me at the New York Times, where I was then writing the economic editorials, and introduced himself as Leonard Read, general manager of the Los Angeles Chamber of Commerce.

The free-enterprise philosophy had already become almost a religion with him. He told me he was looking for a wider audience to which to explain that philosophy, and was thinking of setting up a libertarian foundation of his own.

In 1946 Leonard had raised the money, set up the Foundation for Economic Education here at Irvington, and invited me to become one of his original trustees and officers.

It is astonishing how soon Leonard’s action began to produce important results. Friedrich Hayek, in London, impressed by Read’s initiative, raised the money the next year, 1947, to call a conference at Vevey, Switzerland, of 43 libertarian writers, mainly economists, from half a dozen nations.The group of ten of us from the United States included such figures as Ludwig von Mises, Milton Friedman, George Stigler—and Leonard Read. That was the beginning of the still flourishing and immensely influential Mont Pelerin Society, now with several hundred members from dozens of countries.

Another effect of Leonard’s initiative soon followed. Other libertarian foundations were set up in emulation. “Baldy” Harper, who had been working as an economist for FEE from its first year, left in 1958 and started his Institute for Humane Studies in 1963 in California. Soon Antony Fisher set up like organizations in England, Canada, and eventually here. I recently learned from Antony that he is now watching over eighteen institutions in eleven countries. Manuel Ayau in Guatemala established his libertarian Universidad Francisco Marroquín. Groups in other Latin American countries have set up their own equivalents of FEE. It would take too long to name all the present institutions here and abroad, even if I knew of them all, that owe their origin directly to Leonard Read’s example.

Let me return to the early days of the Foundation. The original officers were David M. Goodrich, chairman of the Board (he was then also chairman of the board of the B. F. Goodrich Company); Leonard Read, president; myself, vice-president; Fred R. Fairchild, professor of economics at Yale University, secretary; and Claude Robinson, president of the Opinion Research Institute, treasurer. There were sixteen trustees. They included H. W. Luhnow, president of William Volker & Company; A. C. Mattei, president of Honolulu Oil Corporation; William A. Paton of the University of Michigan; Charles White, president of the Republic Steel Corporation; Leo Wolman, professor of economics at Columbia; Donaldson Brown, former vice-president of General Motors; Jasper Crane, former vice-president of DuPont; B.E. Hutchinson, chairman of the finance committee of Chrysler Corporation; Bill Matthews, publisher of the Arizona Star; W. C. Mullendore, president of the Southern California Edison Company; and the officers of FEE.

You can see from this list what Leonard Read’s persuasive powers must have been.

FEE opened its doors on March 16, 1946. Most of the spring and summer was spent in the library, as renovation continued on the main building. The staff, as of September 1946, consisted of Leonard Read as President, Herbert Cornuelle as assistant to the President, W. M. Curtiss as Executive Secretary, Baldy Harper as Economist, Orval Watts as Editorial Director, and A. D. Williams, Jr. as director of public relations.

Leonard’s first move was to publish an outline of the aims of the Foundation and its proposed activities. He listed no fewer than fourteen of these that would be “among those to be considered for program inclusion” as the resources of the Foundation would permit. I condense them here: (1) encouragement, including financial assistance, to scholars, (2) special studies of current economic or political issues, (3) pamphlets applicable to “hundreds of economic problems,” (4) leaflets for mass distribution, (5) a journal (this was realized in mid-1954 when FEE took over The Freeman), (6) books: the abridgment, publication, and distribution of classical works such as, for instance, The Wealth of Nations and The Federalist Papers, (7) the promotion and publication of satisfactory textbooks, (8) a “pamphlet-of-the-month club,” (9) a radio program, nationwide, (10) organize advisory and study groups in every state and in every community in America—not political action groups, (11) analysis of collectivistic trends so that new interventionist proposals can be examined and refuted before they have been adopted, (12) a lecture institute, (13) arranging for graduate students in economics and potential instructors to accept short-term positions in industry to acquaint them with actual production problems. And finally, (14) a study of the methods of financing and integrating all these activities. And then in an amazingly short time a stream of publications began to pour forth. There were more than a hundred in the first few years. Some of these were one-page leaflets, some small folders, some moderate?length pamphlets, and some were in effect short books. I must confine myself to mentioning only a few of these, in their order of publication. The earliest I find is Profits and the Ability to Pay Wages, by Professor Fred Fairchild of Yale. This came out in August, 1946; it ran to 64 pages. A month later came a 22-page pamphlet called Roofs or Ceilings?, an attack on rent control, sent in by two young fellows from the University of Chicago, Milton Friedman and George J. Stigler, both destined to become future recipients of the Nobel prize in economics. FEE distributed 36,000 of these, plus a special condensed version of 500,000 copies for the National Association of Real Estate Boards.

Next, still in 1946, came a 74-page reprint of Andrew Dickson White’s famous monograph, originally written in 1876, on Fiat Money Inflation in France. FEE eventually distributed 52,000 copies of this. In January, 1947, FEE published an 88-page study called Wages and Prices by Professor Jules Bachman of New York University.

Planned Chaos

Next, in 1947, came Planned Chaos, a 90-page pamphlet by Ludwig von Mises. Lu had been put on the payroll by Leonard from the first year of the Foundation. Next in 1947 FEE began to publish Henry Grady Weaver’s Mainspring of Human Progress, and to date has distributed 670,000 copies of it. The edition I have runs to 287 pages.

Late in 1947 a short book of mine—95 pages—was published called Will Dollars Save the World? in paperback and hardcover. Appleton-Century printed the hardback edition at $1.50.

I’d like to say a few words about it, because it illustrates a disheartening consequence—or lack of consequence. By pre-arrangement with Appleton, Leonard ran off a first printing in paperback of 80,000 copies. (This was over my protest, because I thought he would get stuck with them. But he sold out practically the whole edition.) Then in January, 1948, the Reader’s Digest reprinted a 6,500-word condensation of the book not only in its American but in all twenty of its foreign editions, a total circulation then of about 13 million copies. One immediate consequence is that FEE’s own sales of the paperback came to a halt. Another was that I was asked to testify first before a Senate and then before the corresponding House committee on the then-pending foreign-aid bill. But with all this undreamed-of publicity, I haven’t a shred of hard evidence that my book or the Reader’s Digest condensation of it saved the American taxpayer one slim dime in our foreign-aid outlays.

For that matter, I see no evidence that the Friedman-Stigler pamphlet did anything to slow down rent control. Nor can I think of any other of FEE’s publications that had any direct effect on actual legislation.

On the surface, as I have said, this seems dreadfully disheartening. But it must be acknowledged that the American ideological situation is much better than if FEE had never come into being. Our institution has inspired the formation of dozens of others. Increasing numbers of people now know what is wrong. True, we have inflation everywhere, but few countries now try to combat it with general price controls. FEE has provided precisely what its title promised—economic education. Even Adam Smith’s Wealth of Nations, let us remember, did not begin to change actual legislation until many years after its original appearance.

Let me resume our history. In 1948 FEE published F. A. Harper’s 71-page pamphlet on High Prices, and in 1949 Harper’s 159-page book Liberty: A Path to its Recovery. Frédéric Bastiat’s 75-page pamphlet, The Law, was translated by Dean Russell and published by FEE in 1950. So far, the Foundation has distributed 344,000 copies.

I come to one final item. It was in December, 1958, that Leonard first published his essay entitled “I, Pencil.” The theme of that article, as most of you will remember, is that “no single person on the face of this earth knows how to make a pencil.” It is a little classic—the essay of Leonard’s that is certain to be long, long remembered....

3

Understanding “Austrian” Economics

“Austrian” economics owes its name to the historic fact that it was founded and first elaborated by three Austrians—Carl Menger (1840–1921), Friedrich von Wieser (1851–1926), and Eugen von Bohm-Bawerk (1851–1914). The latter two built upon Menger, though Bohm-Bawerk, in particular, made important additional contributions.

Menger’s great work, translated into English (but not until seventy-nine years later!) under the title of Principles of Economics, was published in 1871. In the same year, by coincidence, W. Stanley Jevons in England published his Theory of Political Economy. Both authors independently developed the concept now known as “marginal utility.” (Menger never used the term. Jevons called it “final degree of utility.” It was Wieser who first employed the German term Grenznutzen, which translates as “marginal utility.”)

But as few American or British economists read German in the original, it was years before the real extent of the revolution begun by Menger was realized outside of German-speaking countries. For it was Menger, by recognizing most fully the implications of the marginal-utility concept, who opened up new paths and, so to speak, turned the old classical economics upside-down.

Menger insists throughout his work that value is essentially subjective, and that therefore economics must be in the main a subjective science. Goods have no inherent value in themselves. They are valued because they help to satisfy some human want or need. A given quantity or unit of a certain good will satisfy a man’s most intense desire or need. He may also want a second, third, or fourth increment. But after each unit consumed or employed, his desire or need for: a further unit of that good may be less intense, and may finally become completely satisfied.

It follows that each increment of that good at his disposal will have a reduced value to him. But as no unit of the total available quantity of that good can have a greater value in exchange than any other (of the same quality), it follows further that no other unit will be worth more in the market than the “final” unit of the supply. Thus in a given community the exchange value of a given increment of each good will be determined by the relation between its total available quantity and the intensity of the human need or want that it fills.

So far this may seem like little more than a refinement on the old classical doctrine that value and price are determined by supply and demand. It seems merely to state that doctrine in subjective rather than objective terms. But then Menger comes to point out some of its implications. The values of goods are mutually interdependent. Bread is valued because it meets a direct consumption need. Flour is valued because it is needed to bake bread. Wheat is valued because it is needed to produce flour. Plows, seed, land and labor are valued because they are necessary to produce wheat, and so on.

Values are also interdependent because, for example, if one raw material necessary in combination for the production of a final product is missing, that lack reduces the usefulness and value of the other raw materials needed.

Goods wanted and ready for direct use or consumption are called by Menger “goods of the first order.” Raw materials and other factors necessary to produce these are called “goods of the second order.” Materials, machinery, labor and other factors needed in turn to produce these goods of the second order are called goods of the third order, and so on. These goods of the second, third, and other “higher” orders are valued because of the consumption goods that they produce.

Thus while the classical Ricardian doctrine held that the “normal” value of consumption goods was determined by their “cost of production,” the Austrian doctrine holds that the “cost of production” itself is ultimately determined by the value of consumption goods.

These two doctrines can be partly reconciled in the statement that though what a good has cost to produce cannot directly determine its value, what it will cost to produce determines how much of it will continue to be made. It is the limit that cost of production puts upon the total quantity of a good produced that determines its marginal value and therefore its market price. Thus there is a constant tendency for marginal cost of production and market price to equal each other, though not because the first directly determines the second.

Something should be said also about the sharp distinction between the Ricardian and the Austrian concept of “cost.” The Ricardian (and the modern businessman) thinks of cost as a money outlay. But the Austrian economist has a much wider concept, what economists now call “opportunity” costs, or “foregone opportunity” costs. Such costs exist, of course, not only in business but in all our decisions and actions in life. The cost of learning French in any given period is to forego learning German, or to learn less mathematics, or to give up some tennis or bridge, and so on.

Menger emphasizes the importance of time and the role of uncertainty in the whole productive process. He also points out that no single good, no matter how abundant, can maintain life and welfare, but that these depend upon the production of combinations of goods of different kinds in the proper proportions. And he points out, finally, that the process of production cannot be expected to go on at an adequate rate unless there is adequate protection of property.

The economic value of goods, to repeat, depends upon their respective quantities in relation to the human needs they meet. It does not necessarily depend upon the amount of labor expended in their production. To quote from Menger’s Principles of Economics: “If there were a society where all goods were available in amounts exceeding the requirements for them, there would be no economic goods nor any ‘wealth’ (p. 109) .... Hence we have the queer contradiction that a continuous increase of the objects of wealth would have, as a necessary final consequence, a diminution of wealth (p. 110).”

(In other words, Menger pointed out more than a century ago a basic fallacy in the now-fashionable national income statistics.)

“The value of goods arises from their relationship to our needs, and is not inherent in the goods themselves (p. 120) .... Objectification of the value of goods, which is entirely subjective in nature, has nevertheless contributed very greatly to confusion about the basic principles of our science (p. 121) .... The importance that goods have for us and which we call value is merely imputed (p. 139).

“There is no necessary and direct connection between the value of a good and whether, or in what quantities, labor and other goods of higher order were applied to its production .... Whether a diamond was found accidentally or was obtained from a diamond pit with the employment of a thousand days of labor is completely irrelevant for its value (p. 146).”

Menger goes on to discuss further how higher goods, including capital goods, get their value: “It is evident that the value of goods of higher order is always and without exception determined by the prospective value of the goods of lower order in whose production they serve (p. 150).”

He outlines a theory of interest, but he leaves it vague. On page 156 of Principles of Economics he tells us: “We have reached one of the most important truths of our science, the ‘productivity of capital.’” But he emphasizes that this productivity occurs only through the passage of time, and that therefore the market value of presently existing and available goods is at a “discount” compared with the expected value of equivalent goods in the future.

A Time-Preference Theory

This suggests that Menger leaned more toward a “time preference” than a “productivity” theory of interest, though the distinction between these theories was not sharpened and made explicit until the publication of Bohm-Bawerk Capital and Interest in 1884 and his Positive Theory of Capital in 1888. Bohm-Bawerk laid great emphasis upon the superior productivity of “roundabout” processes of production, and therefore (after a brilliant demolition of productivity theories of interest) ended by himself offering a theory of interest that combined productivity and time preference. Nearly all “Austrians” today, however, following the lead of Frank A. Fetter and later of Ludwig von Mises, support a pure time-preference theory.

To return to Menger: his Principles of Economics next presents a “theory of exchange.” In this he points out that men do not buy from or sell to or exchange with each other merely because of a “propensity of men to truck and barter,” as implied by Adam Smith, but because each man seeks to maximize his satisfactions by exchanging what he values less for what he values more. In this way the satisfaction of all is increased. Exchange is thus an integral part of the whole process of production. What is being produced is value. Menger’s whole theory of price, to repeat, is developed on the basis of “the subjective character of value.”

