Regime Uncertainty, Then and Now - Robert Higgs

In a 1997 article, “Regime Uncertainty: Why the Great Depression Lasted So Long and Why Prosperity Resumed After the War”, I advanced the idea of regime uncertainty in an attempt to improve our understanding of the Great Depression’s extraordinary duration and of the highly successful postwar transition to a genuinely prosperous market-oriented economy. The idea is more definite than the hoary but vague idea of “business confidence,” though they’re related.

In my conception regime uncertainty pertains above all to a pervasive uncertainty about the property-rights regime—about what private owners can reliably expect the government to do in its actions that affect private owners’ ability to control the use of their property, to reap the income it yields, and to transfer it to others on mutually acceptable terms. Will the government simply take over private property? Will it leave titles in private hands but strip the owners of real control and profitable use of their properties? In any event the security of private property rights rests not only on the letter of the law but also on the character of the government officials who enforce—or threaten—presumptive rights.

Between 1935 and 1940 this matter attained prime importance. So many businessmen and investors lost confidence in their ability to forecast the future property-rights regime that few were willing to venture their money in long-term investments. They constantly sought clarification of the government’s designs, as President Franklin D. Roosevelt raged against “economic royalists” and blamed a “strike of capital” for the economy’s ongoing troubles, including the depression of 1937–38, which undermined the general public’s confidence in the New Deal.

Treasury Secretary Henry Morgenthau tried repeatedly to persuade Roosevelt to make a public statement to reassure investors, but the President steadfastly rejected this entreaty. Morgenthau ultimately became so frustrated that in a 1937 cabinet meeting, he blurted out to his boss: “What business wants to know is: Are we headed toward Socialism or are we going to continue on a capitalist basis?” Strange to say, Jim Farley and even Henry Wallace backed Morgenthau’s insistence that the President spell out what kind of economic system the administration sought to foster.

In his plea Morgenthau encapsulated the wide-ranging uncertainty that Lammont du Pont expressed in the same year, when he said: “Uncertainty rules the tax situation, the labor situation, the monetary situation, and practically every legal condition under which industry must operate. Are taxes to go higher, lower or stay where they are? We don’t know. Is labor to be union or non-union? . . . Are we to have inflation or deflation, more government spending or less? . . . Are new restrictions to be placed on capital, new limits on profits? . . . It is impossible to even guess at the answers.”

I doubt the regime uncertainty that a growing number of commentators and analysts have perceived since 2008 is as great as that of the latter 1930s. However, the government’s frantic actions in the past few years have surely shaken investors’ confidence about future property rights in the United States. The takeovers of Fannie Mae, Freddie Mac, AIG, GM, and Chrysler; the massive interventions in financial markets; the huge bailouts of banks and other financial institutions, mixed with letting Lehman Brothers go down while salvaging Bear Stearns—all these actions and many others suggest that a rational investor might well attach a huge risk premium to any money he ventures even for the intermediate term, not to mention the long term.

Moreover, the upsurge of the federal government’s size, scope, and power since the middle of 2008 has scarcely calmed investors’ minds. New taxes and higher rates of old taxes; potentially large burdens of compliance with new financial and energy regulations; unpredictable new mandatory health care expenses; new, intrinsically arbitrary government oversight of so-called systemic risks associated with any type of business—all these unsettling prospects and others of substantial significance must give pause to anyone considering a long-term investment, because any one of them has the potential to turn a seemingly profitable investment into a big loss.

The Current Picture

In testing my hypothesis about regime uncertainty, I have marshaled three distinct types of evidence: historical documentation of government actions and public reactions; findings of public-opinion surveys, especially surveys of businessmen; and financial-market data.

