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Peter Boettke on Austrian Economics
The professor of economics discusses the
contributions made by the Austrian School. He introduces recent books by
Austrians, explains what we can learn from Mises and Hayek, and argues
that economics is the sexiest subject
What is Austrian economics? How does it differ from standard economics?
Like a lot of things in economics, it’s the opponents that give the labels to people. The people who were practising economics at the University of Vienna thought they were just doing economics. It’s the critics who said, “Oh! That’s those Austrian economists.” It’s a label that gets to be associated with a set of propositions, both analytical – about the way you study economics, its methodology – and about the policy conclusions of economics. Representatives of that tradition came out of Vienna in the late 19th and early part of the 20th century. They then migrated to the London School of Economics, and to Switzerland, and eventually to the United States, where they held positions at places like Harvard, Princeton and Chicago. They coalesced around New York University, which became a hub of teaching Austrian economics.
So where are most Austrian economists now? Are they in the US?
It’s a worldwide movement, but I would say the place that has the strongest concentration of Austrian economists in the US is George Mason University. Outside the US, it’s probably Madrid, at King Juan Carlos University, and there is also Universidad Francisco Marroquin in Guatemala. Then there are a lot of people sprinkled here and there. It’s not necessarily full-blown Austrian economics. Here at George Mason as well, it becomes a mix and match of different ideas in economics that people find interesting.
Analytically, the biggest difference between the Austrians and their mainstream brethren is a focus on processes of adjustment and changing conditions, as opposed to static or equilibrium states of affairs. In a supply and demand curve, a standard economist would focus on the price and quantity vector that would clear the market. The Austrians want to talk about all the exchanges and activity that take place that results in that vector being discovered and the market being cleared.
Can you give an example?
Imagine if refrigeration wasn’t an option and you had some fish to sell. You start selling them at $10 a fish, and this many people buy the fish. After a while it slows down and you still have some fish remaining. As the day wears on you’re trying to get rid of the fish because they’re going to spoil. So you adjust your price down, you sell it at $8 a fish, or $6 a fish or $5 a fish. Eventually the market clears and all the fish find a buyer. In standard economics, we talk about the price and quantity vector that would clear that market, and the formal techniques of economics – a series of simultaneous equations – would get us to that vector. The Austrians don’t disagree with that price and quantity vector. But they want to talk about all the activity, a lot of which is what we call entrepreneurship – people adjusting the price, arbitrage opportunities and so on. Eventually you get to that vector, but your focus isn’t on the vector, it’s on all the stuff that goes on before it’s discovered.
From this example, and also from the books you’ve recommended, I get the sense that it’s a lot broader than regular economics?
Yes, because Austrians want to talk about the institutional environment within which economic activity takes place. They want to talk about cultural frames of reference that form the priors that rational actors have. They want to talk about the fact that we each have different priors, because we’re diverse individuals who have different perspectives on the world. Somehow, we have to reconcile these differences through the exchange processes in the market. So, the books series that I edit at Cambridge with Timur Kuran – it’s not an Austrian series, it’s just a straight-up economics series, but its title is “Cambridge Studies in Economics, Cognition and Society”. It’s a very broad notion of social science, of which economics is a part, rather than the idea that economics is somehow separated from all the social sciences.
Is Austrian economics considered “heterodox” by the mainstream establishment?
This is complicated because on the one hand it is. If you go to the official classifications in economics, and look up Austrian economics, it will be listed under modern heterodox economics. But in most cases, when people think of heterodox economics, it’s economics that challenges the basic presumptions of economists. So if you follow the debate that has been going on at Harvard, they had the walkout on Greg Mankiw’s class [Ec10, the basic economics class that Harvard offers as part of its core curriculum for undergraduates]. What the students object to is that Greg Mankiw teaches the invisible hand, ie how through the exchange process individual interests can be reconciled in the overall public interest. People think that’s too ideological. Then Steve Marglin [who teaches a course called Economics: A Critical Approach] did his talk on heterodox economics. He talks about the fact that markets are exploitative, there’s injustice, there’s irrationalities. For heterodox economists, markets don’t satisfy, they exploit. They deny the invisible hand. The Austrians don’t.
Imagine a two-by-two matrix, in which the rows are defined by whether you are dealing with a simple problem situation, or a complex problem situation. The columns are social order or social disorder. Then you look at the individuals pursuing their individual self-interest. What’s going to result? In simple problem situations – where agents are perfectly informed, they live in large number situations and are dealing with homogeneous products – you can get social order, because no one individual can influence the effect on any other individual. But once you introduce complexities into the system, the system no longer generates the invisible hand, and you can get disorder. So in a simple problem situation with free markets everything is popcorn and candy canes, and then we move to a complicated problem situation and we get unemployment and irrational exuberance etc. This is Keynesian economics and market failure theory – all very mainstream.
What Marxists believe is that even under simple problem situations, the market can’t do its job – you get monopolies, you get exploitation. Classical economists, Austrian economists, and New Institutional economists reside in the box that starts with a complex problem situation but nevertheless gets you social order. The way you do that is not based on the behavioural assumptions of the actors, but on the institutional assumptions underlying them, ie things like the political, legal and cultural context within which individuals engage and exchange. If that context is the right context, then even in the most difficult of situations, individuals can generate social order. They can cope with their ignorance, they can take care of uncertainty. When the market goes astray, it’s not because there is something wrong with the market mechanism, it’s because the rules under which the market mechanism operates have got distorted.
Are you saying mainstream economics can’t handle the complexities of the real world?
This is why methodology of the social sciences matters. It defines not only what we consider to be good questions, but probably more importantly what we consider acceptable answers. A lot of people within mainstream economics would like to handle complexity, and we see them constantly striving to do it, but they constrain their efforts by certain methodological straitjackets. They claim they have to fit things into formalistic models, otherwise it’s not a good answer. One of my favourite books is by Richard Nelson, who teaches at Columbia, about evolutionary economics. In that, he makes a distinction between what he calls “appreciative” theory and “formal” theory. What he means is that there is a theory that all economists agree to when they talk to one another about what goes on in markets, about entrepreneurship, about innovation.
Schumpeter uses the phrase “creative destruction”. For example, you have Tower Records, it does very well, then innovation comes in and eventually Tower Records goes out. We can tell the story about how markets operate in that way, and we can develop an appreciation for it. What we can’t do is put it in a model, and our formal, official theory is the modelling exercise. So there is this disjoint between the appreciative theory we can talk about, and the formal theory which limits what we can talk about to only those things that we can formally prove in a deductive model. Austrians aren’t challenging the appreciative theory of neo-classical economics. In fact they’re very much part of the neoclassical tradition. It’s just that the Austrians want to talk about things like dispersed knowledge, heterogeneity, uncertainty – not just risk, but real uncertainty – and institutions, how institutions arise to allow us to cope with our ignorance and our uncertainty and to ameliorate the frictions that exist in the world. Rather than seeing the frictions as the thing that destroys the model we have, or prima facie evidence that the market is not very efficient, they play a positive role.