The final chapter of Menger’s Principles is on “The Theory of Money.” This does not explicitly discuss such subjects as interest rates or inflation, but deals solely with fundamentals, especially the origin and evolution of money. “Money is not the product of an agreement on the part of economizing men nor the product of legislative acts. No one invented it (p. 262).” It developed out of barter. Because it so seldom happened that A and B each had and was willing to offer exactly what the other wanted, triangular and indirect barter began to take place. Men first offered their specialized goods for more “marketable” goods more widely wanted, in the hope that they could exchange these, in turn, for the particular goods that they themselves wanted. As a result these more “saleable” goods became still more saleable because of this extra demand. The most saleable of all finally became “money.” Historically, all kinds of goods have served as money, though it later came down to coins of precise weights of copper, silver, or gold.

Money is not a “measure of value,” though it is legitimate to call it a measure of price. It is the only commodity in which all others can be evaluated without roundabout procedures. It is the most appropriate form in which people can save and store part of their wealth. The right of coinage has generally been left to governments, even though “they have so often and so greatly misused their power (p. 283).”

I may have seemed to devote a disproportionate amount of space to Menger, but the special contributions of Austrian economics can be most clearly realized, it seems to me, if we begin by dwelling in some detail on those of its originator.

Menger’s first important successor as an “Austrian” economist was Friedrich von Wieser, who, beginning in 1884, published several books elaborating, rounding out, and refining Menger’s theory of value, clarifying especially problems of cost, “imputation,” and distribution.

The next great successor was Eugen von Bohm-Bawerk, whose trailblazing contributions in Capital and Interest, in 1884, and the Positive Theory of Capital, in 1888, have already been referred to. In addition, Bohm-Bawerk wrote a brilliant demolition of Marx’s Das Kapital in 1896, in a comparatively short work first translated into English under the title Karl Marx and the Close of His System. In this essay Bohm-Bawerk exposed particularly the fallacies in Marx’s labor theory of value and his “exploitation” theories, which the latter had derived as a supposed corollary from errors of Ricardo. It should be emphasized that it was the analysis of Austrian economics that made Bohm’s refutation of Marx so conclusive. No refutation based on the assumptions of the old classical economics could have been as devastating.

After the passing of its three founders—Menger, Wieser, and Bohm-Bawerk—Austrian economics fell for a long time into eclipse. It was not so much refuted as neglected. English-speaking economists began devoting themselves to such matters as mathematical treatment of problems of “general equilibrium.” The Austrian view was revived mainly by one man, an Austrian by birth as well as an “Austrian” by conviction—Ludwig von Mises (1881–1973). He made his influence felt both by his written works and by his oral teachings. Among his early distinguished students and followers were Gottfried Haberler, Fritz Machlup, Oskar Morgenstern, Lionel (now Lord) Robbins, and, most influential of all, F. A. Hayek (b. 1899).

Ludwig von Mises was prolific, but his principal contributions were made in three masterpieces. These were The Theory of Money and Credit, first published in German in 1912, Socialism: An Economic and Sociological Analysis, also first published in German in 1922, and Human Action, which grew out of a first German version appearing in 1940, but was not published in Mises’ own rewritten English version until 1949.

Mises on Human Action

Though there is now a gratifying number of able young American economists writing in the Austrian tradition, Human Action still stands as the most complete, powerful, and unified presentation of Austrian economics in any single volume. Mises always generously acknowledged his indebtedness to his predecessors. He recalled in a short autobiography (Notes and Recollections, 1978) that around Christmas, 1903 he read Menger’s Principles of Economics for the first time. “It was the reading of this book,” he wrote, “that made an ‘economist’ of me.”

It would carry me to too great length to itemize and explain all the contributions to economics that Mises made, and I will content myself with mentioning only two. He was the first to prove that it was impossible for socialism to undertake “economic calculation”; and he made one of the most important contributions of any economist toward solving the problem of “the trade cycle.”

Because Mises so uncompromisingly rejected government interventionism in all its forms, he acquired the reputation of a “laissez-faire extremist” during most of his lifetime, and was scandalously neglected by the majority of academic economists. But because Hayek elaborated his own ideas in a more conciliatory form, his writings attracted more attention from the academic world, and he leapt into prominence in 1931 with his own contribution to the theory of the trade cycle, Prices and Production, along lines similar to Mises’. The result is entitled to be called the “Mises-Hayek” theory.

Hayek is also a prolific writer, but though he has written volumes on money, on the trade cycle, on inflation, and on The Pure Theory of Capital (1941), he has never attempted a comprehensive book on economic principles. Of late years he has turned his attention mainly to the realms of politics, ethics, and law, and has written profound and widely-discussed treatises on The Constitution of Liberty (1960) and a three-volume work on Law, Legislation and Liberty, completed in 1979. He has been more widely influential in his own lifetime than was Mises, and was awarded the Nobel Prize in Economics in 1974.

Today’s zealous group of younger “Austrian” economists, though all acknowledging their great debt to Mises, do not treat his Human Action as the final word on the subject, but are exploring a whole range of economic problems with a new vigor. Murray Rothbard (b. 1926), a student of Mises, produced a two-volume treatise, Man, Economy, and State (1962), along Misesian lines, with notable clarity of exposition, and making important contributions of his own, pointing out the fallacies, for example, in the prevailing theories of “monopoly price.”

Israel M. Kirzner (b. 1930), professor of economics at New York University, another former Mises student, although he has not undertaken a comprehensive book of “principles,” has explored individual problems in five separate volumes: The Economic Point of View (1960), Market Theory and the Price System (1963), An Essay on Capital (1966), Competition and Entrepreneurship (1973), and Perception, Opportunity, and Profit (1979). His work is distinguished by great scholarship, systematic thoroughness, and precision of statement. He has brought further illumination to every problem he has dealt with.

Finally, no reference to individual writers would be adequate that did not include Professor Ludwig M. Lachmann (b. 1906). Though he is one of the most original and profound among living Austrian economists, his work has not yet nearly achieved the recognition it merits. Among his principal books are Capital and Its Structure (1956; republished in 1978), The Legacy of Max Weber (1971) and Capital, Expectations, and the Market Process (1977). His writings are notable for their emphasis on the role of expectations and for their thoroughgoing application of a “radical subjectivism.”

Restrictions of space permit me merely to list the names of half a dozen of the now increasing group of important “Austrian” economists: S. C. Littlechild, Gerald P. O’Driscoll, Jr., Mario J. Rizzo, Hans Sennholz, Sudha R. Shenoy, and Lawrence H. White. But so arbitrarily short a list must omit a number of names unjustly.

The “Austrian” economists, more consistently than those of any other school, have criticized nearly all forms of government intervention in the market—especially inflation, price controls, and schemes for redistribution of wealth or incomes—because they recognize that these always lead to erosions of incentives, to distortions of production, to shortages, to demoralization, and to similar consequences deplored even by the originators of the schemes. But personal value judgments of government policy are of course not an essential part of Austrian theory.

The present vigorous Austrian School is not content merely to keep re-expounding the principles developed by Menger and Mises, but is addressing itself constantly to new problems, or a more thorough probing of old ones. This is dramatically evident in a recent volume, New Directions in Austrian Economics (1978), edited by Louis M. Spadaro, with contributions from eleven writers. Professor Spadaro himself, in his concluding essay, outlines some of the still unresolved problems that Austrians ought to explore. In some sense, however, practically all eleven contributions do the same thing.

I have heard it said (by an economist of another school) that there is no such thing as Austrian economics; there is only good economics or bad. But in the same way we could say that there is no such thing as Ricardian economics, Marxist economics, Keynesian economics, and so on. This sort of statement, though true in one sense, is false in another. It is fallacious in implying that if anything is classified in accordance with one characteristic, it cannot be classified in accordance with any other. It is like saying that there are no such persons as Americans or Japanese; there are only men and women. Those who call themselves “Austrian” economists give themselves this label because of its historic origins; but they happen also to believe that its fundamental theses are true, and offer more promise than any other for further progress in economic science.

Perhaps something should be said about the chief differences today between Austrian economics and what we may call “orthodox” or “mainstream” economics. The difficulty here is that “mainstream” economics itself would be hard to define. Economists are still divided into a number of recognizable “schools”—neoclassicists, Keynesians, the Chicago school, the Lausanne school, and so on. The limits of space forbid me to go into the distinguishing doctrines of each of these schools. But one outstanding difference of the Austrians from all of these lies in their method of reasoning. The Austrians emphasize methodological individualism. That is, they not only begin by emphasizing human actions, preferences, and decisions, but individual actions, preferences, and initiatives. Mainstream economists are concerned with “macroeconomics,” with averages and aggregates; and those of the Lausanne school, trying to reduce economics to an “exact” science, and therefore seeking to quantify everything, are obsessed with complicated mathematical equations that try to stipulate the conditions of “general equilibrium.”

Equilibrium a Useful Concept, Though Never a Reality

Now “general equilibrium” is defined by these economists (when it ever is) in highly abstract and obscure phrases; but for laymen it might be defined as a condition in which all the tens of thousands or millions of commodities and services are being turned out in the exact quantities and proportions in which they are relatively wanted by producers or consumers, so that there are no “shortages” or “surpluses.” All prices reflect costs, and there is no more profit in making one commodity than any other. (In fact, there is no “pure” profit at all.) These economists admit that at any moment this condition does not exist, but they contend that there is a constant long-run tendency toward equilibrium, because when there is an unusual profit in turning out some one product, producers will turn out more of it, and when there is a loss in turning out some other product, producers will make less of it, or transfer to making something else.

Now the concept of equilibrium (or much better, the Mises concept of an “evenly rotating economy”) can have great usefulness as a tool of thought. We are often better able to analyze the problems of change if we begin with the fictitious assumption of a state of affairs in which certain changes are hypothetically eliminated. But this is a purely imaginary construction, a useful fiction. It should never be confused with reality.

While a true “equilibrium” between the marginal cost of production and the market price of any one commodity is a condition that is seldom reached, even momentarily, a “general equilibrium” in the relative production, supply price and demand price of all commodities and services is a condition that is never reached, even for an instant of time.

The concept itself is extremely nebulous. Neoclassical economists seem obsessed today with setting up complicated algebraic equations stipulating the conditions of equilibrium or functional relations under “perfect competition” and the like, but it is difficult to specify precisely what their x’s and y’s stand for. They cannot refer to physical quantities, because you cannot add apples to horses, or a ton of gold watches to a ton of sand. One might add or compare quantities times prices, but what would be the meaning of the total, or any of the parts that make it up? The price, even of one commodity, differs from hour to hour, place to place, and transaction to transaction. The value of the currency itself fluctuates and constantly changes its exchange ratio with commodities. If we simply add or compare “values,” then we must recognize that values are purely subjective. They are impossible to measure or to total because they differ with each individual.

If we pass over these fundamental difficulties, where do we arrive? Even if we assume that there may be a persistent long-run tendency toward general equilibrium, we must admit that there is also a persistent short-run and long-run tendency toward the persistence of disequilibrium.

This is not only because there is a tendency of entrepreneurs, in increasing or reducing production in response to market and profit signals, to overshoot the mark, but because individual entrepreneurs, so far from making merely automatic responses, are constantly gaining new knowledge, alert to new opportunities, changing methods and reducing production costs, improving products, innovating—turning out entirely new products or inventions. And consumers too are constantly learning, changing tastes, and demanding new products to meet new wants. So Austrian economists seldom speak of market equilibrium, but of the market process.

My own suspicion is that the enormous attention now being devoted to stipulating the mathematical conditions of “general equilibrium” is a pursuit of a will-o’-the-wisp, of questionable help in solving any real economic problem.

But space forbids me to go into too many detailed contrasts. Let me sum up briefly the main Austrian theses once again, this time not in my own words or in Menger’s, but in those of two prominent living “Austrians.”

“Beginning in the 1870’s in Vienna, Austria,” writes Professor Kirzner, “the school was distinguished by its emphasis on the subjective elements in economic analysis, on the significance of time in production processes, and on the role of error and uncertainty in economic phenomena.” (His italics.)

The summarization by Professor Lachmann is remarkably similar: “The first, and most prominent, feature in Austrian economics is a radical subjectivism, today no longer confined to human preferences but extended to expectations .... Secondly, Austrian economics displays an acute awareness of the many facets of time that are involved in the complex network of interindividual relations .... In the subjective revolution of the 1870’s the first step in the direction of subjectivism was taken when it was realized that value, so far from being inherent in goods, constitutes a relationship between an appraising mind and the object of its appraisal.” (New Directions in Austrian Economics, pp. 1–3.)

All the rest of Austrian economics follows from these basic insights. Let me conclude with my own opinion that any economic analysis that fails to embody such insights cannot be entirely sound.

4

The Problem of Poverty

The history of poverty is almost the history of mankind. The ancient writers have left us few specific accounts of it. They took it for granted. Poverty was the normal lot.

The ancient world of Greece and Rome, as modern historians reconstruct it, was a world where houses had no chimneys, and houses heated in cold weather by a fire on a hearth or a fire-pan in the center of the room, were filled with smoke whenever a fire was started, and where consequently the walls, ceiling, and furniture were blackened and more or less covered by soot at all times; where light was supplied by smoky oil lamps which, like the houses in which they were used, had no chimneys, and where eye-trouble as a result of all this smoke was general. Greek dwellings had no heat in winter, no adequate sanitary arrangements, and no washing facilities.[1]

Above all there was hunger and famine, so chronic that only the worst examples were recorded. We learn from the Bible how Joseph advised the pharaohs on famine relief measures in ancient Egypt. In a famine in Rome in 436 B.C., thousands of starving people threw themselves into the Tiber.