My most striking financial evidence for the New Deal episode pertains to the yield curve for corporate bonds—that is, to the spreads between the effective yields on high-grade corporate bonds of various maturities. I found that this yield curve suddenly became much steeper between the first quarter of 1934 and the first quarter of 1935 (when the New Deal lurched from its first, or business-tolerant, phase to its second, or business-hostile, phase) and remained very steep until it flattened between the first quarter of 1941 and the first quarter of 1942 (when the New Deal handed the reins to the military and the big businessmen who, along with the President, ran the war-command economy). I interpreted these extreme spreads from 1935 to 1941 as risk premiums on longer-term investments caused by regime uncertainty.

Does the corporate-bond yield curve show the same kind of shift during the past few years that it displayed in the face of the regime uncertainty that prevailed from 1935 to 1941? To find out I examined a number of series of corporate-bond yields by term to maturity.

I found that in 2008, before the onset of the financial panic in September, the corporate-bond yield curve was quite flat—that is, the yields increased only slightly with term to maturity. When the panic hit, yields became extremely volatile, especially for the bonds with two years to maturity (the shortest term in the data), and remained volatile for almost a year. After mid-2009 the volatility diminished. Once the dust had settled, the yield curve for corporate bonds had become substantially steeper.

Thus just as the steeper yield curve of the latter 1930s corresponds precisely with the so-called Second New Deal, when Roosevelt and his leading advisers went on the warpath against investors as a class, the steeper yield curve since mid-2009 corresponds with the bigger government left in the wake of the financial-market volatility and frenetic government action between September 2008 and the middle of 2009 and with the subsequent rash of extraordinary government measures.

Given the current regime uncertainty, investors will probably continue to remain for the most part on the sideline, protecting their wealth in cash hoards and low-risk, low-return, short-term investments and consuming wealth that might otherwise have been invested. Slow economic recovery, at best, will be the result.

 Read more and respond at The Freeman

- Ludwig von Mises - the laws of social cooperation

Economics is the youngest of all sciences. In the last two hundred years, it is true, many new sciences have emerged from the disciplines familiar to the ancient Greeks. However, what happened here was merely that parts of knowledge which had already found their place in the complex of the old system of learning now became autonomous. The field of study was more nicely subdivided and treated with new methods; hitherto unnoticed provinces were discovered in it, and people began to see things from aspects different from those of their precursors. The field itself was not expanded. But economics opened to human science a domain previously inaccessible and never thought of. The discovery of a regularity in the sequence and interdependence of market phenomena went beyond the limits of the traditional system of learning. It conveyed knowledge which could be regarded neither as logic, mathematics, psychology, physics, nor biology.

Philosophers had long since been eager to ascertain the ends which God or Nature was trying to realize in the course of human history. They searched for the law of mankind's destiny and evolution. But even those thinkers whose inquiry was free from any theological tendency failed utterly in these endeavors because they were committed to a faulty method. They dealt with humanity as a whole or with other holistic concepts like nation, race, or church. They set up quite arbitrarily the ends to which the behavior of such wholes is bound to lead. But they could not satisfactorily answer the question regarding what factors compelled the various acting individuals to behave in such a way that the goal aimed at by the whole's inexorable evolution was attained. They had recourse to desperate shifts: miraculous interference of the Deity either by revelation or by the delegation of God-sent prophets and consecrated leaders, preestablished harmony, predestination, or the operation of a mystic and fabulous "world soul" or "national soul." Others spoke of a "cunning of nature" which implanted in man impulses driving him unwittingly along precisely the path Nature wanted him to take. 

Other philosophers were more realistic. They did not try to guess the designs of Nature or God. They looked at human things from the viewpoint of government. They were intent upon establishing rules of political action, a technique, as it were, of government and statesmanship. Speculative minds drew ambitious plans for a thorough reform and reconstruction of society. The more modest were satisfied with a collection and systematization of the data of historical experience. But all were fully convinced that there was in the course of social events no such regularity and invariance of phenomena as had already been found in the operation of human reasoning and in the sequence of natural phenomena. They did not search for the laws of social cooperation because they thought that man could organize society as he pleased. If social conditions did not fulfill the wishes of the reformers, if their utopias proved unrealizable, the fault was seen in the moral failure of man. Social problems were considered ethical problems. What was needed in order to construct the ideal society, they thought, were good princes and virtuous citizens. With righteous men any utopia might be realized.