Like a lot of things in economics, it’s the opponents that give the labels to people. The people who were practising economics at the University of Vienna thought they were just doing economics. It’s the critics who said, “Oh! That’s those Austrian economists.” It’s a label that gets to be associated with a set of propositions, both analytical – about the way you study economics, its methodology – and about the policy conclusions of economics. Representatives of that tradition came out of Vienna in the late 19th and early part of the 20th century. They then migrated to the London School of Economics, and to Switzerland, and eventually to the United States, where they held positions at places like Harvard, Princeton and Chicago. They coalesced around New York University, which became a hub of teaching Austrian economics.
So where are most Austrian economists now? Are they in the US?
It’s a worldwide movement, but I would say the place that has the strongest concentration of Austrian economists in the US is George Mason University. Outside the US, it’s probably Madrid, at King Juan Carlos University, and there is also Universidad Francisco Marroquin in Guatemala. Then there are a lot of people sprinkled here and there. It’s not necessarily full-blown Austrian economics. Here at George Mason as well, it becomes a mix and match of different ideas in economics that people find interesting.
Analytically, the biggest difference between the Austrians and their mainstream brethren is a focus on processes of adjustment and changing conditions, as opposed to static or equilibrium states of affairs. In a supply and demand curve, a standard economist would focus on the price and quantity vector that would clear the market. The Austrians want to talk about all the exchanges and activity that take place that results in that vector being discovered and the market being cleared.
Can you give an example?
Imagine if refrigeration wasn’t an option and you had some fish to sell. You start selling them at $10 a fish, and this many people buy the fish. After a while it slows down and you still have some fish remaining. As the day wears on you’re trying to get rid of the fish because they’re going to spoil. So you adjust your price down, you sell it at $8 a fish, or $6 a fish or $5 a fish. Eventually the market clears and all the fish find a buyer. In standard economics, we talk about the price and quantity vector that would clear that market, and the formal techniques of economics – a series of simultaneous equations – would get us to that vector. The Austrians don’t disagree with that price and quantity vector. But they want to talk about all the activity, a lot of which is what we call entrepreneurship – people adjusting the price, arbitrage opportunities and so on. Eventually you get to that vector, but your focus isn’t on the vector, it’s on all the stuff that goes on before it’s discovered.
From this example, and also from the books you’ve recommended, I get the sense that it’s a lot broader than regular economics?
Yes, because Austrians want to talk about the institutional environment within which economic activity takes place. They want to talk about cultural frames of reference that form the priors that rational actors have. They want to talk about the fact that we each have different priors, because we’re diverse individuals who have different perspectives on the world. Somehow, we have to reconcile these differences through the exchange processes in the market. So, the books series that I edit at Cambridge with Timur Kuran – it’s not an Austrian series, it’s just a straight-up economics series, but its title is “Cambridge Studies in Economics, Cognition and Society”. It’s a very broad notion of social science, of which economics is a part, rather than the idea that economics is somehow separated from all the social sciences.
Is Austrian economics considered “heterodox” by the mainstream establishment?
This is complicated because on the one hand it is. If you go to the official classifications in economics, and look up Austrian economics, it will be listed under modern heterodox economics. But in most cases, when people think of heterodox economics, it’s economics that challenges the basic presumptions of economists. So if you follow the debate that has been going on at Harvard, they had the walkout on Greg Mankiw’s class [Ec10, the basic economics class that Harvard offers as part of its core curriculum for undergraduates]. What the students object to is that Greg Mankiw teaches the invisible hand, ie how through the exchange process individual interests can be reconciled in the overall public interest. People think that’s too ideological. Then Steve Marglin [who teaches a course called Economics: A Critical Approach] did his talk on heterodox economics. He talks about the fact that markets are exploitative, there’s injustice, there’s irrationalities. For heterodox economists, markets don’t satisfy, they exploit. They deny the invisible hand. The Austrians don’t.
Imagine a two-by-two matrix, in which the rows are defined by whether you are dealing with a simple problem situation, or a complex problem situation. The columns are social order or social disorder. Then you look at the individuals pursuing their individual self-interest. What’s going to result? In simple problem situations – where agents are perfectly informed, they live in large number situations and are dealing with homogeneous products – you can get social order, because no one individual can influence the effect on any other individual. But once you introduce complexities into the system, the system no longer generates the invisible hand, and you can get disorder. So in a simple problem situation with free markets everything is popcorn and candy canes, and then we move to a complicated problem situation and we get unemployment and irrational exuberance etc. This is Keynesian economics and market failure theory – all very mainstream.
What Marxists believe is that even under simple problem situations, the market can’t do its job – you get monopolies, you get exploitation. Classical economists, Austrian economists, and New Institutional economists reside in the box that starts with a complex problem situation but nevertheless gets you social order. The way you do that is not based on the behavioural assumptions of the actors, but on the institutional assumptions underlying them, ie things like the political, legal and cultural context within which individuals engage and exchange. If that context is the right context, then even in the most difficult of situations, individuals can generate social order. They can cope with their ignorance, they can take care of uncertainty. When the market goes astray, it’s not because there is something wrong with the market mechanism, it’s because the rules under which the market mechanism operates have got distorted.
Are you saying mainstream economics can’t handle the complexities of the real world?
This is why methodology of the social sciences matters. It defines not only what we consider to be good questions, but probably more importantly what we consider acceptable answers. A lot of people within mainstream economics would like to handle complexity, and we see them constantly striving to do it, but they constrain their efforts by certain methodological straitjackets. They claim they have to fit things into formalistic models, otherwise it’s not a good answer. One of my favourite books is by Richard Nelson, who teaches at Columbia, about evolutionary economics. In that, he makes a distinction between what he calls “appreciative” theory and “formal” theory. What he means is that there is a theory that all economists agree to when they talk to one another about what goes on in markets, about entrepreneurship, about innovation.
Schumpeter uses the phrase “creative destruction”. For example, you have Tower Records, it does very well, then innovation comes in and eventually Tower Records goes out. We can tell the story about how markets operate in that way, and we can develop an appreciation for it. What we can’t do is put it in a model, and our formal, official theory is the modelling exercise. So there is this disjoint between the appreciative theory we can talk about, and the formal theory which limits what we can talk about to only those things that we can formally prove in a deductive model. Austrians aren’t challenging the appreciative theory of neo-classical economics. In fact they’re very much part of the neoclassical tradition. It’s just that the Austrians want to talk about things like dispersed knowledge, heterogeneity, uncertainty – not just risk, but real uncertainty – and institutions, how institutions arise to allow us to cope with our ignorance and our uncertainty and to ameliorate the frictions that exist in the world. Rather than seeing the frictions as the thing that destroys the model we have, or prima facie evidence that the market is not very efficient, they play a positive role.
Let’s talk about your books. The first you’re recommending is Ludwig von Mises’s Human Action: A Treatise on Economics.
This is definitely a very broad book, looking at psychology, at
philosophy and so on. The title of the last chapter was my favourite:
“Economics and the Essential Problems of Human Existence”.
Do you believe that Michele Bachmann reads this book at the beach?
Put it this way, in the first chapter he starts off talking about “praxeology”, which is certainly a word I had to look up. And in my edition, he uses some words which aren’t just derived from Greek, but are actually in Greek. So I’m very impressed she can read it at the beach. It’s also about 1,000 pages long. I know you love this book, but I’m not sure how many people other than Michele Bachmann are going to be able to get through it, so give us some highlights.