Conditions in the Middle Ages were no better:

“The dwellings of medieval laborers were hovels—the walls made of a few boards cemented with mud and leaves. Rushes and reeds or heather made the thatch for the roof. Inside the houses there was a single room, or in some cases two rooms, not plastered and without floor, ceiling, chimney, fireplace, or bed, and here the owner, his family, and his animals lived and died. There was no sewage for the houses, no drainage, except surface drainage for the streets, no water supply beyond that provided by the town pump, and no knowledge of the simplest forms of sanitation. Tye and oats furnished the bread and drink of the great body of the people of Europe.... Precariousness of livelihood, alternations between feasting and starvation, droughts, scarcities, famines, crime, violence, murrains, scurvy, leprosy, typhoid diseases, wars, pestilences and plagues’—made part of medieval life to a degree with which we are wholly unacquainted in the western world of the present day.”[2]

Frequent Famines

And, ever-recurring, there was famine:

“In the eleventh and twelfth centuries famine [in England] is recorded every fourteen years, on an average, and the people suffered twenty years of famine in two hundred years. In the thirteenth century the list exhibits the same proportion of famine; the addition of high prices made the proportion greater. Upon the whole, scarcities decreased during the three following centuries; but the average from 1201 to 1600 is the same, namely, seven famines and ten years of famine in a century.”[3]

One writer has compiled a detailed summary of twenty-two famines in the thirteenth century in the British Isles, with such typical entries as: “1235: Famine and plague in England; 20,000 persons die in London; people eat horseflesh, bark of trees, grass, etc.”[4]

But recurrent starvation runs through the whole of human history. The Encyclopaedia Britannica lists thirty-one major famines from ancient times down to 1960. Let us look first at those from the Middle Ages to the end of the eighteenth century:

1005: famine in England. 1016: famine throughout Europe. 1064–72: seven years’ famine in Egypt. 1148–59: eleven years’ famine in India. 1344–45: great famine in India. 1396–1407: the Durga Devi famine in India, lasting twelve years. 1586: famine in England giving rise to the Poor Law system. 1661: famine in India; no rain fell for two years. 1769–70: great famine in Bengal; a third of the population—10 million persons—perished. 1783: the Chalisa famine in India. 1790–92: the Deji Bara, or skull famine in India, so called because the dead were too numerous to be buried.[5]

This list is very incomplete—as probably any list would be. In the winter of 1709, for example, in France, more than a million persons, according to the figures of the time, died out of a population of 20 millions.[6] In the eighteenth century, in fact, France suffered eight famines, culminating in the short crops of 1788, which were one of the causes of the Revolution.

I am sorry to be dwelling in such detail on so much human misery. I do so only because mass starvation is the most obvious and intense form of poverty, and this chronicle is needed to remind us of the appalling dimensions and persistence of the evil.

Thomas R. Malthus

In 1798, a young English country parson, Thomas R. Malthus, delving into this sad history, anonymously published an Essay on the Principles of Population as it affects the Future Improvement of Society. His central doctrine was that there is a constant tendency for population to outgrow food supply and production. Unless checked by self-restraint, population will always expand to the limit of subsistence, and will be held there by disease, war, and ultimately famine. Malthus was an economic pessimist, viewing poverty as man’s inescapable lot. He influenced Ricardo and the other classical economists of his time, and it was the general tone of their writings that led Carlyle to denounce political economy as “the Dismal Science.”

Malthus had in fact uncovered a truth of epoch-making importance. His work first set Charles Darwin on the chain of reasoning which led to the promulgation of the theory of evolution by natural selection. But Malthus greatly overstated his case, and neglected to make essential qualifications. He failed to see that, once men in any place (it happened to be his own England) succeeded in earning and saving a little surplus, made even a moderate capital accumulation, and lived in an era of political freedom and protection for property, their liberated industry, thought, and invention could at last make it possible for them enormously and acceleratively to multiply per capita production beyond anything achieved or dreamed of in the past. Malthus announced his pessimistic conclusions just in the era when they were about to be falsified.

The Industrial Revolution had begun, but nobody had yet recognized or named it. One of the consequences of the increased production it led to was to make possible an unparalleled increase in population. The population of England and Wales in 1700 is estimated to have been about 5,500,000; by 1750 it had reached some 6,500,000. When the first census was taken in 1801 it was 9,000,000; by 1831 it had reached 14,000,000. In the second half of the eighteenth century population had thus increased by 40 per cent, and in the first three decades of the nineteenth century by more than 50 per cent. This was not the result of any marked change in the birth rate, but of an almost continuous fall in the death rate.[7] People were now producing the food supply and other means to support a greater number of them?

This accelerating growth in population continued. The enormous forward spurt of the world’s population in the nineteenth century was unprecedented in human experience. “In one century, humanity added much more to its total volume than it had been able to add during the previous million years.”[8]

Starvation in Recent Times

But we are getting ahead of our story. We are here concerned with the long history of human poverty and starvation, rather than with the short history of how mankind began to emerge from it. Let us come back to the chronicle of famines, this time from the beginning of the nineteenth century:

1838: intense famine in North-Western Provinces (Uttar Pradesh), India; 800,000 perished. 1846–47: famine in Ireland, resulting from the failure of the potato crop. 1861: famine in northwest India. 1866: famine in Bengal and Orissa; 1,000,000 perished. 1869: intense famine in Rajputana; 1,500,000 perished. 1874: famine in Bihar, India. 1876–78: famine in Bombay, Madras, and Mysore; 5,000,000 perished. 1877–78: famine in north China; 9,500,000 said to have perished. 1887–89: famine in China. 1891–92: famine in Russia. 1897: famine in India; 1,000,000 perished. 1905: famine in Russia.

1916: famine in China. 1921: famine in the U.S.S.R., brought on by communist economic policies; at least 10,000,000 persons seemed doomed to die, until the American Relief Administration, headed by Herbert Hoover, came in and reduced direct deaths to about 500,000. 1932–33: famine again in the U.S.S.R., brought on by Stalin’s farm collectivization policies; “millions of deaths.” 1943: famine in Bengal; about 1,500,000 perished. 1960–61: famine in the Congo.[9]

Industrialization Prevents Famine in Western World

We can bring this dismal history down to date by mentioning the famines in recent years in Communist China and the war-created famine of 1968–70 in Biafra.

The record of famines since the end of the eighteenth century does, however, reveal one striking difference from the record up to that point. Mass starvation did not fall on a single country in the now industrialized Western world. (The sole exception is the potato famine in Ireland; and even that is a doubtful exception because the Industrial Revolution had barely touched mid-nineteenth century Ireland—still a one-crop agricultural country.)

It is not that there have ceased to be droughts, pests, plant diseases, and crop failures in the modern Western world, but that when they occur there is no famine, because the stricken countries are quickly able to import foodstuffs from abroad, not only because the modern means of transport exist, but because, out of their industrial production, these countries have the means to pay for such foodstuffs.

In the Western world today, in other words, poverty and hunger—until the mid-eighteenth century the normal condition of mankind—have been reduced to a residual problem affecting only a minority; and that minority is being steadily reduced.

But the poverty and hunger still prevailing in the rest of the world, in most of Asia, of Central and South America, and of Africa—in short, even now afflicting the great majority of mankind—show the appalling dimensions of the problems still to be solved.

And what has happened and is still happening in many countries today serves to warn us how fatally easy it is to destroy all the economic progress that has already been achieved. Foolish governmental interferences led the Argentine, once the world’s principal producer and exporter of beef, to forbid in 1971 even domestic sale of beef on alternate weeks. Soviet Russia, one of whose chief economic problems before it was communized was to find an export market for its huge surplus of grains, has been forced to import grains from the capitalist countries. One could go on to cite scores of other examples, with ruinous consequences, all brought on by short-sighted governmental policies.

More than thirty years ago, E. Parmalee Prentice was pointing out that mankind has been rescued from a world of want so quickly that the sons do not know how their fathers lived:

“Here, indeed, is an explanation of the dissatisfaction with conditions of life so often expressed, since men who never knew want such as that in which the world lived during many by-gone centuries, are unable to value at its true worth such abundance as now exists, and are unhappy because it is not greater.”[10]

How prophetic of the attitude of rebellious youth in the 1970’s! The great present danger is that impatience and ignorance may combine to destroy in a single generation the progress that it took untold generations of mankind to achieve.

“Those who cannot remember the past are condemned to repeat it.”

[1] E. Parmalee Prentice, Hunger and History (Harper & Bros., 1939), pp. 39–40.

[2] Ibid., pp. 15–16.

[3]  William Farr, “The Influence of Scarcities and of the High Prices of Wheat on the Mortality of the People of England,” Journal of the Royal Statistical Society, Feb. 16, 1846, Vol. IX, p. 158.

[4] Cornelius Walford, “The Famines of the World,” Journal of the Royal Statistical Society, March 19, 1878, Vol. 41, p. 433.

[5] Article “Famine,” 1965 edition.

[6] Gaston Bouthoul, La population dans la monde, pp. 142–43.

[7] T. S. Ashton. The Industrial Revolution (1760–1830) (Oxford University Press, 1948.), pp. 3–4

[8] Henry Pratt Fairchild, “When Population Levels Off,” Harper’s Magazine, May, 1938, Vol. 176, p. 596.

[9] From articles “Famine” and “Russia,” Encyclopedia Britannica, 1965 edition.

[10] Hunger and History (Harper & Bros., 1939), p. 236.

5

False Remedies for Poverty

From the beginning of history sincere reformers as well as demagogues have sought to abolish or at least to alleviate poverty through state action. In most cases their proposed remedies have only served to make the problem worse.

The most frequent and popular of these proposed remedies has been the simple one of seizing from the rich to give to the poor. This remedy has taken a thousand different forms, but they all come down to this. The wealth is to be “shared,” to be “redistributed,” to be “equalized.” In fact, in the minds of many reformers it is not poverty that is the chief evil but inequality.

These direct redistribution schemes (including “land reform” and “the guaranteed income”) are so immediately relevant to the problem of poverty that they warrant separate treatment. Here I must content myself with reminding the reader that all schemes for redistributing or equalizing incomes or wealth must undermine or destroy incentives at both ends of the economic scale. They must reduce or abolish the incentives of the unskilled and shiftless to improve their condition by their own efforts, and even the able and industrious will see little point in earning anything beyond what they are allowed to keep. These redistribution schemes must inevitably reduce the size of the pie to be redistributed. They can only level down. Their long-run effect must be to reduce production and lead toward national impoverishment.

The problem we face here is that the false remedies for poverty are almost infinite in number. An attempt at a thorough refutation of any single one of them would run to disproportionate length. But some of these false remedies are so widely regarded as real cures or mitigations of poverty that if I do not refer to them, I may be accused of having undertaken a comprehensive analysis of the remedies for poverty while ignoring some of the most obvious.

What I shall do, as a compromise, is to take up some of the more popular of the alleged remedies for poverty and indicate briefly in each case the nature of their shortcomings or the chief fallacies involved in them.[11]

Unions and Strikes

The most widely practiced “remedy” for low incomes in the last two centuries has been the formation of monopolistic labor unions and the use of the strike threat. In nearly every country today this has been made possible to its present extent by government policies that permit and encourage coercive union tactics and inhibit or restrict counteractions by employers. As a result of union exclusiveness, of deliberate inefficiency, of featherbedding, of disruptive strikes and strike-threats, the long-run effect of customary union policies has been to discourage capital investment and to make the average real wage of the whole body of workers lower, and not higher, than it would otherwise have been.

Nearly all of these customary union policies have been dishearteningly shortsighted. When unions insist on the employment of men that are not necessary to do a job (requiring unneeded firemen on Diesel locomotives; forbidding the gang size of dock workers to be reduced below, say, 20 men no matter what the size of the task; demanding that a newspaper’s own printers must duplicate advertising copy that comes in already set in type, etc.) the result may be to preserve or create a few more jobs for specific men in the short run, but only at the cost of making impossible the creation of an equivalent or greater number of more productive jobs for others.

The same criticism applies to the age-old union policy of opposing the use of labor-saving machinery. Labor-saving machinery is only installed when it promises to reduce production costs. When it does that, it either reduces prices and leads to increased production and sales of the commodity being produced, or it makes more profits available for increased reinvestment in other production. In either case its long-run effect is to substitute more productive jobs for the less productive jobs it eliminates. Yet as late as 1970, a book appeared by a writer who enjoys an exalted reputation as an economist in some quarters, opposing the introduction of labor-saving machines in the underdeveloped countries on the ground that they “decrease the demand for labor”![12] The natural conclusion from this would be that the way to maximize jobs is to make all labor as inefficient and unproductive as possible.

Overtime Rates

A similar judgment must be passed on all “spread-the-work” schemes. The existing Federal Wage-Hour Law has been on the books for many years. It provides that the employer must pay a 50 per cent penalty overtime rate for all hours that an employee works in excess of 40 a week, no matter how high the employee’s regular hourly rate of pay.

This provision was inserted at the insistence of the unions. Its purpose was to make it so costly for the employer to work men overtime that he would be obliged to take on additional workers.

Experience shows that the provision has in fact had the effect of narrowly restricting the length of the working week. In the ten-year period, 1960 to 1969 inclusive, the average annual workweek in manufacturing varied only between a low of 39.7 hours in 1960 and a high of 41.3 hours in 1966. Even monthly changes do not show much variation. The lowest average working week in manufacturing in the fourteen months from June, 1969 to July, 1970 was 39.7 hours and the highest was 41 hours.

But it does not follow that the hour-restriction either created more long-term jobs or yielded higher total payrolls than would have existed without the compulsory 50 per cent overtime rate. No doubt in isolated cases more men have been employed than would otherwise have been. But the chief effect of the overtime law has been to raise production costs. Firms already working full standard time often have to refuse new orders because they cannot afford to pay the penalty overtime necessary to fill those orders. They cannot afford to take on new employees to meet what may be only a temporarily higher demand because they may also have to install an equivalent number of additional machines.

Higher production costs mean higher prices. They must therefore mean narrowed markets and smaller sales. They mean that fewer goods and services are produced. In the long run the interests of the whole body of workers must be adversely affected by compulsory overtime penalties.