The discovery of the inescapable interdependence of market phenomena overthrew this opinion. Bewildered, people had to face a new view of society. They learned with stupefaction that there is another aspect from which human action might be viewed than that of good and bad, of fair and unfair, of just and unjust. In the course of social events there prevails a regularity of phenomena to which man must adjust his actions if he wishes to succeed. It is futile to approach social facts with the attitude of a censor who approves or disapproves from the point of view of quite arbitrary standards and subjective judgments of value. One must study the laws of human action and social cooperation as the physicist studies the laws of nature. Human action and social cooperation seen as the object of a science of given relations, no longer as a normative discipline of things that ought to be--this was a revolution of tremendous consequences for knowledge and philosophy as well as for social action.

For more than a hundred years, however, the effects of this radical change in the methods of reasoning were greatly restricted because people believed that they referred only to a narrow segment of the total field of human action, namely, to market phenomena. The classical economists met in the pursuit of their investigations an obstacle which they failed to remove, the apparent antinomy of value. Their theory of value was defective, and forced them to restrict the scope of their science. Until the late nineteenth century political economy remained a science of the "economic" aspects of human action, a theory of wealth and selfishness. It dealt with human action only to the extent that it is actuated by what was --very unsatisfactorily--described as the profit motive, and it asserted that there is in addition other human action whose treatment is the task of other disciplines. The transformation of thought which the classical economists had initiated was brought to its consummation only by modern subjectivist economics, which converted the theory of market prices into a general theory of human choice.

For a long time men failed to realize that the transition from the classical theory of value to the subjective theory of value was much more than the substitution of a more satisfactory theory of market exchange for a less satisfactory one. The general theory of choice and preference goes far beyond the horizon which encompassed the scope of economic problems as circumscribed by the economists from Cantillon, Hume, and Adam Smith down to John Stuart Mill. It is much more than merely a theory of the "economic side" of human endeavors and of man's striving for commodities and an improvement in his material well-being. It is the science of every kind of human action. Choosing determines all human decisions. In making his choice man chooses not only between various material things and services. All human values are offered for option. All ends and all means, both material and ideal issues, the sublime and the base, the noble and the ignoble, are ranged in a single row and subjected to a decision which picks out one thing and sets aside another. Nothing that men aim at or want to avoid remains outside of this arrangement into a unique scale of gradation and preference. The modern theory of value widens the scientific horizon and enlarges the field of economic studies. Out of the political economy of the classical school emerges the general theory of human action,praxeology. The economic or catallactic problems are embedded in a more general science, and can no longer be severed from this connection. No treatment of economic problems proper can avoid starting from acts of choice; economics becomes a part, although the hitherto best elaborated part, of a more universal science, praxeology.

In the new science everything seemed to be problematic. It was a stranger in the traditional system of knowledge; people were perplexed and did not know how to classify it and to assign it its proper place. But on the other hand they were convinced that the inclusion of economics in the catalogue of knowledge did not require a rearrangement or expansion of the total scheme. They considered their catalogue system complete. If economics did not fit into it, the fault could only rest with the unsatisfactory treatment that the economists applied to their problems.

It is a complete misunderstanding of the meaning of the debates concerning the essence, scope, and logical character of economics to dismiss them as the scholastic quibbling of pedantic professors. It is a widespread misconception that while pedants squandered useless talk about the most appropriate method of procedure, economics itself, indifferent to these idle disputes, went quietly on its way. In the Methodenstreit between the Austrian economists and the Prussian Historical School, the self-styled "intellectual bodyguard of the House of Hohenzollern," and in the discussions between the school of John Bates Clark and American Institutionalism much more was at stake than the question of what kind of procedure was the most fruitful one. The real issue was the epistemological foundations of the science of human action and its logical legitimacy. Starting from an epistemological system to which praxeological thinking was strange and from a logic which acknowledged as scientific--besides logic and mathematics--only the empirical natural sciences and history, many authors tried to deny the value and usefulness of economic theory. Historicism aimed at replacing it by economic history; positivism recommended the substitution of an illusory social science which should adopt the logical structure and pattern of Newtonian mechanics. Both these schools agreed in a radical rejection of all the achievements of economic thought. It was impossible for the economists to keep silent in the face of all these attacks.