Mises was not just some quack, he was a serious economist. He was named a distinguished fellow of the American Economics Association in 1969, and he won the highest medal for scientific achievement in his home country of Austria. There is a great article by Paul Samuelson on who would have won the Nobel Prize in economics if it had started the same year as the other Nobel Prizes, and Mises is on his list. This book was originally published by Yale University Press, and John Kenneth Galbraith wrote a review of it in The New York Times.
Mises made at least three significant contributions to economics. The first contribution is in money and business cycle theory. What Mises tried to show is how money is central to all exchanges, because in a monetary economy, goods trade for money and money trades for goods. Goods don’t trade directly with other goods. Since money is one-half of all exchanges, if you screw around with money, you’re going to screw around with all the exchanges in the economy. He postulated that when the government distorts the monetary unit, through the manipulation of money and credit, it can generate boom-and-bust cycles. So rather than the business cycle being inherent to capitalism, it’s a consequence of distortions caused by the manipulation of money and credit.
Hasn’t what just happened with the housing boom and bust proved the Austrians right then?
There’s a Wall Street Journal profile on me, in that vein. People do argue this. This is why Paul Krugman gets so incensed. You know you’re doing something right when people get really mad. There are technical issues involved here that make this more nuanced. I have an e-book called The House that Uncle Sam Built which is a short little piece directed at the general public that tries to tell this story, how the Austrian story is consistent with what we’ve seen.
Tell me about von Mises’s next contribution.
His second contribution was on the controversy over socialism, and whether it could engage in economic calculation. To put it simply, economic calculation helps you sort out – from the array of technologically feasible projects – those which are economic and those that aren’t. For example, you don’t want to build railroad tracks out of platinum, you want to build them out of steel. Platinum might well be technologically superior – smoother, longer-lasting – but it costs too much. The idea of socialism was to completely transcend the market economy, but if I don’t have prices and I don’t have exchange ratios established on the market because I have abolished commodity production, how am I going to know that I have to use steel?
Mises came in and said: Let’s assume that ends of socialism are highly desired – I’m not going to engage in a battle over ends. What is it socialists want to achieve? A burst of productivity, leading to an overcoming of the conflict between classes. What is their means to attain that goal? Collective ownership over the means of production. Rationalisation of production for direct use and not for exchange will produce this burst of productivity that will overcome scarcity and therefore the conflict between the classes. What Mises said was: Your means are in conflict with your ends, because you can’t engage in economic calculation. You’re not going to get rationalisation of production, you’re going to have endemic waste. He was the first person to demonstrate that. As the history of the Soviet system played out, including its early history from 1917-21, it seemed to play out Mises’s argument. Socialists were always making compromises with respect to their original plan, trying to jerry-rig it, and you get on this treadmill of economic reforms that characterise the entire Soviet period. Then, eventually, it unwinds in the late 1980s, and you even have people like [left-wing economist] Robert Heilbroner admitting that Mises was right.
Which is obvious with hindsight, but is worth pointing out was not necessarily clear at the time Mises was writing. The arguments that socialism was a better way of organising the economy were very persuasive at the time.
Mises makes his argument in 1920, but the socialist calculation debate really takes place, in the English language, in the 1930s, in the middle of the Great Depression. For a lot of economists, socialism is an alternative to the capitalist order, which they see falling apart in front of them. So they’re attracted to it. Then you have the 1940s, where you’re fighting a battle against Hitler. Your ally is the Soviet Union, which has gone from a peasant economy to a military contributor – an amazing transformation of an economy – and because of that is able to help defeat Hitler. After World War II, everyone understands socialism isn’t too pretty in the Soviet Union, and Stalin is not exactly a nice guy. But if only we could have democracy with it, it would be wonderful. That’s where Hayek eventually comes in and challenges this idea as well. But at the time Mises is writing, it’s not at all clear that capitalism is superior to socialism.
You’d better get on to his third contribution.
Mises’s third contribution is an argument about methodology in the social sciences. He argues that human sciences are different from the natural sciences. His methodological argument cut against the trend of the times, which was to move towards a unity of science approach – what’s right for physics is right across the board. Mises talks about methodological dualism. To communicate this simply, he used to say: “If you throw a rock into water it sinks; if you throw a stick into water it floats; if you throw a man into water he must decide whether to sink or swim.” What does that mean then for the way we approach the social sciences? If you think about economists, in the 18th and19th centuries – John Stuart Mill, David Hume, Adam Smith – they were philosophers. The way they reasoned was like a philosopher. When you get to the mid-20th century and you look at Paul Samuelson, he’s not a philosopher any more, he’s more like an engineer. His books look like engineering or chemistry books. There was a transformation of economics – it became a tool of social control.
To the Austrians, economics is not a tool of social control, it’s a framework for helping us understand humanity, its history, and our plight in the world. Hayek had a great phrase about this. He said that the curious task of economics is “to demonstrate to men how little they really know about what they imagine they can design”. Hayek’s Nobel Prize address was called “The Pretence of Knowledge”. He was going after the idea not only of socialism, but of large-scale macro models. Because in the mid-20th century, and going up through the 1970s, the economy was envisaged like a bathtub. One spigot was monetary policy and the other was fiscal policy, and an economist’s task was to turn those spigots on to make sure the water rose to the level in the bathtub that was consistent with full employment.
Mises and Hayek stood in complete opposition to that view. Even more so than Milton Friedman, because he’s arguing over which is more effective – fiscal or the monetary policy, but he’s still telling us we’re in control of the levers. What Mises and Hayek are saying is that that whole way of thinking about the economy reflects a pretence of knowledge – that we know what the full employment output level would be, that we know exactly how much water to let in, and how much to let out – whereas in reality, if we make a mistake with any of that, the water comes gushing out all over our bathroom floor, or it drains completely out and we have nothing.
The belief that social sciences should be like social physics is built on an assumption which Mises says you can’t make. Therefore you mischaracterise what the task of economics is – you send economics in a direction which is totally different from our heritage, of what we got from David Hume, Adam Smith, Jean-Baptiste Say and John Stuart Mill, and then Carl Menger, and then Mises, Hayek, and other people in the 20th century, like Jim Buchanan.
So your view is that the profession took a wrong turn with Paul Samuelson?
That would be the argument, yes.
And do you agree with it?
Personally, yes I do. But there were a lot of things going on leading to this, one of which was that Samuelson was the brightest boy on the block, and when the brightest boy on the block goes in one direction, everyone else follows him. We’re in the midst of the Great Depression and World War II and this is a promise that we can avoid these kinds of problems. Then, the profession was really becoming professionalised, in a way that previously it wasn’t. People like John Stuart Mill were gentleman scholars. It wasn’t this whole professoriate, these departments and tenure and all those battles. Keynesian economics, post-World War II, dominated the entire profession. Everyone became a Keynesian and at the graduate, elite levels, it became a totally Samuelsonian project.
Samuelson had the intellectual entrepreneurship to write both the Principles of Economics textbook – which became the standard textbook for freshmen – and the standard graduate textbook. He dominated both ends of the economics profession. It’s a phenomenal intellectual achievement, independent of what you think about the content. I think Samuelson is worthy of intellectual attention, I just think he sent us in a wrong direction.
This idea of Hayek’s that you can’t know much – is that what leads the Austrian school towards libertarianism? And isn’t this libertarian element the reason it’s embraced by the Tea Party? Though I detect from your tone, also in your email, that you don’t particularly enjoy that connection.