All this is not to argue that there ought to be a longer workweek, but rather that the length of the work week, and the scale of overtime rates, ought to be left to voluntary agreement between individual workers or unions and their employers. In any case, legal restrictions on the length of the working week cannot in the long run increase the number of jobs. To the extent that they can do that in the short run, it must necessarily be at the expense of production and of the real income of the whole body of workers.

Minimum Wage Laws

This brings us to the subject of minimum-wage laws. It is profoundly discouraging that in the second half of the twentieth century, in what is supposed to be an age of great economic sophistication, the United States should have such laws on its books, and that it should still be necessary to protest against a nostrum so futile and mischievous. It hurts most the very marginal workers it is designed to help.

I can only repeat what I have written in another place.[13] When a law exists that no one is to be paid less than $64 for a 40-hour week, then no one whose services are not worth $64 a week to an employer will be employed at all. We cannot make a man worth a given amount by making it illegal for anyone to offer him less. We merely deprive him of the right to earn the amount that his abilities and opportunities would permit him to earn, while we deprive the community of the moderate services he is capable of rendering. In brief, for a low wage we substitute unemployment.

But I cannot devote more space to this subject here. I refer the reader to the careful reasoning and statistical studies of such eminent economists as Professors Yale Brozen, Arthur Burns, Milton Friedman, Gottfried Haberler, and James Tobin, who have emphasized, for example, how much our continually rising legal minimum wage requirements have increased unemployment in recent years, especially among teen-aged Negroes.

The Mounting Burden of Welfare Plans and Taxes

In the last generation there has been enacted in almost every major country of the world a whole sackful of “social” measures, most of them having the ostensible purpose of “helping the poor” in one respect or another. These include not only direct relief, but unemployment benefits, old-age benefits, sickness benefits, food subsidies, rent subsidies, farm subsidies, veterans’ subsidies—in seemingly endless profusion. Many people receive not only one but many of these subsidies. The programs often overlap and duplicate each other.

What is their net effect? All of them must be paid for by that chronically forgotten man, the taxpayer. In perhaps half the cases, Paul is in effect taxed to pay for his own benefits, and gains nothing on net balance (except that he is forced to spend his earned money in other directions than he himself would have chosen). In the remaining cases, Peter is forced to pay for Paul’s benefits. When any one of these schemes, or a further expansion of it, is being proposed, its political sponsors always dwell on what a generous and compassionate government should pay to Paul; they neglect to mention that this additional money must be seized from Peter. In order that Paul may receive the equivalent of more than he earns, Peter must be allowed to keep less than he earns.

The mounting burden of taxation not only undermines individual incentives to increased work and earnings, but in a score of ways discourages capital accumulation and distorts, un-balances, and shrinks production. Total real wealth and income is made smaller than it would otherwise be. On net balance there is more poverty rather than less.

But increased taxation is so unpopular that most of these “social” handout schemes are originally enacted without enough increased taxation to pay for them. The result is chronic government deficits, paid for by the issuance of additional paper money. And this has led in the last quarter-century to the constant depreciation of the purchasing power of practically every currency in the world. All creditors, including the buyers of government bonds, insurance policy holders, and the depositors in savings banks, are systematically cheated. Once more the chief victims are the working and saving families with moderate incomes.

Yet everywhere this monetary inflation, eventually so disruptive and ruinous to orderly balanced production, is rationalized by politicians and even by putative economists as necessary for “full employment” and “economic growth.” The truth is that if this monetary inflation is persisted in, it can only lead to economic disaster.

Price and Wage Controls

Many of the very people who originally advocate inflation (or the policies which inevitably lead to it), when they see its consequences of raising prices and money wages, propose to cure the situation, not by halting the inflation, but by having the government impose price and wage controls. But all such attempts to suppress the symptoms enormously increase the harm done. Price and wage controls, to precisely the extent that they can be made temporarily effective, only distort, disrupt, and reduce production—again leading toward impoverishment.

Yet here again, as with the other false remedies for poverty, it would be an unjustifiable digression to spell out in detail all the fallacies and evil consequences of special subsidies, improvident government spending, deficit financing, monetary inflation, and price-and-wage controls. I have myself dealt with these subjects in two previous books: The Failure of the New Economics[14] and What You Should Know About Inflation;[15] and there is, of course, an extensive literature on the subject. The chief point to be reiterated here is that these policies do not help to cure poverty.

Another false remedy for poverty is the progressive income tax, as well as a very heavy burden of capital-gains taxes, inheritance taxes, and corporate income taxes. All of these have the effect of discouraging production, investment, and capital accumulation. To that extent they must prolong rather than cure poverty.

Outright Socialism

We come now to the final false remedy for poverty to be considered in this article—outright socialism.

Now the word “socialism” is loosely used to refer to at least two distinct proposals, usually but not necessarily tied together in the minds of the proposes. One of these is the redistribution of wealth or income—if not to make incomes equal, at least to make them much more nearly equal than they are in a market economy. But the majority of those who propose this objective today think that it can be achieved by retaining the mechanisms of private enterprise and then taxing the bigger incomes to subsidize the smaller incomes.

By “outright socialism” I refer to the Marxist proposal for “the public ownership and control of the means of production.”

Now one of the most striking differences between the 1970’s and the 1950’s, or even the 1920’s, is the rise in the political popularity of Socialism Two—the redistribution of income—and the decline in the political popularity of Socialism One—government ownership and management. The reason is that the latter, in the last half-century, has been so widely tried. Particularly in Europe there is now a long history of government ownership and management of such “public utilities” as the railroads, the electric light and power industries, the telegraph and telephone. And everywhere the history has been much the same—deficits practically always, and in the main poor service compared with what private enterprise supplied. The mail service, a government monopoly nearly everywhere, is also nearly everywhere notorious for its deficits, inefficiency, and inertia. (The contrast with the performance of “private” industry is often blurred, however, in the United States, for example, by the slow strangulation of the railroads, telephone, and power companies by government regulation and harassment.)

As a result of this history, most of the socialist parties in Europe find that they can no longer attract votes by promising to nationalize even more industries. But what is still not recognized by the socialists, by the public, or even by more than a small minority of economists, is that present government ownership and management of industries, not only in “capitalist” Europe but even in Soviet Russia, works only as well as it does because it is parasitic for accounting on the world market prices established by private enterprise.

Too Much Taken for Granted

We are so accustomed to the miracle of private enterprise that we habitually take it for granted. But how does private industry solve the incredibly complex problem of turning out tens of thousands of different goods and services in the proportions in which they are wanted by the public? How does it decide how many loaves of bread to produce and how many overcoats, how many hammers and how many houses, how many pins and how many Pontiacs, how many teaspoons and how many telephones? And how does it decide the no less difficult problem of which are the most economical and efficient methods of producing these goods?

It solves these problems through the institutions of private property, the free market, and the existence of money—through the interrelations of supply and demand, costs and prices, profits and losses.

When shoes are in deficient supply compared with the marginal cost of producing them, their price, and therefore the margin of profit in producing them, will increase in relation to the price and margin of profit in producing other things. Therefore, the existing producers will turn out more shoes, and perhaps new producers will order machinery to make them. When the new supply catches up with existing demand, the price of shoes, and the profit of making them, will fall; the supply will no longer be increased. When hats go out of fashion and fewer are worn, the price will decline, and some may remain unsalable. Fewer hats will be made. Some producers will go out of business, and the previous labor and salvageable capital devoted to producing hats will be forced into other lines. Thus, there will be a constant tendency toward equalization of profit margins (comparative risks considered) in all lines. These yearly, seasonal, or daily changes in supply and demand, cost and price, and comparative profit margins, will tend to maintain a delicate but constantly changing balance in the production of the tens of thousands of different services and commodities in the proportions in which consumers demand them.

The Competitive Role

The same guide of comparative money prices and profits will also decide the kinds and proportions of capital goods that are turned out, as well as which one of hundreds of different possible methods of production is adopted in each case.

In addition, within each industry as well as between industries, competition will be taking place. Each producer will not only be trying to turn out a better product than his competitors, a product more likely to appeal to buyers, but he will also be trying to reduce his cost of production as low as he possibly can in order to increase his margin of profit—or perhaps even, if his costs are already higher than average, to meet his competition and stay in business. This means that competition always tends to bring about the least-cost method of production—in other words, the most economical and efficient method of production.

Those who are most successful in this competition will acquire more capital to increase their production still further; those who are least successful will be forced out of the field. So capitalist production tends constantly to be drawn into the hands of the most efficient.

But how can this appallingly complex problem of supplying goods in the proportions in which consumers want them, and with the most economical production methods, be solved if the institutions of capitalism—private ownership, competition, free markets, money, prices, profits and losses—do not exist?

The Baffling Problem of Economic Calculation

Suppose that all property—at least in the means of production—is taken over by the state, and that banks and money and credit are abolished as vicious capitalist institutions; how is the government to solve the problem of what goods and services to produce, of what qualities, in what proportions, in what localities, and by what technological methods?

There cannot, let us keep in mind, be a hundred or a thousand different decisions by as many different bureaucrats, with each allowed to decide independently how much of one given product must be made. The available amount of land, capital, and labor is always limited. The factors of production needed to make A are therefore not available for B or C; and so on. So there must be a single unified overall decision, with the relative amounts and proportions to be made of each commodity all planned in advance in relation to all the others, and with the factors of production all allocated in the corresponding proportions.

So there must be only one Master Production Plan. This could conceivably be adopted by a series of majority votes in a parliament, but in practice, to stop interminable debate and to get anything done, the broad decisions would be made by a small handful of men, and the detailed execution would probably be turned over to one Master Director who had the final word.

How would he go about solving his problem?

We must keep in mind that without free competitive markets, money, and money-prices, he would be helpless. He would know, of course (if the seizure of the means of production has only recently occurred), that people under a capitalist system lived in a certain number of houses of various qualities, wore a certain amount of clothing consisting of such and such items and qualities, ate a certain amount of food consisting of such and such meats, dairy products, grains, vegetables, nuts, fruits, and beverages. The director could simply try to continue this pre-existing mix indefinitely. But then his decisions would be completely parasitic on the previous capitalism, and he would produce and perpetuate a completely stationary or stagnant economy. If such an imitative socialism had been put into effect in, say, the France of 1870, or even of 1770, or 1670, and France had been cut off from foreign contacts, the economy of France would still be producing the same type and per capita quantity of goods and services, and by the same antiquated methods, as those that had existed in 1870, or even in 1770, or 1670, or whatever the initial year of socialization.

It is altogether probable that even if such a slavishly imitative production schedule were deliberately adopted it would overlook thousands of miscellaneous small items, many of them essential, because some bureaucrat had neglected to put them into the schedule. This has happened time and again in Soviet Russia.

What Shall Be Produced?

But let us assume that all these problems are somehow solved. How would the socialist Planners go about trying to improve on capitalist production? Suppose they decided to increase the quantity and quality of family housing. As total production is necessarily limited by existing technological knowledge and capital equipment, they could transfer land, capital, and labor to the production of more such housing only at the cost of producing less food, or less clothing, or fewer hospitals, or schools, or cars, or roads, or less of something else. How could they decide what was to be sacrificed? How would they fix the new commodity proportions?

But putting aside even this formidable problem, how would the Planners decide what machines to design, what capital goods to make, what technological methods to use, and at what localities, to produce the consumers’ goods they wanted and in the proportions they wanted them?

This is not primarily a technological question, but an economic one. The purpose of economic life, the purpose of producing anything, is to increase human satisfactions, to increase human well-being. In a capitalist system, if people are not willing to pay at least as much for the consumer goods that have been produced as was paid for the labor, land, capital equipment, and raw materials that were used to produce them, it is a sign that production has been misdirected and that some of these productive factors have been wasted. There has been a net decrease in economic well-being instead of an increase.

There are many feasible methods—crucible, Bessemer, open hearth, electric furnace, basic oxygen process—of making steel from iron. In fact, there are today a thousand technically feasible ways of making almost anything out of almost anything. In a private enterprise system, what decides which method will be used at a given place and time is a comparison of prospective costs.

And this necessarily means costs in terms of money. In order to compare the economic efficiency of one productive method with another the methods must be reduced to some common denominator. Otherwise numerical comparison and calculation are impossible. In a market system this common denominator is achieved by comparisons in terms of money and of prices stated in money. It is only by this means that society can determine whether a given commodity is being produced at a profit or a loss, or at what comparative profits or losses any number of different commodities are being produced.

“Playing” Capitalism

In recent years even the most doctrinaire communist countries have become aware of this. They are going to be guided hereafter, they say, by profit and loss. An industry must be profitable to justify itself. So they fix money-prices for everything and measure profit and loss in monetary terms. But this is merely “playing” free markets. This is “playing” capitalism. This imitation is the unintended flattery that the communists now pay to the system they still ostensibly reject and denounce.

But the reason why this mock-market system has so far proved so disappointing is that the communist governments do not know how to fix prices. They have achieved whatever success they have had when they have simply used the quotations they found already existing for international commodities in the speculative markets—i.e., in the capitalist markets—in the Western world. But there are a limited number of such grains and raw materials with international markets. In any case, their prices change daily, and are always for specific grades at specific locations.

In trying to fix prices for commodities and the multitudinous objects not quoted on these international markets the communist countries are at sea. The Marxist labor theory of value is false and therefore useless to them. We cannot measure the value of anything by the number of hours of “labor-time” put into it. There are enormous differences in the skill, quality, and productivity of different people’s labor. Nor can we, as suggested by some Soviet economists, base prices on “actual costs of production.” Costs of production are themselves prices—the prices of raw materials, of factories and machinery, rent, interest, the wages of labor, and so on.

Our Differences Guide Us

And nowhere, in a free market, are prices for long exactly equal to costs of production. It is precisely the differences between prices and costs of production that are constantly, in a free market economy, redirecting and changing the balance of production as among thousands of different commodities and services. In industries where prices are well above marginal costs of production, there will be a great incentive to increase output, as well as increased means to do it. In industries where prices fall below marginal costs of production, output must shrink. Everywhere supply will keep adjusting itself to demand.