The radicalism of this wholesale condemnation of economics was very soon surpassed by a still more universal nihilism. From time immemorial men in thinking, speaking, and acting had taken the uniformity and immutability of the logical structure of the human mind as an unquestionable fact. All scientific inquiry was based on this assumption. In the discussions about the epistemological character of economics, writers, for the first time in human history, denied this [p. 5] proposition too. Marxism asserts that a man's thinking is determined by his class affiliation. Every social class has a logic of its own. The product of thought cannot be anything else than an "ideological disguise" of the selfish class interests of the thinker. It is the task of a "sociology of knowledge" to unmask philosophies and scientific theories and to expose their "ideological" emptiness. Economics is a "bourgeois" makeshift, the economists are "sycophants" of capital. Only the classless society of the socialist utopia will substitute truth for "ideological" lies.

This polylogism was later taught in various other forms also. Historicism asserts that the logical structure of human thought and action is liable to change in the course of historical evolution. Racial polylogism assign to each race a logic of its own. Finally there is irrationalism, contending that reason as such is not fit to elucidate the irrational forces that determine human behavior.

Such doctrines go far beyond the limits of economics. They question not only economics and praxeology but all other human knowledge and human reasoning in general. They refer to mathematics and physics as well as to economics. It seems therefore that the task of refuting them does not fall to any single branch of knowledge but to epistemology and philosophy. This furnishes apparent justification for the attitude of those economists who quietly continue their studies without bothering about epistemological problems and the objections raised by polylogism and irrationalism. The physicist does not mind if someone stigmatizes his theories as bourgeois, Western or Jewish; in the same way the economist should ignore detraction and slander. He should let the dogs bark and pay no heed to their yelping. It is seemly for him to remember Spinoza's dictum: Sane sicut lux se ipsam et tenebras manifestat, sic veritas norma sui et falsi est.

However, the situation is not quite the same with regard to economics as it is with mathematics and the natural sciences. Polylogism and irrationalism attack praxeology and economics. Although they formulate their statements in a general way to refer to all branches of knowledge, it is the sciences of human action that they really have in view. They say that it is an illusion to believe that scientific research can achieve results valid for people of all eras, races, and social classes, and they take pleasure in disparaging certain physical and biological theories as bourgeois or Western, But if the solution of practical problems requires the application of these stigmatized doctrines, they forget their criticism. The technology of Soviet Russia utilizes without scruple all the results of bourgeois physics, chemistry, [p. 6] and biology just as if they were valid for all classes. The Nazi engineers and physicians did not disdain to utilize the theories, discoveries, and inventions of people of "inferior" races and nations. The behavior of people of all races, nations, religions, linguistic groups, and social classes clearly proves that they do not endorse the doctrines of polylogism and irrationalism as far as logic, mathematics, and the natural sciences are concerned.

But it is quite different with praxeology and economics. The main motive for the development of the doctrines of polylogism, historicism, and irrationalism was to provide a justification for disregarding the teachings of economics in the determination of economic policies. The socialists, racists, nationalists, and etatists failed in their endeavors to refute the theories of the economists and to demonstrate the correctness of their own spurious doctrines. It was precisely this frustration that prompted them to negate the logical and epistemological principles upon which all human reasoning both in mundane activities and in scientific research is founded.