What the position makes you have is not libertarianism, or anything like that, but humility. The economist is nothing more than a student of society, and any economist that tries to represent themselves as a saviour of society should be subject to ridicule. Let me read to you from Adam Smith, the section with the invisible hand explanation. He’s with Mises and Hayek on this humility point, even though the book, An Inquiry into the Nature and Causes of the Wealth of Nations, is written as advice to statesmen:
“What is the species of domestic industry which his capital can employ [ie what he should invest in], and of which the produce is likely to be of the greatest value, every individual, it is evident, can, in his local situation, judge much better than any statesman or lawgiver can do for him. The statesman, who should attempt to direct private people in which manner they ought to employ their capitals, would not only load himself with a most unnecessary attention, but assume an authority which could safely be trusted, not only to no single person, but to no council or senate, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it.”
In The Theory of Moral Sentiments Smith calls him “the man of system” who is arrogant in his own conceit. Hayek comes back to this in an essay, “Individualism True and False”, and he tries to explain where the system goes. He writes:
“The main point about which there can be little doubt, is that Smith’s chief concern was not so much about what man can occasionally achieve when he was at his best, but that he should have as little opportunity as possible to do harm when he was at his worst. It would scarcely be too much to claim that the main merit of the individualism which he and his contemporaries advocated is that it is a system under which bad men can do least harm. It is a social system that does not depend for its functioning on our finding good men for running it, or on all men becoming better than they are now, but which makes use of men in all their given variety and complexity, sometimes good and sometimes bad, sometimes intelligent, and more often stupid. Their aim was a system under which it should be possible to grant freedom to all, instead of restricting it, as their French contemporaries wished, to ‘the good and the wise’.
“The chief concern of the great individualist writers was indeed to find a set of institutions by which man could be induced, by his own choice and from the motives which determined his ordinary conduct, to contribute as much as possible to the need of all others; and their discovery was that the system of private property did provide such inducements to a much greater extent than had yet been understood.”
That’s really the Austrian position. It doesn’t fit on a placard for a party to march with. Now we get to a situation which goes haywire for a variety of reasons. We have these big bailouts and the economy doesn’t kick back up to the extent that people thought it would, you have this big bill that’s out there in terms of the public debt. There’s an anger out there, that politics is no longer connected to the people, that it’s these special interest groups. The Tea Party aren’t just against Nancy Pelosi and Harry Reid, they’re not big fans of George W Bush, either. They want to penalise the guys on the right as well. They’re looking for people to read, and that say stuff that is somewhat similar, and they listen to Glenn Beck and they start reading Hayek. I just don’t think it’s relevant to the scholarly assessment of the ideas of Hayek to point out that Glenn Beck likes him, just like I wouldn’t look at Paul Krugman’s ideas differently because Rachel Maddow likes them.
It’s definitely the case that people have turned to Hayek and Mises as iconic figures. Mises stood against the tide of Keynesianism and animal spirits with his alternative theory about the manipulation of money and credit; he stood against the socialists. And they [the Tea Party] say, “Oh. Who was against socialism and who was against Keynesianism? Those are our theorists.” The critics of Austrian economics have used their recent popularity to try to tar and feather them. That’s why people like me get snarky in response. We shouldn’t, we should be more level-headed, and say, “OK, there’s good things about Austrian economics, there’s bad things about it, and all we’re trying to do is improve and go forward. We really just want to understand the economy.”
But to me, libertarianism is a by-product, not an assumption going in. If you look at Mises and Hayek, neither of them are natural rights thinkers. Most libertarianism – if you think about Ayn Rand or even Robert Nozick – derives from an individualist rights perspective. Mises and Hayek are all about consequentialism. If you can show them that the means of collective ownership would generate more successfully the ends of liberty, fraternity and equality, they’d say, “OK, yes, let’s have collectivism!” But because collectivist means undermine those goals, what they say is, “Maybe we ought to rethink this.”
Do you believe that Michele Bachmann reads this book at the beach?
Put it this way, in the first chapter he starts off talking about “praxeology”, which is certainly a word I had to look up. And in my edition, he uses some words which aren’t just derived from Greek, but are actually in Greek. So I’m very impressed she can read it at the beach. It’s also about 1,000 pages long. I know you love this book, but I’m not sure how many people other than Michele Bachmann are going to be able to get through it, so give us some highlights.
Mises was not just some quack, he was a serious economist. He was named a distinguished fellow of the American Economics Association in 1969, and he won the highest medal for scientific achievement in his home country of Austria. There is a great article by Paul Samuelson on who would have won the Nobel Prize in economics if it had started the same year as the other Nobel Prizes, and Mises is on his list. This book was originally published by Yale University Press, and John Kenneth Galbraith wrote a review of it in The New York Times.
Mises made at least three significant contributions to economics. The first contribution is in money and business cycle theory. What Mises tried to show is how money is central to all exchanges, because in a monetary economy, goods trade for money and money trades for goods. Goods don’t trade directly with other goods. Since money is one-half of all exchanges, if you screw around with money, you’re going to screw around with all the exchanges in the economy. He postulated that when the government distorts the monetary unit, through the manipulation of money and credit, it can generate boom-and-bust cycles. So rather than the business cycle being inherent to capitalism, it’s a consequence of distortions caused by the manipulation of money and credit.
Hasn’t what just happened with the housing boom and bust proved the Austrians right then?
There’s a Wall Street Journal profile on me, in that vein. People do argue this. This is why Paul Krugman gets so incensed. You know you’re doing something right when people get really mad. There are technical issues involved here that make this more nuanced. I have an e-book called The House that Uncle Sam Built which is a short little piece directed at the general public that tries to tell this story, how the Austrian story is consistent with what we’ve seen.
Tell me about von Mises’s next contribution.
His second contribution was on the controversy over socialism, and whether it could engage in economic calculation. To put it simply, economic calculation helps you sort out – from the array of technologically feasible projects – those which are economic and those that aren’t. For example, you don’t want to build railroad tracks out of platinum, you want to build them out of steel. Platinum might well be technologically superior – smoother, longer-lasting – but it costs too much. The idea of socialism was to completely transcend the market economy, but if I don’t have prices and I don’t have exchange ratios established on the market because I have abolished commodity production, how am I going to know that I have to use steel?
Mises came in and said: Let’s assume that ends of socialism are highly desired – I’m not going to engage in a battle over ends. What is it socialists want to achieve? A burst of productivity, leading to an overcoming of the conflict between classes. What is their means to attain that goal? Collective ownership over the means of production. Rationalisation of production for direct use and not for exchange will produce this burst of productivity that will overcome scarcity and therefore the conflict between the classes. What Mises said was: Your means are in conflict with your ends, because you can’t engage in economic calculation. You’re not going to get rationalisation of production, you’re going to have endemic waste. He was the first person to demonstrate that. As the history of the Soviet system played out, including its early history from 1917-21, it seemed to play out Mises’s argument. Socialists were always making compromises with respect to their original plan, trying to jerry-rig it, and you get on this treadmill of economic reforms that characterise the entire Soviet period. Then, eventually, it unwinds in the late 1980s, and you even have people like [left-wing economist] Robert Heilbroner admitting that Mises was right.