Where prices have been set arbitrarily, real profits and losses cannot be determined. If I am a commissar in charge of an automobile factory, and do not own the money I pay out, and you are a commissar in charge of a steel plant, and do not own the steel you sell or retain the money you sell it for, and we are each ordered to show a profit, the first thing each of us will do is to appeal to the Central Planning Board to set an advantageous price (to him) for steel and for automobiles. As an automobile commissar, I will want the price of the cars I sell to be set as high as possible, and the price of the steel I buy to be set as low as possible, so that my own “profit” record will look good or my bonus will be fixed high. But as a steel commissar, you will want the selling price of your steel to be fixed as high as possible, and your own cost prices to be fixed low, for the same reason. But when prices are thus fixed blindly, politically, and arbitrarily, who will know what any industry’s real profits or losses (as distinguished from its nominal bookkeeping profits or losses) have been?

Decentralized Chaos

The problems of centralized direction of an economy are so insuperable that in socialist countries there are periodically experiments in decentralization. But in an economy only half free—that is, in an economy in which every factory is free to decide how much to produce of what, but in which the basic prices, wages, rents, and interest rates are blindly fixed or guessed at by the sole ultimate owner of the means of production, the state—a decentralized system could quickly become even more chaotic than a centralized one. If finished products m, n, o, p, and so on are made from raw materials a, b, c, d, and so on in various combinations and proportions, how can the individual producers of the raw materials know how much of each to produce, and at what rate, unless they know how much the producers of the finished products plan to produce of the latter, how much raw materials they are going to need, and just when they are going to need them? And how can the individual producer of raw material a or of finished product m know how much of it to produce unless he knows how much of that raw material or finished product others in his line are planning to produce, as well as relatively how much ultimate consumers are going to want or demand?

An economic system without private property and free-market price guides must be chaotic. In a communistic system, centralized or decentralized, there will always be unbalanced and unmatched production, shortages of this and unusable surpluses of that, duplications, bottlenecks, time lags, inefficiency, and appalling waste.

In brief, socialism is incapable of solving the incredibly complicated problem of economic calculation. That problem can be solved only by capitalism.[16]

[11] I have examined most of these schemes in more detail elsewhere (chiefly in my Economics in One Lesson and in Man vs. the Welfare State) and must refer the interested reader to these and other sources for more extended discussion.

[12] Gunnar Myrdal, The Challenge of World Poverty (Pantheon Books, 1970), pp. 400–401 and passim.

[13] Man vs. the Welfare State (Arlington House, 1969), pp. 23–25.

[14] (Princeton: D. Van Nostrand, 1959.)

[15] (Princeton: D. Van Nostrand, 1960, 1965.)

[16] For a fuller discussion of the problem of economic calculation, see my novel, Time Will Run Back (originally published by Appleton-Century-Crofts in 1951 as The Great Idea, and republished under the new title by Arlington House in 1966). And see especially the discussion by the great seminal thinker who has done more than any other to make other economists aware of the existence, nature, and extent of the problem, Ludwig von Mises, in his Socialism: An Analysis (London: Jonathan Cape, 1936, 1951, 1953, 1969), and in his Human Action (Chicago: Henry Regnery, third revised edition, 1963), pp. 200–231 and 698–715. See also Collectivist Economic Planning, edited by F. A. Hayek (London: George Routledge, 1935), and Economic Calculation in the Socialist Society, by T. J. B. Hoff (London: William Hodge, 1949).

6

On Appeasing Envy

Any attempt to equalize wealth or income by forced redistribution must only tend to destroy wealth and income. Historically the best the would be equalizers have ever succeeded in doing is to equalize downward. This has even been caustically described as their intention. “Your levellers,” said Samuel Johnson in the mid-eighteenth century, “wish to level down as far as themselves; but they cannot bear leveling up to themselves.” And in our own day we find even an eminent liberal like the late Mr. Justice Holmes writing: “I have no respect for the passion for equality, which seems to me merely idealizing envy.”[17]

At least a handful of writers have begun to recognize explicitly the all-pervasive role played by envy or the fear of envy in life and in contemporary political thought. In 1966, Helmut Schoeck, professor of sociology at the University of Mainz, devoted a penetrating book to the subject.[18]

There can be little doubt that many egalitarians are motivated at least partly by envy, while still others are motivated, not so much by any envy of their own, as by the fear of it in others, and the wish to appease or satisfy it.

But the latter effort is bound to be futile. Almost no one is completely satisfied with his status in relation to his fellows. In the envious the thirst for social advancement is insatiable. As soon as they have risen one rung in the social or economic ladder, their eyes are fixed upon the next. They envy those who are higher up, no matter by how little. In fact, they are more likely to envy their immediate friends or neighbors, who are just a little bit better off, than celebrities or millionaires who are incomparably better off. The position of the latter seems unattainable, but of the neighbor who has just a minimal advantage they are tempted to think: “I might almost be in his place.”

The Urge to Deprive Others

Moreover, the envious are more likely to be mollified by seeing others deprived of some advantage than by gaining it for themselves. It is not what they lack that chiefly troubles them, but what others have. The envious are not satisfied with equality; they secretly yearn for superiority and revenge. In the French revolution of 1848, a woman coal-heaver is reported to have remarked to a richly dressed lady: “Yes, madam, everything’s going to be equal now; I shall go in silks and you’ll carry coal.”

Envy is implacable. Concessions merely whet its appetite for more concessions. As Schoeck writes: “Man’s envy is at its most intense where all are almost equal; his calls for redistribution are loudest when there is virtually nothing to redistribute.”[19]

(We should, of course, always distinguish that merely negative envy which begrudges others their advantage from the positive ambition that leads men to active emulation, competition, and creative effort of their own.)

But the accusation of envy, or even of the fear of others’ envy, as the dominant motive for any redistribution proposal, is a serious one to make and a difficult if not impossible one to prove. Moreover, the motives for making a proposal, even if ascertainable, are irrelevant to its inherent merits.

We can, nonetheless, apply certain objective tests. Sometimes the motive of appeasing other people’s envy is openly avowed. Socialists will often talk as if some form of superbly equalized destitution were preferable to “maldistributed” plenty. A national income that is rapidly growing in absolute terms for practically everyone will be deplored because it is making the rich richer. An implied and sometimes avowed principle of the British Labor Party leaders after World War II was that “Nobody should have what everybody can’t have.”

Equality, Yes; Abundance, No!

But the main objective test of a social proposal is not merely whether it emphasizes equality more than abundance, but whether it goes further and attempts to promote equality at the expense of abundance. Is the proposed measure intended primarily to help the poor, or to penalize the rich? And would it in fact punish the rich at the cost of also hurting everyone else?

This is the actual effect, as we saw earlier,[20] of steeply progressive income taxes and confiscatory inheritance taxes. These are not only counterproductive fiscally (bringing in less revenue from the higher brackets than lower rates would have brought), but they discourage or confiscate the capital accumulation and investment that would have increased national productivity and real wages. Most of the confiscated funds are then dissipated by the government in current consumption expenditures. The long-run effect of such tax rates, of course, is to leave the working poor worse off than they would otherwise have been.

There are economists who will admit all this, but will answer that it is nonetheless politically necessary to impose such near confiscatory taxes, or to enact similar redistributive measures, in order to placate the dissatisfied and the envious—in order, even, to prevent actual revolution.

Appeasement Provokes Envy

This argument is the reverse of the truth. The effect of trying to appease envy is to provoke more of it.

The most popular theory of the French Revolution is that it came about because the economic condition of the masses was becoming worse and worse, while the king and the aristocracy remained completely blind to it. But Tocqueville, one of the most penetrating social observers and historians of his or any time, put forward an exactly opposite explanation. Let me state it first as summarized by an eminent French commentator in 1899:

Here is the theory invented by Tocqueville....

The lighter a yoke, the more it seems insupportable; what exasperates is not the crushing burden but the impediment; what inspires to revolt is not oppression but humiliation. The French of 1789 were incensed against the nobles because they were almost the equals of the nobles; it is the slight difference that can be appreciated, and what can be appreciated that counts. The eighteenth century middle class was rich, in a position to fill almost any employment, almost as powerful as the nobility. It was exasperated by this “almost” and stimulated by the proximity of its goal; impatience is always provoked by the final strides.[21]

I have quoted this passage because I do not find the theory stated in quite this condensed form by Tocqueville himself. Yet this is essentially the theme of his L’Ancien Regime et la Revolution, and he presented impressive factual documentation to support it.

As the prosperity which I have just described began to extend in France, the community nevertheless became more unsettled and uneasy; public discontent grew fierce; hatred against all established institutions increased. The nation was visibly advancing toward a revolution....

It might be said that the French found their position the more intolerable precisely where it had become better. Surprising as this fact is, history is full of such contradictions.

It is not always by going from bad to worse that a country falls into revolution. It happens most frequently that a people, which had supported the most crushing laws without complaint, and apparently as if they were unfelt, throws them off with violence as soon as the burden begins to be diminished. The state of things destroyed by a revolution is almost always somewhat better than that which immediately preceded it; and experience has shown that the most dangerous moment for a bad government is usually that when it enters upon the work of reform. Nothing short of great political genius can save a sovereign who undertakes to relieve his subjects after a long period of oppression. The evils which were endured with patience so long as they were inevitable seem intolerable as soon as a hope can be entertained of escaping from them. The abuses which are removed seem to lay bare those which remain, and to render the sense of them more acute; the evil has decreased, it is true, but the perception of the evil is more keen....

No one any longer contended in 1780 that France was in a state of decline; there seemed, on the contrary, to be just then no bounds to her progress. Then it was that the theory of the continual and indefinite perfectibility of man took its origin. Twenty years before nothing was to be hoped of the future: then nothing was to be feared. The imagination, grasping at this near and unheard of felicity, caused men to overlook the advantages they already possessed, and hurried them forward to something new.[22]

Aggravated by Sympathy

The expressions of sympathy that came from the privileged class itself only aggravated the situation:

The very men who had most to fear from the fury of the people declaimed loudly in their presence on the cruel injustice under which the people had always suffered. They pointed out to each other the monstrous vices of those institutions which had weighed most heavily upon the lower orders: they employed all their powers of rhetoric in depicting the miseries of the common people and their ill-paid labor; and thus they infuriated while they endeavored to relieve them.[23]

Tocqueville went on to quote at length from the mutual recriminations of the king, the nobles, and the parliament in blaming each other for the wrongs of the people. To read them now is to get the uncanny feeling that they are plagiarizing the rhetoric of the limousine liberals of our own day. All this does not mean that we should refrain from taking any measure truly calculated to relieve hardship and reduce poverty. What it does mean is that we should never take governmental measures merely for the purpose of trying to assuage the envious or appease the agitators, or to buy off a revolution. Such measures, betraying weakness and a guilty conscience, only lead to more far-reaching and even ruinous demands. A government that pays social blackmail will precipitate the very consequences that it fears.

[17] The Correspondence of Mr. Justice Holmes and Harold J. Laski (ed. M. De Wolfe Howe, 2 vol. Cambridge, Mass., 1953). From Holmes to Laski, May 12, 1927, p. 942.

[18] Helmut Schoeck, Envy (English translation, Harcourt, Brace & World, 1969).

[19] Ibid., p. 303.

[20] “Should we Divide the Wealth?” in The Freeman, February, 1972, p. 100.

[21] Emile Faguet, Politicians and Moralists of the Nineteenth Century (Boston: Little, Brown; 1928), p. 93.

[22] Alexis de Tocqueville, On the State of Society in France before the Revolution of 1789. (London: John Murray, 1856) pp. 321–324. Also available as The Old Regime and the French Revolution in a Doubleday paperback.

[23] Ibid., pp. 329–330.

7

Planning vs. The Free Market

When we discuss “economic planning,” we must be clear concerning what it is we are talking about. The real question being raised is not: plan or no plan? but whose plan?

Each of us, in his private capacity, is constantly planning for the future: what he will do the rest of today, the rest of the week, or on the weekend; what he will do this month or next year. Some of us are planning, though in a more general way, ten or twenty years ahead.

We are making these plans both in our capacity as consumers and as producers. Employees are either planning to stay where they are, or to shift from one job to another, or from one company to another, or from one city to another, or even from one career to another. Entrepreneurs are either planning to stay in one location or to move to another, to expand or contract their operations, to stop making a product for which they think demand is dying and to start making one for which they think demand is going to grow.

Now the people who call themselves “Economic Planners” either ignore or by implication deny all this. They talk as if the world of private enterprise, the free market, supply, demand, and competition, were a world of chaos and anarchy, in which nobody ever planned ahead or looked ahead, but merely drifted or staggered along. I once engaged in a television debate with an eminent Planner in a high official position who implied that without his forecasts and guidance American business would be “flying blind.” At best, the Planners imply, the world of private enterprise is one in which everybody works or plans at cross purposes or makes his plans solely in his “private” interest rather than in the “public” interest.

Now the Planner wants to substitute his own plan for the plans of everybody else. At best, he wants the government to lay down a Master Plan to which everybody else’s plan must be subordinated.

It Involves Compulsion

It is this aspect of Planning to which our attention should be directed: Planning always involves compulsion. This may be disguised in various ways. The government Planners will, of course, try to persuade people that the Master Plan has been drawn up for their own good, and that the only persons who are going to be coerced are those whose plans are “not in the public interest.”

The Planners will say, in the newly fashionable phraseology, that their plans are not “imperative,” but merely “indicative.” They will make a great parade of “democracy,” freedom, cooperation, and non-compulsion by “consulting all groups”—“Labor,” “Industry,” the Government, even “Consumers Representatives”—in drawing up the Master Plan and the specific “goals” or “targets.” Of course, if they could really succeed in giving everybody his proportionate weight and voice and freedom of choice, if everybody were allowed to pursue the plan of production or consumption of specific goods and services that he had intended to pursue or would have pursued anyway, then the whole Plan would be useless and pointless, a complete waste of energy and time. The Plan would be meaningful only if it forced the production and consumption of different things or different quantities of things than a free market would have provided. In short, it would be meaningful only insofar as it put compulsion on somebody and forced some change in the pattern of production and consumption.