Which is obvious with hindsight, but is worth pointing out was not necessarily clear at the time Mises was writing. The arguments that socialism was a better way of organising the economy were very persuasive at the time.
Mises makes his argument in 1920, but the socialist calculation debate really takes place, in the English language, in the 1930s, in the middle of the Great Depression. For a lot of economists, socialism is an alternative to the capitalist order, which they see falling apart in front of them. So they’re attracted to it. Then you have the 1940s, where you’re fighting a battle against Hitler. Your ally is the Soviet Union, which has gone from a peasant economy to a military contributor – an amazing transformation of an economy – and because of that is able to help defeat Hitler. After World War II, everyone understands socialism isn’t too pretty in the Soviet Union, and Stalin is not exactly a nice guy. But if only we could have democracy with it, it would be wonderful. That’s where Hayek eventually comes in and challenges this idea as well. But at the time Mises is writing, it’s not at all clear that capitalism is superior to socialism.
You’d better get on to his third contribution.
Mises’s third contribution is an argument about methodology in the social sciences. He argues that human sciences are different from the natural sciences. His methodological argument cut against the trend of the times, which was to move towards a unity of science approach – what’s right for physics is right across the board. Mises talks about methodological dualism. To communicate this simply, he used to say: “If you throw a rock into water it sinks; if you throw a stick into water it floats; if you throw a man into water he must decide whether to sink or swim.” What does that mean then for the way we approach the social sciences? If you think about economists, in the 18th and19th centuries – John Stuart Mill, David Hume, Adam Smith – they were philosophers. The way they reasoned was like a philosopher. When you get to the mid-20th century and you look at Paul Samuelson, he’s not a philosopher any more, he’s more like an engineer. His books look like engineering or chemistry books. There was a transformation of economics – it became a tool of social control.
To the Austrians, economics is not a tool of social control, it’s a framework for helping us understand humanity, its history, and our plight in the world. Hayek had a great phrase about this. He said that the curious task of economics is “to demonstrate to men how little they really know about what they imagine they can design”. Hayek’s Nobel Prize address was called “The Pretence of Knowledge”. He was going after the idea not only of socialism, but of large-scale macro models. Because in the mid-20th century, and going up through the 1970s, the economy was envisaged like a bathtub. One spigot was monetary policy and the other was fiscal policy, and an economist’s task was to turn those spigots on to make sure the water rose to the level in the bathtub that was consistent with full employment.
Mises and Hayek stood in complete opposition to that view. Even more so than Milton Friedman, because he’s arguing over which is more effective – fiscal or the monetary policy, but he’s still telling us we’re in control of the levers. What Mises and Hayek are saying is that that whole way of thinking about the economy reflects a pretence of knowledge – that we know what the full employment output level would be, that we know exactly how much water to let in, and how much to let out – whereas in reality, if we make a mistake with any of that, the water comes gushing out all over our bathroom floor, or it drains completely out and we have nothing.
The belief that social sciences should be like social physics is built on an assumption which Mises says you can’t make. Therefore you mischaracterise what the task of economics is – you send economics in a direction which is totally different from our heritage, of what we got from David Hume, Adam Smith, Jean-Baptiste Say and John Stuart Mill, and then Carl Menger, and then Mises, Hayek, and other people in the 20th century, like Jim Buchanan.
So your view is that the profession took a wrong turn with Paul Samuelson?
That would be the argument, yes.
And do you agree with it?
Personally, yes I do. But there were a lot of things going on leading to this, one of which was that Samuelson was the brightest boy on the block, and when the brightest boy on the block goes in one direction, everyone else follows him. We’re in the midst of the Great Depression and World War II and this is a promise that we can avoid these kinds of problems. Then, the profession was really becoming professionalised, in a way that previously it wasn’t. People like John Stuart Mill were gentleman scholars. It wasn’t this whole professoriate, these departments and tenure and all those battles. Keynesian economics, post-World War II, dominated the entire profession. Everyone became a Keynesian and at the graduate, elite levels, it became a totally Samuelsonian project.
Samuelson had the intellectual entrepreneurship to write both the Principles of Economics textbook – which became the standard textbook for freshmen – and the standard graduate textbook. He dominated both ends of the economics profession. It’s a phenomenal intellectual achievement, independent of what you think about the content. I think Samuelson is worthy of intellectual attention, I just think he sent us in a wrong direction.
This idea of Hayek’s that you can’t know much – is that what leads the Austrian school towards libertarianism? And isn’t this libertarian element the reason it’s embraced by the Tea Party? Though I detect from your tone, also in your email, that you don’t particularly enjoy that connection.
What the position makes you have is not libertarianism, or anything like that, but humility. The economist is nothing more than a student of society, and any economist that tries to represent themselves as a saviour of society should be subject to ridicule. Let me read to you from Adam Smith, the section with the invisible hand explanation. He’s with Mises and Hayek on this humility point, even though the book, An Inquiry into the Nature and Causes of the Wealth of Nations, is written as advice to statesmen:
“What is the species of domestic industry which his capital can employ [ie what he should invest in], and of which the produce is likely to be of the greatest value, every individual, it is evident, can, in his local situation, judge much better than any statesman or lawgiver can do for him. The statesman, who should attempt to direct private people in which manner they ought to employ their capitals, would not only load himself with a most unnecessary attention, but assume an authority which could safely be trusted, not only to no single person, but to no council or senate, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it.”
In The Theory of Moral Sentiments Smith calls him “the man of system” who is arrogant in his own conceit. Hayek comes back to this in an essay, “Individualism True and False”, and he tries to explain where the system goes. He writes:
“The main point about which there can be little doubt, is that Smith’s chief concern was not so much about what man can occasionally achieve when he was at his best, but that he should have as little opportunity as possible to do harm when he was at his worst. It would scarcely be too much to claim that the main merit of the individualism which he and his contemporaries advocated is that it is a system under which bad men can do least harm. It is a social system that does not depend for its functioning on our finding good men for running it, or on all men becoming better than they are now, but which makes use of men in all their given variety and complexity, sometimes good and sometimes bad, sometimes intelligent, and more often stupid. Their aim was a system under which it should be possible to grant freedom to all, instead of restricting it, as their French contemporaries wished, to ‘the good and the wise’.
“The chief concern of the great individualist writers was indeed to find a set of institutions by which man could be induced, by his own choice and from the motives which determined his ordinary conduct, to contribute as much as possible to the need of all others; and their discovery was that the system of private property did provide such inducements to a much greater extent than had yet been understood.”
That’s really the Austrian position. It doesn’t fit on a placard for a party to march with. Now we get to a situation which goes haywire for a variety of reasons. We have these big bailouts and the economy doesn’t kick back up to the extent that people thought it would, you have this big bill that’s out there in terms of the public debt. There’s an anger out there, that politics is no longer connected to the people, that it’s these special interest groups. The Tea Party aren’t just against Nancy Pelosi and Harry Reid, they’re not big fans of George W Bush, either. They want to penalise the guys on the right as well. They’re looking for people to read, and that say stuff that is somewhat similar, and they listen to Glenn Beck and they start reading Hayek. I just don’t think it’s relevant to the scholarly assessment of the ideas of Hayek to point out that Glenn Beck likes him, just like I wouldn’t look at Paul Krugman’s ideas differently because Rachel Maddow likes them.