There are two excuses for this coercion. One is that the free market produces the wrong goods, and that only government Planning and direction could assure the production of the “right” ones. This is the thesis popularized by J. K. Galbraith. The other excuse is that the free market does not produce enough goods, and that only government Planning could speed things up. This is the thesis of the apostles of “economic growth.”

The “Five-Year Plans”

Let us take up the “Galbraith” thesis first. I put his name in quotation marks because the thesis long antedates his presentation of it. It is the basis of all the communist “Five-Year Plans” which are now aped by a score of socialist nations. While these Plans may consist in setting out some general “overall” percentage of production increase, their characteristic feature is rather a whole network of specific “targets” for specific industries: there is to be a 25 per cent increase in steel capacity, a 15 per cent increase in cement production, a 12 per cent increase in butter and milk output, and so forth.

There is always a strong bias in these Plans, especially in the communist countries, in favor of heavy industry, because it gives increased power to make war. In all the Plans, however, even in non-communist countries, there is a strong bias in favor of industrialization, of heavy industry as against agriculture, in the belief that this necessarily increases real income faster and leads to greater national self-sufficiency. It is not an accident that such countries are constantly running into agricultural crises and food famines.

But the Plans also reflect either the implied or explicit moral judgments of the government Planners. The latter seldom plan for an increased production of cigarettes or whisky, or, in fact, for any so-called “luxury” item. The standards are always grim and puritanical. The word “austerity” makes a chronic appearance. Consumers are told that they must “tighten their belts” for a little longer. Sometimes, if the last Plan has not been too unsuccessful, there is a little relaxation: consumers can, perhaps, have a few more motor cars and hospitals and playgrounds. But there is almost never any provision for, say, more golf courses or even bowling alleys. In general, no form of expenditure is approved that cannot be universalized, or at least “majoritized.” And such so-called luxury expenditure is discouraged, even in a so-called “indicative” Plan, by not allowing access by promoters of such projects to bank credit or to the capital markets. At some point government coercion or compulsion comes into play.

Austerity Leads to Waste

This disapproval and coercion may rest on several grounds. Nearly all “austerity” programs stem from the belief, not that the person who wants to make a “luxury” expenditure cannot afford it, but that “the nation” cannot afford it. This involves the assumption that, if I set up a bowling alley or patronize one, I am somehow depriving my fellow citizens of more necessary goods or services. This would be true only on the assumption that the proper thing to do is to tax my so-called surplus income away from me and turn it over to others in the form of money, goods, or services. But if I am allowed to keep my “surplus” income, and am forbidden to spend it on bowling alleys or on imported wine and cheese, I will spend it on something else that is not forbidden. Thus when the British austerity program after World War II prevented an Englishman from consuming imported luxuries, on the ground that “the nation” could not afford the “foreign exchange” or the “unfavorable balance of payments,” officials were shocked to find that the money was being squandered on football pools or dog races. And there is no reason to suppose, in any case, that the “dollar shortage” or the “unfavorable balance of payments” was helped in the least. The austerity program, insofar as it was not enforced by higher income taxes, probably cut down potential exports as much as it did potential imports; and insofar as it was enforced by higher income taxes, it discouraged exports by restricting and discouraging production.

Bureaucratic Choice

But we come now to the specific Galbraith thesis, growing out of the agelong bureaucratic suspicion of luxury spending, that consumers generally do not know how to spend the income they have earned; that they buy whatever advertisers tell them to buy; that consumers are, in short, boobs and suckers, chronically wasting their money on trivialities, if not on absolute junk. The bulk of consumers also, if left to themselves, show atrocious taste, and crave cerise automobiles with ridiculous tailfins.

The natural conclusion from all this—and Galbraith does not hesitate to draw it—is that consumers ought to be deprived of freedom of choice, and that government bureaucrats, full of wisdom—of course, of a very unconventional wisdom—should make their consumptive choices for them. The consumers should be supplied, not with what they themselves want, but with what bureaucrats of exquisite taste and culture think is good for them. And the way to do this is to tax away from people all the income they have been foolish enough to earn above that required to meet their bare necessities, and turn it over to the bureaucrats to be spent in ways in which the latter think would really do people the most good—more and better roads and parks and playgrounds and schools and television programs—all supplied, of course, by government.

And here Galbraith resorts to a neat semantic trick. The goods and services for which people voluntarily spend their own money make up, in his vocabulary, the “private sector” of the economy, while the goods and services supplied to them by the government, out of the income it has seized from them in taxes, make up the “public sector.” Now the adjective “private” carries an aura of the selfish and exclusive, the inward-looking, whereas the adjective “public” carries an aura of the democratic, the shared, the generous, the patriotic, the outward-looking—in brief, the public-spirited. And as the tendency of the expanding welfare state has been, in fact, to take out of private hands and more and more take into its own hands provision of the goods and services that are considered to be most essential and most edifying—roads and water supply, schools and hospitals and scientific research, education, old-age insurance and medical care—the tendency must be increasingly to associate the word “public” with everything that is really necessary and laudable, leaving the “private sector” to be associated merely with the superfluities and capricious wants that are left over after everything that is really important has been taken care of.

If the distinction between the two “sectors” were put in more neutral terms—say, the “private sector” versus the “governmental sector,” the scales would not be so heavily weighted in favor of the latter. In fact, this more neutral vocabulary would raise in the mind of the hearer the question whether certain activities now assumed by the modern welfare state do legitimately or appropriately come within the governmental province. For Galbraith’s use of the word “sector,” “private” or “public,” cleverly carries the implication that the public “sector” is legitimately not only whatever the government has already taken over but a great deal besides. Galbraith’s whole point is that the “public sector” is “starved” in favor of a “private sector” overstuffed with superfluities and trash.

The Voluntary Way

The true distinction, and the appropriate vocabulary, however, would throw an entirely different light on the matter. What Galbraith calls the “private sector” of the economy is, in fact, the voluntary sector; and what he calls the “public sector” is, in fact, the coercive sector. The voluntary sector is made up of the goods and services for which people voluntarily spend the money they have earned. The coercive sector is made up of the goods and services that are provided, regardless of the wishes of the individual, out of the taxes that are seized from him. And as this sector grows at the expense of the voluntary sector, we come to the essence of the welfare state. In this state nobody pays for the education of his own children but everybody pays for the education of everybody else’s children. Nobody pays his own medical bills, but everybody pays everybody else’s medical bills. Nobody helps his own old parents, but everybody else’s old parents. Nobody provides for the contingency of his own unemployment, his own sickness, his own old age, but everybody provides for the unemployment, sickness, or old age of everybody else. The welfare state, as Bastiat put it with uncanny clairvoyance more than a century ago, is the great fiction by which everybody tries to live at the expense of everybody else.

This is not only a fiction; it is bound to be a failure. This is sure to be the outcome whenever effort is separated from reward. When people who earn more than the average have their “surplus,” or the greater part of it, seized from them in taxes, and when people who earn less than the average have the deficiency, or the greater part of it, turned over to them in handouts and doles, the production of all must sharply decline; for the energetic and able lose their incentive to produce more than the average, and the slothful and unskilled lose their incentive to improve their condition.

The Growth Planners

I have spent so much time in analyzing the fallacies of the Galbraithian school of economic Planners that I have left myself little in which to analyze the fallacies of the Growth Planners. Many of their fallacies are the same; but there are some important differences.

The chief difference is that the Galbraithians believe that a free market economy produces too much (though, of course, they are the “wrong” goods), whereas the Growthmen believe that a free market economy does not produce nearly enough. I will not here deal with all the statistical errors, gaps, and fallacies in their arguments, though an analysis of these alone could occupy a fat book. I want to concentrate on their idea that some form of government direction or coercion can by some strange magic increase production above the level that can be achieved when everybody enjoys economic freedom.

For it seems to me self-evident that when people are free, production tends to be, if not maximized, at least optimized. This is because, in a system of free markets and private property, everybody’s reward tends to equal the value of his production. What he gets for his production (and is allowed to keep) is in fact what it is worth in the market. If he wants to double his income in a single year, he is free to try—and may succeed if he is able to double his production in a single year. If he is content with the income he has—or if he feels that he can only get more by excessive effort or risk—he is under no pressure to increase his output. In a free market everyone is free to maximize his satisfactions, whether these consist in more leisure or in more goods.

But along comes the Growth Planner. He finds by statistics (whose trustworthiness and accuracy he never doubts) that the economy has been growing, say, only 2.8 per cent a year. He concludes, in a flash of genius, that a growth rate of 5 per cent a year would be faster!

There is among the Growth Planners a profound mystical belief in the power of words. They declare that they “are not satisfied” with a growth rate of a mere 2.8 per cent a year; they demand a growth rate of 5 per cent a year. And once having spoken, they act as if half the job had already been done. If they did not assume this, it would be impossible to explain the deep earnestness with which they argue among themselves whether the growth rate “ought” to be 4 or 5 or 6 per cent. (The only thing they always agree on is that it ought to be greater than whatever it actually is.) Having decided on this magic overall figure, they then proceed either to set specific targets for specific goods (and here they are at one with the Russian Five-Year Planners) or to announce some general recipe for reaching the overall rate.

But why do they assume that setting their magic target rate will increase the rate of production over the existing one? And how is their growth rate supposed to apply as far as the individual is concerned? Is the man who is already making $50,000 a year to be coerced into working for an income of $52,500 next year? Is the man who is making only $5,000 a year to be forbidden to make more than $5,250 next year? If not, what is gained by making a specific “annual growth rate” a governmental “target”? Why not just permit or encourage everybody to do his best, or make his own decision, and let the average “growth” be whatever it turns out to be?

The way to get a maximum rate of “economic growth”—assuming this to be our aim—is to give maximum encouragement to production, employment, saving, and investment. And the way to do this is to maintain a free market and a sound currency. It is to encourage profits, which must in turn encourage both investment and employment. It is to refrain from oppressive taxation that siphons away the funds that would otherwise be available for investment. It is to allow free wage rates that permit and encourage full employment. It is to allow free interest rates, which would tend to maximize saving and investment.

The Wrong Policies

The way to slow down the rate of economic growth is, of course, precisely the opposite of this. It is to discourage production, employment, saving, and investment by incessant interventions, controls, threats, and harassment. It is to frown upon profits, to declare that they are excessive, to file constant antitrust suits, to control prices by law or by threats, to levy confiscatory taxes that discourage new investment and siphon off the funds that make investment possible, to hold down interest rates artificially to the point where real saving is discouraged and malinvestment encouraged, to deprive employers of genuine freedom of bargaining, to grant excessive immunities and privileges to labor unions so that their demands are chronically excessive and chronically threaten unemployment—and then to try to offset all these policies by government spending, deficits, and monetary inflation. But I have just described precisely the policies that most of the fanatical Growth-men advocate.

Their recipe for inducing growth always turns out to be—inflation. This does lead to the illusion of growth, which is measured in their statistics in monetary terms. What the Growthmen do not realize is that the magic of inflation is always a short-run magic, and quickly played out. It can work temporarily and under special conditions—when it causes prices to rise faster than wages and so restores or expands profit margins. But this can happen only in the early stages of an inflation which is not expected to continue. And it can happen even then only because of the temporary acquiescence or passivity of the labor union leaders. The consequences of this short-lived paradise are malinvestment, waste, a wanton redistribution of wealth and income, the growth of speculation and gambling, immorality and corruption, social resentment, discontent and upheaval, disillusion, bankruptcy, increased governmental controls, and eventual collapse. This year’s euphoria becomes next year’s hangover. Sound long-run growth is always retarded.

In Spite of “The Plan”

Before closing, I should like to deal with at least one statistical argument in favor of government Planning. This is that Planning has actually succeeded in promoting growth, and that this can be statistically proved. In reply I should like to quote from an article on economic planning in the Survey published by the Morgan Guaranty Trust Company of New York in its issue of June 1962:

There is no way to be sure how much credit is due the French plans in themselves for that country’s impressive 41/2 per cent average annual growth rate over the past decade. Other factors were working in favor of growth: a relatively low starting level after the wartime destruction, Marshall Plan funds in the early years, later an ample labor supply siphonable from agriculture and from obsolete or inefficient industries, most recently the bracing air of foreign competition let in by liberalization of import restrictions, the general dynamism of the Common Market, the breakthrough of the consumer as a source of demand. For the fact that France today has a high degree of stability and a strong currency along with its growth, the stern fiscal discipline applied after the devaluation of late 1958 must be held principally responsible.

That a plan is fulfilled, in other words, does not prove that the same or better results could not have been achieved with a lesser degree of central guidance. Any judgment as to cause and effect, of course, must also consider the cases of West Germany and Italy, which have sustained high growth rates without national planning of the economy.

In brief, statistical estimates of growth rates, even if we could accept them as meaningful and accurate, are the result of so many factors that it is never possible to ascribe them with confidence to any single cause. Ultimately we must fall back upon an a priori conclusion, yet a conclusion that is confirmed by the whole range of human experience: that when each of us is free to work out his own economic destiny, within the framework of the market economy, the institution of private property, and the general rule of law, we will all improve our economic condition much faster than when we are ordered around by bureaucrats.

8

Can We Keep Free Enterprise?

Nine-tenths of what is written today on economic questions is either an implied or explicit attack on capitalism. The attacks are occasionally answered. But none of the answers, even when they are heard, are ever accepted as conclusive. The attacks keep coming, keep multiplying. You cannot pick up your daily newspaper without encountering half a dozen. The sporadic answers are lost in the torrent of accusation. The charges or implied charges outnumber the rebuttals ten to one.

What is wrong? Does capitalism, after all, have an indefensible case? Have its champions been not only hopelessly outnumbered but hopelessly out argued? We can hardly think so if we recall only a few of the great minds that have undertaken the task of defense, directly or indirectly, in the past—Hume, Adam Smith, Ricardo, Malthus, Bastiat, Senior, Böhm-Bawerk, John Bates Clark; or of the fine minds that have undertaken it in our day—Ludwig von Mises, F. A. Hayek, Milton Friedman, Murray Rothbard, Hans Sennholz, Israel Kirzner, David McCord Wright, and so many others.