It’s definitely the case that people have turned to Hayek and Mises as iconic figures. Mises stood against the tide of Keynesianism and animal spirits with his alternative theory about the manipulation of money and credit; he stood against the socialists. And they [the Tea Party] say, “Oh. Who was against socialism and who was against Keynesianism? Those are our theorists.” The critics of Austrian economics have used their recent popularity to try to tar and feather them. That’s why people like me get snarky in response. We shouldn’t, we should be more level-headed, and say, “OK, there’s good things about Austrian economics, there’s bad things about it, and all we’re trying to do is improve and go forward. We really just want to understand the economy.”
But to me, libertarianism is a by-product, not an assumption going in. If you look at Mises and Hayek, neither of them are natural rights thinkers. Most libertarianism – if you think about Ayn Rand or even Robert Nozick – derives from an individualist rights perspective. Mises and Hayek are all about consequentialism. If you can show them that the means of collective ownership would generate more successfully the ends of liberty, fraternity and equality, they’d say, “OK, yes, let’s have collectivism!” But because collectivist means undermine those goals, what they say is, “Maybe we ought to rethink this.”
Let’s get on to the book of essays by Friedrich Hayek that you’ve recommended, and you’ve already quoted from: Individualism and Economic Order.
He won the Nobel Prize for economics in 1974, and my understanding from
mainstream economists is that his big insight – particularly critical
for studying financial markets – is that prices don’t just reflect
supply and demand, but also information.
Yes, he has a famous essay called “The Use of Knowledge in Society”. What he tries to argue is that the price system systematically communicates dispersed information that you and I hold. If you and I go to the store, we’ll have different subjective preferences. We express those subjective preferences in trade-offs that we make when we buy some goods and not others. That gets communicated to other people via prices in the market – you don’t have to pick up the phone to find out. The subjective trade-offs that you and I make have become objective information for other people in making their trade-offs. The price system is a giant telecommunications system. It tells me about relative scarcities of goods. A classic example of this is gas prices over the last year. We don’t need to know whether there has been an increase in supply of gas or a decrease in demand.
Or what the political situation in the Middle East is.
No, all we need to know is that the price of gasoline has fallen quite a bit since the summer. Then, when I make a decision on whether to take a trip or not, because it’s a lot cheaper, I’ll likely increase my consumption of gasoline. This is all communicated through the price system without any of us having to know in detail what is going on.
But Hayek has an influence far beyond his own writings. In the recent financial crisis, the efficient market hypothesis has, it’s true, taken a beating, but you could point out that the kernel of truth in there is embedded in Hayek’s idea. The stock price gives full and complete information of what’s available on the market at that time, and that gets communicated through the system. Hayek also influenced information economics in general. There’s Leonid Hurwicz who won the Nobel Prize [in 2007] for his contribution to mechanism design theory. He was working on information processing. Hayek’s writings set off a research programme to study how it is that information gets communicated within a complex system, and a variety of different people have picked up on that, and worked with that idea and taken it in directions that even Hayek couldn’t have envisioned.
As a left-of-centre European, I was quite nervous about reading Hayek. But given the era he was writing in – the early to mid 20th century – when socialism was still considered a viable alternative to capitalism, the book seems pretty sensible. In fact there was nothing in it I particularly disagreed with.
And it’s not as if Hayek met leftist intellectuals and said, “Curse on you”. For example, Abba Lerner, a market socialist and author of The Economics of Control, wrote his doctoral dissertation [on which the book is based], under Hayek’s direction. Hayek is the antithesis of the idea of economics as control. Even those guys that went in directions different to Hayek are all trying to provide answers to him.
So he’s not right-wing?
I don’t think he considered himself on the right or on the left. He didn’t like socialism, so if socialism redefines the political landscape so that anyone who is a non-socialist is a right-winger, then Hayek is a right-winger, which is more or less the American context. We like to pick caricatures, and the debate in the US is not sophisticated. In Europe, Hayek is an old liberal, and he remains a European liberal throughout his whole life. He’s for restraint on the abuse of power by the state, he’s for the expansion of human liberties.
Yes, he has a famous essay called “The Use of Knowledge in Society”. What he tries to argue is that the price system systematically communicates dispersed information that you and I hold. If you and I go to the store, we’ll have different subjective preferences. We express those subjective preferences in trade-offs that we make when we buy some goods and not others. That gets communicated to other people via prices in the market – you don’t have to pick up the phone to find out. The subjective trade-offs that you and I make have become objective information for other people in making their trade-offs. The price system is a giant telecommunications system. It tells me about relative scarcities of goods. A classic example of this is gas prices over the last year. We don’t need to know whether there has been an increase in supply of gas or a decrease in demand.
Or what the political situation in the Middle East is.
No, all we need to know is that the price of gasoline has fallen quite a bit since the summer. Then, when I make a decision on whether to take a trip or not, because it’s a lot cheaper, I’ll likely increase my consumption of gasoline. This is all communicated through the price system without any of us having to know in detail what is going on.
But Hayek has an influence far beyond his own writings. In the recent financial crisis, the efficient market hypothesis has, it’s true, taken a beating, but you could point out that the kernel of truth in there is embedded in Hayek’s idea. The stock price gives full and complete information of what’s available on the market at that time, and that gets communicated through the system. Hayek also influenced information economics in general. There’s Leonid Hurwicz who won the Nobel Prize [in 2007] for his contribution to mechanism design theory. He was working on information processing. Hayek’s writings set off a research programme to study how it is that information gets communicated within a complex system, and a variety of different people have picked up on that, and worked with that idea and taken it in directions that even Hayek couldn’t have envisioned.
As a left-of-centre European, I was quite nervous about reading Hayek. But given the era he was writing in – the early to mid 20th century – when socialism was still considered a viable alternative to capitalism, the book seems pretty sensible. In fact there was nothing in it I particularly disagreed with.
And it’s not as if Hayek met leftist intellectuals and said, “Curse on you”. For example, Abba Lerner, a market socialist and author of The Economics of Control, wrote his doctoral dissertation [on which the book is based], under Hayek’s direction. Hayek is the antithesis of the idea of economics as control. Even those guys that went in directions different to Hayek are all trying to provide answers to him.
So he’s not right-wing?
I don’t think he considered himself on the right or on the left. He didn’t like socialism, so if socialism redefines the political landscape so that anyone who is a non-socialist is a right-winger, then Hayek is a right-winger, which is more or less the American context. We like to pick caricatures, and the debate in the US is not sophisticated. In Europe, Hayek is an old liberal, and he remains a European liberal throughout his whole life. He’s for restraint on the abuse of power by the state, he’s for the expansion of human liberties.
Let’s move to the present, and your last three books. You wanted to pick one of your own. What about The Elgar Companion to Austrian Economics?
The Elgar Companion is a big book with a lot of short essays about Austrian economics. My other books are much more about specific things, so, for example, I’ve written three books on the history and practice and collapse of socialism in the Soviet Union, and the transition from it. My book Calculation and Coordination is the last one on that, all essays in post-socialist transition. The easiest way to understand that book is that in order for us to go someplace, we have to go from here to there. If you ill-define where you started from, or where you’re going, your ride is going to be totally different. To move from socialism to capitalism, that’s a here to there idea. So we have to define, first and foremost, what the here and now is, what that system actually is like, and then where we want to go with it. Do we want to look like the US or Britain? Do we want to look like Sweden or Western Europe?