What, then, is wrong? I venture to suggest that no defense of capitalism, no matter how brilliant or thorough, will ever be generally accepted as definitive. The attacks on capitalism stem from at least five main impulses or propensities, all of which will probably be with us permanently, because they seem to be inherent in our nature. They are: (1) genuine compassion at the sight of individual misfortune; (2) impatience for a cure; (3) envy; (4) the propensity to think only of the intended or immediate results of any proposed government intervention and to overlook the secondary or long-term results; and (5) the propensity to compare any actual state of affairs, and its inevitable defects, with some hypothetical ideal.

These five drives or tendencies blend and overlap. Let us look at them in order, beginning with compassion. Most of us, at the sight of extreme poverty, are moved to want to do something to relieve it—or to get others to relieve it. And we are so impatient to see the poverty relieved as soon as possible that, no matter how forbidding the dimensions of the problem, we are tempted to think it will yield to some simple, direct, and easy solution.

The Role of Envy

Let us look now at the role of envy. Few of us are completely free from it. It seems to be part of man’s nature never to be satisfied as long as he sees other people better off than himself. Few of us, moreover, are willing to accept the better fortune of others as the result of greater effort or gifts on their part. We are more likely to attribute it at best to “luck” if not to “the system.” In any case, the pressure to pull down the rich seems stronger and more persistent in most democracies than the prompting to raise the poor.

Envy reveals itself daily in political speeches and in our laws. It plays a definite role in the popularity of the graduated income tax, which is firmly established in nearly every country today, though it violates every canon of equity. As J. R. McCulloch put it in the 1830’s: “The moment you abandon the cardinal principle of exacting from all individuals the same proportion of their income or of their property, you are at sea without rudder or compass, and there is no amount of injustice or folly you may not commit.”

McCulloch’s prediction has been borne out by events. Historically, almost every time there has been a revision of income tax rates the progression has become steeper. When the graduated income tax was first adopted in the United States in 1913, the top rate was 7 per cent. Some thirty years later it had risen to 91 per cent. In Great Britain the top rate went from 8 1/2 to 97 1/2 per cent in a similar period. It has been repeatedly demonstrated that these confiscatory rates yield negligible revenues. The reduction of real income that they cause is certainly greater than the revenue they yield. In brief, they have hurt even the taxpayers in the lower brackets.

Yet envy has played a crucial role in keeping the progressive income tax. The bulk of the taxpayers accept far higher rates of taxation than they would if the rates were uniform; for the taxpayers in each tax bracket console themselves with the thought that their wealthier neighbors must be paying a far higher rate. Thus though about two thirds (65.5 per cent) of the income tax is paid (1969) by those with adjusted gross incomes of $20,000 or less, there is an almost universal illusion that the real burden of the tax is falling on the very rich.

But perhaps the greatest reason why governments again and again abandon the principles of free enterprise is mere shortsightedness. They attempt to cure some supposed economic evil directly by some simple measure, and completely fail to foresee or even to ask what the secondary or long-term consequences of that measure will be.

Tampering with Money

From time immemorial, whenever governments have felt that their country was insufficiently wealthy, or when trade was stagnant or unemployment rife, the theory has arisen that the fundamental trouble was a “shortage of money.” After the invention of the printing press, when a government could stamp a slip of paper with any denomination or issue notes without limit, any imaginable increase in the money supply became possible.

What was not understood was that any simulative effect was temporary, and purchased at excessive cost. If the boom was obtained by an overexpansion of bank credit, it was bound to be followed by a recession or crisis when the new credit was paid off. If the boom was obtained by printing more government fiat money, it temporarily made some people richer only at the cost of making other people (in real terms) poorer.

When the supply of money is increased the purchasing power of each unit must correspondingly fall. In the long run, nothing whatever is gained by increasing the issuance of paper money. Prices of goods tend, other things equal, to rise proportionately with the increase in money supply. If the stock of money is doubled, it can in the long run purchase no more goods and services than the smaller stock of money would have done.

And yet the government of nearly every country in the world today is busily increasing the issuance of paper money, partly if not entirely because of its belief that it is “relieving the shortage of money” and “promoting faster economic growth.” This illusion is intensified by the habit of counting the currency unit as if its purchasing power were constant. In 1971 there was a great outburst of hurrahs because the GNP (gross national product) had at last surpassed the magic figure of a trillion dollars. (It reached $1,046 billion.) It was forgotten that if the putative GNP of 1971 had been stated in terms of dollars at their purchasing power in 1958 this 1971 GNP would have come to only $740 billion, and if stated in terms of the dollar’s purchasing power in 1939 would have come to only $320 billion.

Yet monetary expansion is everywhere today—in every country and in the International Monetary Fund with its SDR’s—the official policy. Its inevitable effect is rising prices. But rising prices are not popular. Therefore governments forbid prices to rise.

And this price control has the enormous political advantage of deflecting attention away from the government’s own responsibility for creating inflation, and by implication puts the blame for rising prices on the greed of producers and sellers.

Price Control

The record of price controls goes as far back as human history. They were imposed by the Pharaohs of ancient Egypt. They were decreed by Hammurabi, king of Babylon, in the eighteenth century B. C. They were tried in ancient Athens.

In 301 A. D., the Roman Emperor Diocletian issued his famous edict fixing prices for nearly eight hundred different items, and punishing violation with death. Out of fear, nothing was offered for sale and the scarcity grew far worse. After a dozen years and many executions, the law was repealed.

In Britain, Henry III tried to regulate the price of wheat and bread in 1202. Antwerp enacted price-fixing in 1585, a measure which some historians believe brought about its downfall. Price-fixing laws enforced by the guillotine were also imposed during the French Revolution, though the soaring prices were caused by the revolutionary government’s own policy in issuing enormous amounts of paper currency.

Yet from all this dismal history the governments of today have learned absolutely nothing. They continue to over issue paper money to stimulate employment and “economic growth”; and then they vainly try to prevent the inevitable soaring prices with ukases ordering everybody to hold prices down.

Harmful Intervention

But though price-fixing laws are always futile, this does not mean that they are harmless. They can do immensely more economic damage than the inflation itself. They are harmful in proportion as the legal price ceilings are below what unhampered market prices would be, in proportion to the length of time the price controls remain in effect, and in proportion to the strictness with which they are enforced.

For if the legal price for any commodity, whether it is bread or shoes, is held by edict substantially below what the free market price would be, the low fixed price must over encourage the demand for it, discourage its production, and bring about a shortage. The profit margin in making or selling it will be too small as compared with the profit margin in producing or selling something else.

In addition to causing scarcities of some commodities, and bottlenecks in output, price control must eventually distort and unbalance the whole structure of production. For not only the absolute quantities, but the proportions in which the tens of thousands of different goods and services are produced, are determined in a free market by the relative supply and demand, the relative money prices, and the relative costs of production of commodities A, B, C, and N. Market prices have work to do. They are signals to both producers and consumers. They tell where the shortages and surpluses are. They tell which commodities are going to be more profitable to produce and which less. To remove or destroy or forbid these signals must discoordinate and discourage production.

Selective Controls—No Stopping Place

General price controls are comparatively rare. Governments more often prefer to put a ceiling on one particular price. A favorite scapegoat since World War I has been the rent of apartments and houses.

Rent controls, once imposed, are sometimes continued for a generation or more. When they are imposed, as they nearly always are, in a period of inflation, the frozen rents year by year become less and less realistic. The long-term effect is that the landlords have neither the incentive nor the funds to keep the rental apartments or houses in decent repair, let alone to improve them. Losses often force owners to abandon their properties entirely. Private builders, fearing the same fate, hesitate to erect new rental housing. Slums proliferate, a shortage of housing develops, and the majority of tenants, in whose supposed interest the rent control was imposed in the first place, become worse off than ever.

Perhaps the oldest and most widespread form of price control in the world is control of interest rates. In ancient China, India, and Rome, and nearly everywhere throughout the Middle Ages, all interest was called “usury”, and prohibited altogether. This made economic progress all but impossible. Later, the taking of interest was permitted, but fixed legal ceilings were imposed. These held back economic progress but did not, like total prohibition, prevent it entirely.

Yet political hostility to higher than customary interest rates never ceases. Today, bureaucrats combat such “exorbitant” rates more often by denunciation than by edict. The favorite government method today for keeping interest rates down is to have the monetary managers flood the market with new loanable funds. This may succeed for a time, but the long run effect of over issuance of money and credit is to arouse fears among businessmen that inflation and rising prices will continue. So lenders, to protect themselves against an expected fall in the future purchasing power of their dollars, add a “price premium”. This makes the gross market rate of interest higher than ever.

The propensity of politicians to learn nothing about economics is illustrated once again in the laws governing foreign trade. The classical economists of the eighteenth century utterly demolished the arguments for protectionism. They showed that the long run effect of protective tariffs and other barriers could only be to make production more inefficient, to make consumers pay more and to slow down economic progress. Yet protectionism is nearly as rampant as it was before 1776, when The Wealth of Nations was published.

The Conquest of Poverty

In the same way, all the popular political measures to reduce or relieve poverty are more distinguished for their age than for their effectiveness.

The major effect of minimum wage laws is to create unemployment, chiefly among the unskilled workers that the law is designed to help. We cannot make a worker’s services worth a given amount by making it illegal for anyone to offer him less. We merely deprive him of the right to earn the amount that his abilities and opportunities would permit him to earn, while we deprive the community of the moderate services he is capable of rendering. We drive him on relief.

And by driving more people on relief by minimum wage laws on the one hand, while on the other hand enticing more and more people to get on relief by constantly increasing the amounts we offer them, we encourage the runaway growth of relief rolls. Now, as a way to “cure” this growth, reformers come forward to propose a guaranteed annual income or a “negative income tax.” The distinguishing feature of these handouts is that they are to be given automatically, without a means test, and regardless of whether or not the recipient chooses to work. The result could only be enormously to increase the number of idle, and correspondingly to increase the tax burden on those who work. We can always have as much unemployment as we are willing to pay for.

At bottom, almost every government “anti-poverty” measure in history has consisted of seizing part of the earnings or savings of Peter to support Paul. Its inevitable long run result is to undermine the incentives of both Peter and Paul to work or to save.

What is overlooked in all these government interventions is the miracle of the market—the amazing way in which free enterprise maximizes the incentives to production, to work, innovation, efficiency, saving, and investment, and graduates both its penalties and rewards with such accuracy as to tend to bring about the production of the tens of thousands of wanted goods and services in the proportions in which they are most demanded by consumers. Only free private enterprise, in fact, can solve what economists call this problem of economic calculation.

The Problem of Calculation

Socialism is incapable of solving the problem. The bureaucratic managers of nationalized industries may be conscientious, God-fearing men; but as they have no fear of suffering personal losses through error or inefficiency, and no hope of gaining personal profits through cost cutting or daring innovation, they are bound, at best, to become safe routineers, and to tolerate a torpid inefficiency.

But this is the smallest part of the problem. For a complete socialism would be without the guide of the market, without the guide of money prices or of costs in terms of money. The bureaucratic managers of the socialist economy would not know which items they were producing at a social profit and which at a social loss. Nor would they know how much to try to produce of each item or service, or how to make sure that the production of tens of thousands of different commodities was synchronized or coordinated. They could, of course (as they sometimes have), assign arbitrary prices to raw materials and to the various finished items. But they would still not know how much or whether the bookkeeping profits or losses shown reflected real profits or losses. In short, they would be unable to solve the problem of economic calculation. They would be working in the dark.

The directors of a socialist economy would have to fix wages arbitrarily, and if these did not draw the right number of competent workers into making the various things the directors wanted produced, and in the quantities they wanted them to be produced, they would have to use coercion, forcibly assign workers to particular jobs, and direct the economy from the center, in a military kind of organization. This militarization and regimentation of work is what, in fact, Cuba, Russia, and Red China have resorted to.

Rising Expectations

We come finally to the fifth reason that I offered at the beginning for the chronic hostility to free enterprise. This is the tendency to compare any actual state of affairs, and its inevitable defects, with some hypothetical ideal; to compare whatever is with some imagined paradise that might be. In spite of the prodigious and accelerative advances that a dominantly private enterprise economy has made in the last two centuries, and even in the last two decades, these advances can always be shown to have fallen short of some imaginable state of affairs that might be even better.

It may be true, for example, that money wages in the United States have increased fivefold, and even after all allowance has been made for rising living costs, that real wages have more than doubled in the last generation. But why haven’t they tripled? It may be true that the number of the “poor”, by the Federal bureaucrats’ yardstick, fell from 20 per cent of the population in 1962 (when the estimate was first made) to 13 per cent in 1970. But why should there be any poor people left at all? It may be true that the employees of the corporations already get seven eighths of the entire sum available for distribution between them and the stockholders. But why don’t the workers get the whole of it? And so on and so on.

The very success of the system has encouraged constantly rising expectations and demands—expectations and demands that keep racing ahead of what even the best imaginable system could achieve.

The struggle to secure what we now know as capitalism—i.e., unhampered markets and private ownership of the means of production—was long and arduous. It has proved an inestimable boon to mankind. Yet if this system is to be saved from willful destruction, the task of the incredibly few who seem to understand how and why it works is endless. They cannot afford to rest their case on any defense of free enterprise, or any exposure of socialism or other false remedies, that they or their predecessors may have made in the past. There have been some magnificent defenses over the past two centuries, from Adam Smith to Bastiat, and from Böhm-Bawerk to Mises and Hayek. But they are not enough. Every day capitalism faces some new accusation, or one that parades as new.

Eternal Vigilance: Truth Needs Repeating

In brief, ignorance, shortsightedness, envy, impatience, good intentions, and a utopian idealism combine to engender an endless barrage of charges against “the system”—which means against free enterprise. And so the return fire, if free enterprise is to be preserved, must also be endless.