Part of what goes on in the book is trying to straighten out what socialism actually looks like at the point of its demise, because that’s our start state. What I try to show is that a lot of the mistakes that took place during the 1990s were because we didn’t define the start-state correctly. We also ill-defined the end-state, and as a consequence we got on the wrong bus for economic reforms. What I’m doing is trying to get the history right and then get the political economy analytics right, and then trying to use both of those to explain that from that original history it was logical that we ended up with the system that we ended up with, rather than the system that we wanted to end up with.
So if you ask a question which was a popular policy question at the beginning of the 2000s, which is “Who lost Russia?”, you can understand from my book that it was not because of the IMF or the World Bank. It’s because of political economy questions. That’s why the title is Calculation and Coordination, when you establish the institutions that permit economic calculation, you generate the advanced economic coordination that’s possible in a complex system. When you have institutions cutting against the ability to engage in economic calculation, don’t be surprised when people substitute out economic logic for political logic and as a result you get not economic coordination, but political interest groups that form and become dominant and control the system.
So you’ve chosen this book to demonstrate what modern Austrian economists are doing with the field?
Yes, I’m one representative. There are a whole bunch of people. Calculation and Coordination is an effort to take Austrian economics and apply it to a real world policy-relevant issue, which is the transition from communism to capitalism.
The Elgar Companion is a big book with a lot of short essays about Austrian economics. My other books are much more about specific things, so, for example, I’ve written three books on the history and practice and collapse of socialism in the Soviet Union, and the transition from it. My book Calculation and Coordination is the last one on that, all essays in post-socialist transition. The easiest way to understand that book is that in order for us to go someplace, we have to go from here to there. If you ill-define where you started from, or where you’re going, your ride is going to be totally different. To move from socialism to capitalism, that’s a here to there idea. So we have to define, first and foremost, what the here and now is, what that system actually is like, and then where we want to go with it. Do we want to look like the US or Britain? Do we want to look like Sweden or Western Europe?
Part of what goes on in the book is trying to straighten out what socialism actually looks like at the point of its demise, because that’s our start state. What I try to show is that a lot of the mistakes that took place during the 1990s were because we didn’t define the start-state correctly. We also ill-defined the end-state, and as a consequence we got on the wrong bus for economic reforms. What I’m doing is trying to get the history right and then get the political economy analytics right, and then trying to use both of those to explain that from that original history it was logical that we ended up with the system that we ended up with, rather than the system that we wanted to end up with.
So if you ask a question which was a popular policy question at the beginning of the 2000s, which is “Who lost Russia?”, you can understand from my book that it was not because of the IMF or the World Bank. It’s because of political economy questions. That’s why the title is Calculation and Coordination, when you establish the institutions that permit economic calculation, you generate the advanced economic coordination that’s possible in a complex system. When you have institutions cutting against the ability to engage in economic calculation, don’t be surprised when people substitute out economic logic for political logic and as a result you get not economic coordination, but political interest groups that form and become dominant and control the system.
So you’ve chosen this book to demonstrate what modern Austrian economists are doing with the field?
Yes, I’m one representative. There are a whole bunch of people. Calculation and Coordination is an effort to take Austrian economics and apply it to a real world policy-relevant issue, which is the transition from communism to capitalism.
You gave me two other examples as well. One was the The Invisible Hook, by Peter Leeson, which is a really fun book about pirates.
I gave you these two books because I think economics is both a deadly serious subject – ultimately it’s about life and death, whether people are living on $2 a day or if they can have longer and healthier lives – but it’s also this fascinating subject that you should read with a great smile on your face. As I tell my students, economics is the sexiest subject you will ever study.
I think The Invisible Hook does a fascinating job of communicating to people the enjoyment of just thinking through a problem like an economist. Pete takes on the organisation of pirate ships and points out how pirates represented a community in and of themselves. Even in a world of thieves, they had to respect rights in order to be able to coordinate with one another. He goes through and explains the elaborate methods by which they organised their activities on a ship. Those ships were not as small as we might think, the ventures actually required people of diverse ethnic backgrounds and sexual preferences, and yet somehow they came to work together. They signed actual constitutions among themselves. So it’s a fascinating read, it’s all about the secret economics of the pirates and how they organised their ventures, and how actually their ventures, a lot of times, were more humane than those of the Royal Navy.
Do you agree with his analysis, ultimately?
I’m persuaded by the economic logic. I don’t know enough about the history to offer an informed criticism of some of the things he might say. What carries the weight for me is the fact that he is pursuing the rational choice model and I can see the logic of what he is saying. But at some level, with this book, the people who would be the best judges of the empirical validity of what he’s arguing would be pirate historians. When I read his book, what compels me is the logic of his argument and then the history as illustrations of that logic, so I’m completely swept up in it – I find it this great story. If I knew more about pirates, I’m sure I’d have quibbles with him.
I loved his point about Blackbeard, probably the most fearsome pirate that ever lived. According to this book, Blackbeard did such a good job of looking scary and promoting his reputation for bloodthirstiness, that he never actually had to kill a single person.
Yes, there is a lot of stuff about signalling in the book – also why they show the Jolly Roger to protect their investment, the ship. Pete really makes economics come alive, to explain things that we normally wouldn’t think of as subject to economic analysis. He’s amazingly talented and he really does make economics jump off the pages for people who read him.
I gave you these two books because I think economics is both a deadly serious subject – ultimately it’s about life and death, whether people are living on $2 a day or if they can have longer and healthier lives – but it’s also this fascinating subject that you should read with a great smile on your face. As I tell my students, economics is the sexiest subject you will ever study.
I think The Invisible Hook does a fascinating job of communicating to people the enjoyment of just thinking through a problem like an economist. Pete takes on the organisation of pirate ships and points out how pirates represented a community in and of themselves. Even in a world of thieves, they had to respect rights in order to be able to coordinate with one another. He goes through and explains the elaborate methods by which they organised their activities on a ship. Those ships were not as small as we might think, the ventures actually required people of diverse ethnic backgrounds and sexual preferences, and yet somehow they came to work together. They signed actual constitutions among themselves. So it’s a fascinating read, it’s all about the secret economics of the pirates and how they organised their ventures, and how actually their ventures, a lot of times, were more humane than those of the Royal Navy.
Do you agree with his analysis, ultimately?
I’m persuaded by the economic logic. I don’t know enough about the history to offer an informed criticism of some of the things he might say. What carries the weight for me is the fact that he is pursuing the rational choice model and I can see the logic of what he is saying. But at some level, with this book, the people who would be the best judges of the empirical validity of what he’s arguing would be pirate historians. When I read his book, what compels me is the logic of his argument and then the history as illustrations of that logic, so I’m completely swept up in it – I find it this great story. If I knew more about pirates, I’m sure I’d have quibbles with him.
I loved his point about Blackbeard, probably the most fearsome pirate that ever lived. According to this book, Blackbeard did such a good job of looking scary and promoting his reputation for bloodthirstiness, that he never actually had to kill a single person.
Yes, there is a lot of stuff about signalling in the book – also why they show the Jolly Roger to protect their investment, the ship. Pete really makes economics come alive, to explain things that we normally wouldn’t think of as subject to economic analysis. He’s amazingly talented and he really does make economics jump off the pages for people who read him.
The last book you’ve recommended is After War: The Political Economy of Exporting Democracy, by Christopher Coyne.
This book is amazing. Coyne took on the topic of how successful the US can be at exporting democracy and the free market in after-war situations. This became a big venture in the 20th century, when the US became much more aggressive about this idea that we could intervene to try to help make other countries better off. Part of it was for geopolitical reasons – after 9/11 we believed that one of the things we had to do was make the Middle East more conducive to free markets and democracy, because then it’s less likely to generate terrorists. So then the question is, is that an effective strategy? Coyne takes the strategy as stated by the officials, and then assesses whether the means employed are successful. He uses a very low threshold, which is, after the US intervention, after the country is supposedly settled, does it meet the standard on the Polity Index of modern day Iran? What he found was that in US-led efforts, basically somewhere between two-thirds and three-quarters of the efforts failed to meet even that minimum standard.
Yes, I’m looking down his list of 30 or so invasions that have taken place, and it’s not looking too good.
Right. Everybody points to Japan and Germany, but he points out that before the war, Japan and Germany had very high measures of civil society. In most of these other places, what you’re trying to do is create civil society, and at the point of a gun is not a very good way to do it. So I think Coyne really does show the futility of our efforts. All these efforts at war – the loss of lives, the billions of dollars spent – got us what?
If only this book had been around before the invasion of Iraq. It could have saved more than 100,000 Iraqi lives.
That’s what you think, right? In Coyne, there is not a lightness to his pen, in the same way there is with Leeson. Leeson is dealing with an entertaining topic. Coyne is dealing with a deadly serious topic. Both of them are bringing to bear the kind of economics that comes out of Mises and Hayek, to address why it is people should care about economics and why it is that their caring should not lead them to be sombre and boring, but actually fun and enjoyable, while talking about very sad subjects sometimes.
Thinking through the conclusions of After War, I’m thinking that if the US wants to invade a country successfully, France would be a good choice.
Chris’s point, if you think about what he’s saying, is that imagine you have to put two pieces of a puzzle together. You have a piece and you have to find a piece that fits exactly in it. Chris is arguing that that bedrock of institutions is there prior to our intervention. When we try to intervene and press on them puzzle pieces that don’t fit with their bedrock of institutions, we get distortions. It’s like putting a square peg into a round hole – you’d have to force it, it wouldn’t really look too good, and your puzzle wouldn’t get completed. Because of this issue of underlying institutions, Japan and Germany were able to accept the puzzle pieces. That’s why he ends by saying it’s not going to be about war and imposition, but about trade and development. That’s what’s going to allow that cultural piece, that bedrock piece, to morph into a piece accepting of other pieces. All we can do is give them the opportunity to benefit from free exchange with other individuals. If you give people the freedom to choose, they’ll move in that direction, but what you don’t have is the ability to put a gun to the back of someone’s head and make them engage in freedom.
So if you’re writing a serious book of Austrian economics, it won’t need to have equations in it?
No. Most standard economics assumes that the relationships we are trying to understand can be captured by a continuous function that’s smooth and twice differentiable. What the Austrian analytics suggests is that life is not actually a continuous and smooth function that’s twice differentiable, but instead a lumpy function, a discrete function, in which there are all kinds of difficulties in the ability for us to model them the way our standard approach does. So, instead, what we engage in is discursive reasoning. You use the logic of economic action, the logic of choice, you worry about opportunity cost and presume individuals are doing the best that they can, given their situation. But notice, even in that phrase, you have to spend a lot of time specifying what that situation is. That situation is full of historical context and institutional details. A lot of your story is made up of the specification of the context in which economics decisions are made.
This book is amazing. Coyne took on the topic of how successful the US can be at exporting democracy and the free market in after-war situations. This became a big venture in the 20th century, when the US became much more aggressive about this idea that we could intervene to try to help make other countries better off. Part of it was for geopolitical reasons – after 9/11 we believed that one of the things we had to do was make the Middle East more conducive to free markets and democracy, because then it’s less likely to generate terrorists. So then the question is, is that an effective strategy? Coyne takes the strategy as stated by the officials, and then assesses whether the means employed are successful. He uses a very low threshold, which is, after the US intervention, after the country is supposedly settled, does it meet the standard on the Polity Index of modern day Iran? What he found was that in US-led efforts, basically somewhere between two-thirds and three-quarters of the efforts failed to meet even that minimum standard.
Yes, I’m looking down his list of 30 or so invasions that have taken place, and it’s not looking too good.
Right. Everybody points to Japan and Germany, but he points out that before the war, Japan and Germany had very high measures of civil society. In most of these other places, what you’re trying to do is create civil society, and at the point of a gun is not a very good way to do it. So I think Coyne really does show the futility of our efforts. All these efforts at war – the loss of lives, the billions of dollars spent – got us what?
If only this book had been around before the invasion of Iraq. It could have saved more than 100,000 Iraqi lives.
That’s what you think, right? In Coyne, there is not a lightness to his pen, in the same way there is with Leeson. Leeson is dealing with an entertaining topic. Coyne is dealing with a deadly serious topic. Both of them are bringing to bear the kind of economics that comes out of Mises and Hayek, to address why it is people should care about economics and why it is that their caring should not lead them to be sombre and boring, but actually fun and enjoyable, while talking about very sad subjects sometimes.
Thinking through the conclusions of After War, I’m thinking that if the US wants to invade a country successfully, France would be a good choice.
Chris’s point, if you think about what he’s saying, is that imagine you have to put two pieces of a puzzle together. You have a piece and you have to find a piece that fits exactly in it. Chris is arguing that that bedrock of institutions is there prior to our intervention. When we try to intervene and press on them puzzle pieces that don’t fit with their bedrock of institutions, we get distortions. It’s like putting a square peg into a round hole – you’d have to force it, it wouldn’t really look too good, and your puzzle wouldn’t get completed. Because of this issue of underlying institutions, Japan and Germany were able to accept the puzzle pieces. That’s why he ends by saying it’s not going to be about war and imposition, but about trade and development. That’s what’s going to allow that cultural piece, that bedrock piece, to morph into a piece accepting of other pieces. All we can do is give them the opportunity to benefit from free exchange with other individuals. If you give people the freedom to choose, they’ll move in that direction, but what you don’t have is the ability to put a gun to the back of someone’s head and make them engage in freedom.
So if you’re writing a serious book of Austrian economics, it won’t need to have equations in it?
No. Most standard economics assumes that the relationships we are trying to understand can be captured by a continuous function that’s smooth and twice differentiable. What the Austrian analytics suggests is that life is not actually a continuous and smooth function that’s twice differentiable, but instead a lumpy function, a discrete function, in which there are all kinds of difficulties in the ability for us to model them the way our standard approach does. So, instead, what we engage in is discursive reasoning. You use the logic of economic action, the logic of choice, you worry about opportunity cost and presume individuals are doing the best that they can, given their situation. But notice, even in that phrase, you have to spend a lot of time specifying what that situation is. That situation is full of historical context and institutional details. A lot of your story is made up of the specification of the context in which economics decisions are made.
Interview by
Sophie Roell 
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