I find I have only been applying to one particular field an exhortation that Goethe once applied to all fields of knowledge. In 1828 he wrote in a letter to Eckermann:

“The truth must be repeated again and again, because error is constantly being preached round about us. And not only by isolated individuals, but by the majority. In the newspapers and encyclopedias, in the schools and universities, everywhere error is dominant, securely and comfortably ensconced in public opinion which is on its side.”

Yet above all in political and economic thought today, the need to keep repeating the truth has assumed an unprecedented urgency. What is under constant and mounting attack is capitalism—which means free enterprise—which means economic freedom—which means, in fact, the whole of human freedom. For as Alexander Hamilton warned: “Power over a man’s subsistence is power over his will.”

What is threatened, in fact, is no less than our present civilization itself; for it is capitalism that has made possible the enormous advances not only in providing the necessities and amenities of life, but in science, technology, and knowledge of all kinds, upon which that civilization rests.

All those who understand this have the duty to explain and defend the system. And to do so, if necessary, over and over again.

This duty does not fall exclusively on professional economists. It falls on each of us who realizes the untold benefits of free enterprise and the present threat of its destruction to expound his convictions within the sphere of his own influence, as well as to support others who are expounding like convictions. Each of us is as free to practice what he preaches as to preach what he practices. The opportunity is as great as the challenge.

9

The Lesson Restated

1

Economics, as we have now seen again and again, is a science of recognizing secondary consequences. It is also a science of seeing general consequences. It is the science of tracing the effects of some proposed or existing policy not only on some special interest in the short run, but on the general interest in the long run.

This is the lesson that has been the special concern of this book. We stated it first in skeleton form, and then put flesh and skin on it through more than a score of practical applications.

But in the course of specific illustration we have found hints of other general lessons; and we should do well to state these lessons to ourselves more clearly.

In seeing that economics is a science of tracing consequences, we must have become aware that, like logic and mathematics, it is a science of recognizing inevitable implications.

We may illustrate this by an elementary equation in algebra. Suppose we say that if x = 5 then x + y = 12. The “solution” to this equation is that y equals 7; but this is so precisely because the equation tells us in effect that y equals 7. It does not make that assertion directly, but it inevitably implies it.

What is true of this elementary equation is true of the most complicated and abstruse equations encountered in mathematics. The answer already lies in the statement of the problem. It must, it is true, be “worked out.” The result, it is true, may sometimes come to the man who works out the equation as a stunning surprise. He may even have a sense of discovering something entirely new—a thrill like that of “some watcher of the skies, when a new planet swims into his ken.” His sense of discovery may be justified by the theoretical or practical consequences of his answer. Yet his answer was already contained in the formulation of the problem. It was merely not recognized at once. For mathematics reminds us that inevitable implications are not necessarily obvious implications.

All this is equally true of economics. In this respect economics might be compared also to engineering. When an engineer has a problem, he must first determine all the facts bearing on that problem. If he designs a bridge to span two points, he must first know the exact distance between those two points, their precise topographical nature, the maximum load his bridge will be designed to carry, the tensile and compressive strength of the steel or other material of which the bridge is to be built, and the stresses and strains to which it may be subjected. Much of this factual research has already been done for him by others. His predecessors, also, have already evolved elaborate mathematical equations by which, knowing the strength of his materials and the stresses to which they will be subjected, he can determine the necessary diameter, shape, number and structure of his towers, cables and girders.

In the same way the economist, assigned a practical problem, must know both the essential facts of that problem and the valid deductions to be drawn from those facts. The deductive side of economics is no less important than the factual. One can say of it what Santayana says of logic (and what could be equally well said of mathematics), that it “traces the radiation of truth,” so that “when one term of a logical system is known to describe a fact, the whole system attaching to that term becomes, as it were, incandescent.”[24]

Now few people recognize the necessary implications of the economic statements they are constantly making. When they say that the way to economic salvation is to increase “credit,” it is just as if they said that the way to economic salvation is to increase debt: these are different names for the same thing seen from opposite sides. When they say that the way to prosperity is to increase farm prices, it is like saying that the way to prosperity is to make food dearer for the city worker. When they say that the way to national wealth is to pay out governmental subsidies, they are in effect saying that the way to national wealth is to increase taxes. When they make it a main objective to increase exports, most of them do not realize that they necessarily make it a main objective ultimately to increase imports. When they say, under nearly all conditions, that the way to recovery is to increase wage rates, they have found only another way of saying that the way to recovery is to increase costs of production.

It does not necessarily follow, because each of these propositions, like a coin, has its reverse side, or because the equivalent proposition, or the other name for the remedy, sounds much less attractive, that the original proposal is under all conditions unsound. There may be times when an increase in debt is a minor consideration as against the gains achieved with the borrowed funds; when a government subsidy is unavoidable to achieve a certain purpose; when a given industry can afford an increase in production costs, and so on. But we ought to make sure in each case that both sides of the coin have been considered, that all the implications of a proposal have been studied. And this is seldom done.

2

The analysis of our illustrations has taught us another incidental lesson. This is that, when we study the effects of various proposals, not merely on special groups in the short run, but on all groups in the long run, the conclusions we arrive at usually correspond with those of unsophisticated common sense. It would not occur to anyone unacquainted with the prevailing economic half-literacy that it is good to have windows broken and cities destroyed; that it is anything but waste to create needless public projects; that it is dangerous to let idle hordes of men return to work; that machines which increase the production of wealth and economize human effort are to be dreaded; that obstructions to free production and free consumption increase wealth; that a nation grows richer by forcing other nations to take its goods for less than they cost to produce; that saving is stupid or wicked and that dissipation brings prosperity.

“What is prudence in the conduct of every private family,” said Adam Smith’s strong common sense in reply to the sophists of his time, “can scarce be folly in that of a great kingdom.” But lesser men get lost in complications. They do not re-examine their reasoning even when they emerge with conclusions that are palpably absurd. The reader, depending upon his own beliefs, may or may not accept the aphorism of Bacon that “A little philosophy inclineth man’s mind to atheism, but depth in philosophy bringeth men’s minds about to religion.” It is certainly true, however, that a little economics can easily lead to the paradoxical and preposterous conclusions we have just rehearsed, but that depth in economics brings men back to common sense. For depth in economics consists in looking for all the consequences of a policy instead of merely resting one’s gaze on those immediately visible.

3

In the course of our study, also, we have rediscovered an old friend. He is the Forgotten Man of William Graham Sumner. The reader will remember that in Sumner’s essay, which appeared in 1883:

As soon as A observes something which seems to him to be wrong, from which X is suffering, A talks it over with B, and A and B then propose to get a law passed to remedy the evil and help X. Their law always proposes to determine what C shall do for X or, in the better case, what A, B and C shall do for X.... What I want to do is to look up C.... I call him the Forgotten Man.... He is the man who never is thought of. He is the victim of the reformer, social speculator and philanthropist, and I hope to show you before I get through that he deserves your notice both for his character and for the many burdens which are laid upon him.

It is an historic irony that when this phrase, the Forgotten Man, was revived in the nineteen thirties, it was applied, not to C, but to X; and C, who was then being asked to support still more X’s, was more completely forgotten than ever. It is C, the Forgotten Man, who is always called upon to stanch the politician’s bleeding heart by paying for his vicarious generosity.

Our study of our lesson would not be complete if, before we took leave of it, we neglected to observe that the fundamental fallacy with which we have been concerned arises not accidentally but systematically. It is an almost inevitable result, in fact, of the division of labor.

In a primitive community, or among pioneers, before the division of labor has arisen, a man works solely for himself or his immediate family. What he consumes is identical with what he produces. There is always a direct and immediate connection between his output and his satisfactions.

But when an elaborate and minute division of labor has set in, this direct and immediate connection ceases to exist. I do not make all the things I consume but, perhaps, only one of them. With the income I derive from making this one commodity, or rendering this one service, I buy all the rest. I wish the price of everything I buy to be low, but it is in my interest for the price of the commodity or services that I have to sell to be high. Therefore, though I wish to see abundance in everything else, it is in my interest for scarcity to exist in the very thing that it is my business to supply. The greater the scarcity, compared to everything else, in this one thing that I supply, the higher will be the reward that I can get for my efforts.

This does not necessarily mean that I will restrict my own efforts or my own output. In fact, if I am only one of a substantial number of people supplying that commodity or service, and if free competition exists in my line, this individual restriction will not pay me. On the contrary, if I am a grower of wheat, say, I want my particular crop to be as large as possible. But if I am concerned only with my own material welfare, and have no humanitarian scruples, I want the output of all other wheat growers to be as low as possible; for I want scarcity in wheat (and in any foodstuff that can be substituted for it) so that my particular crop may command the highest possible price.

Ordinarily these selfish feelings would have no effect on the total production of wheat. Wherever competition exists, in fact, each producer is compelled to put forth his utmost efforts to raise the highest possible crop on his own land. In this way the forces of self-interest (which, for good or evil, are more persistently powerful than those of altruism) are harnessed to maximum output.

But if it is possible for wheat growers or any other group of producers to combine to eliminate competition, and if the government permits or encourages such a course, the situation changes. The wheat growers may be able to persuade the national government—or, better, a world organization—to force all of them to reduce pro rata the acreage planted to wheat. In this way they will bring about a shortage and raise the price of wheat; and if the rise in the price per bushel is proportionately greater, as it well may be, than the reduction in output, then the wheat growers as a whole will be better off. They will get more money; they will be able to buy more of everything else. Everybody else, it is true, will be worse off; because, other things equal, everyone else will have to give more of what he produces to get less of what the wheat grower produces. So the nation as a whole will be just that much poorer. It will be poorer by the amount of wheat that has not been grown. But those who look only at the wheat farmers will see a gain, and miss the more than offsetting loss.

And this applies in every other line. If because of unusual weather conditions there is a sudden increase in the crop of oranges, all the consumers will benefit. The world will be richer by that many more oranges. Oranges will be cheaper. But that very fact may make the orange growers as a group poorer than before, unless the greater supply of oranges compensates or more than compensates for the lower price. Certainly if under such conditions my particular crop of oranges is no larger than usual, then I am certain to lose by the lower price brought about by general plenty.

And what applies to changes in supply applies to changes in demand, whether brought about by new inventions and discoveries or by changes in taste. A new cotton-picking machine, though it may reduce the cost of cotton underwear and shirts to everyone, and increase the general wealth, will throw thousands of cotton pickers out of work. A new textile machine, weaving a better cloth at a faster rate, will make thousands of old machines obsolete, and wipe out part of the capital value invested in them, so making poorer the owners of those machines. The development of atomic power, though it could confer unimaginable blessings on mankind, is something that is dreaded by the owners of coal mines and oil wells.

Just as there is no technical improvement that would not hurt someone, so there is no change in public taste or morals, even for the better, that would not hurt someone. An increase in sobriety would put thousands of bartenders out of business. A decline in gambling would force croupiers and racing touts to seek more productive occupations. A growth of male chastity would ruin the oldest profession in the world.

But it is not merely those who deliberately pander to men’s vices who would be hurt by a sudden improvement in public morals. Among those who would be hurt most are precisely those whose business it is to improve those morals. Preachers would have less to complain about; reformers would lose their causes: the demand for their services and contributions for their support would decline. If there were no criminals we should need fewer lawyers, judges and firemen, and no jailers, no locksmiths, and (except for such services as untangling traffic snarls) even no policemen.

Under a system of division of labor, in short, it is difficult to think of a greater fulfillment of any human need which would not, at least temporarily, hurt some of the people who have made investments or painfully acquired skill to meet that precise need. If progress were completely even all around the circle, this antagonism between the interests of the whole community and of the specialized group would not, if it were noticed at all, present any serious problem. If in the same year as the world wheat crop increased, my own crop increased in the same proportion; if the crop of oranges and all other agricultural products increased correspondingly, and if the output of all industrial goods also rose and their unit cost of production fell to correspond, then I as a wheat grower would not suffer because the output of wheat had increased. The price that I got for a bushel of wheat might decline. The total sum that I realized from my larger output might decline. But if I could also because of increased supplies buy the output of everyone else cheaper, then I should have no real cause to complain. If the price of everything else dropped in exactly the same ratio as the decline in the price of my wheat, I should be better off, in fact, exactly in proportion to my increased total crop; and everyone else, likewise, would benefit proportionately from the increased supplies of all goods and services.

But economic progress never has taken place and probably never will take place in this completely uniform way. Advance occurs now in this branch of production and now in that. And if there is a sudden increase in the supply of the thing I help to produce, or if a new invention or discovery makes what I produce no longer necessary, then the gain to the world is a tragedy to me and to the productive group to which I belong.

Now it is often not the diffused gain of the increased supply or new discovery that most forcibly strikes even the disinterested observer, but the concentrated loss. The fact that there is more and cheaper coffee for everyone is lost sight of; what is seen is merely that some coffee growers cannot make a living at the lower price. The increased output of shoes at lower cost by the new machine is forgotten; what is seen is a group of men and women thrown out of work. It is altogether proper—it is, in fact, essential to a full understanding of the problem—that the plight of these groups be recognized, that they be dealt with sympathetically, and that we try to see whether some of the gains from this specialized progress cannot be used to help the victims find a productive role elsewhere.

But the solution is never to reduce supplies arbitrarily, to prevent further inventions or discoveries, or to support people for continuing to perform a service that has lost its value. Yet this is what the world has repeatedly sought to do by protective tariffs, by the destruction of machinery, by the burning of coffee, by a thousand restriction schemes. This is the insane doctrine of wealth through scarcity.

It is a doctrine that may always be privately true, unfortunately, for any particular group of producers considered in isolation—if they can make scarce the one thing they have to sell while keeping abundant all the things they have to buy. But it is a doctrine that is always publicly false. It can never be applied all around the circle. For its application would mean economic suicide.

And this is our lesson in its most generalized form. For many things that seem to be true when we concentrate on a single economic group are seen to be illusions when the interests of everyone, as consumer no less than as producer, are considered.

To see the problem as a whole, and not in fragments: that is the goal of economic science.

[24] George Santayana, The Realm of Truth (1938), p. 16.

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