It is not permissible to dispose of these objections merely on the ground of the political motives which inspired them. No scientist is entitled to assume beforehand that a disapprobation of his theories must be unfounded because his critics are imbued by passion and party bias. He is bound to reply to every censure without any regard to its underlying motives or its background. It is no less impermissible to keep silent in the face of the often asserted opinion that the theorems of economics are valid only under hypothetical assumptions never realized in life and that they are therefore useless for the mental grasp of reality. It is strange that some schools seem to approve of this opinion and nonetheless quietly proceed to draw their curves and to formulate their equations. They do not bother about the meaning of their reasoning and about its reference to the world of real life and action.

This is, of course, an untenable attitude. The first task of every scientific inquiry is the exhaustive description and definition of all conditions and assumptions under which its various statements claim validity. It is a mistake to set up physics as a model and pattern for economic research. But those committed to this fallacy should have learned one thing at least: that no physicist ever believed that the clarification of some of the assumptions and conditions of physical theorems is outside the scope of physical research. The main question that economics is bound to answer is what the relation of its statements is to the reality of human action whose mental grasp is the objective of economic studies. [p. 7]

It therefore devolves upon economics to deal thoroughly with the assertion that its teachings are valid only for the capitalistic system of the shortlived and already vanished liberal period of Western civilization. It is incumbent upon no branch of learning other than economics to examine all the objections raised from various points of view against the usefulness of the statements of economic theory for the elucidation of the problems of human action. The system of economic thought must be built up in such a way that it is proof against any criticism on the part of irrationalism, historicism, panphysicalism, behaviorism, and all varieties of polylogism. It is an intolerable state of affairs that while new arguments are daily advanced to demonstrate the absurdity and futility of the endeavors of economics, the economists pretend to ignore all this.

It is no longer enough to deal with the economic problems within the traditional framework. It is necessary to build the theory of catallactics upon the solid foundation of a general theory of human action, praxeology. This procedure will not only secure it against many fallacious criticisms but clarify many problems hitherto not even adequately seen, still less satisfactorily solved. There is, especially, the fundamental problem of economic calculation.

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Government the Job Killer - John Stossel

President Obama says government will have to build the nation out of the economic trough.

“We’re the country that built the intercontinental railroad,” Obama says. “So how can we now sit back and let China build the best railroads?”

I guess Obama doesn’t know that the transcontinental railroad was a Solyndra-like Big Government scandal. The railroad didn’t make economic sense at the time, so the government subsidized construction and gave the companies huge quantities of the best land on the continent. As we should expect, without market discipline—profit and loss—contractors ripped off the taxpayers. After all, if you get paid by the amount of track you lay, you’ll lay more track than necessary.

Crédit Mobilier, the first rail construction company, made enormous profits by overcharging for its work. To keep the subsidies flowing it made big contributions to congressmen.

Where have we heard that recently?

The transcontinental railroad lost tons of money. The government never covered its costs, and most rail lines that used the tracks went bankrupt or continued to be subsidized by taxpayers. The Union Pacific and Northern Pacific—all those rail lines we learned about in history class—milked the taxpayer and then went broke.

One line worked. The Great Northern never went bankrupt. It was the railroad that got no subsidies.

We need infrastructure, but the beauty of leaving most of these things to the private sector—without subsidies, bailouts, and other privileges—is that they would have to be justified by the profit-and-loss test. In a truly free market, when private companies make bad choices, investors lose their own money. This tends to make them careful.

By contrast when government loses money, it just spends more and raises your taxes, or borrows more, or inflates. Building giant government projects is no way to create jobs. When government spends on infrastructure, it takes money away from projects that consumers might think are more important. When government isn’t killing jobs by sucking money out of the private sector, it kills jobs by smothering the private sector with regulation. I talked to Peter Schiff about all this. Schiff is a good authority because he was one of the few people to warn of the housing bust. Now he’s had a run-in with the federal government over job creation.

Schiff, who operates a brokerage firm with 150 employees, recently complained to Congress that “regulations are running up the cost of doing business, and a lot of companies never even get started because they can’t overcome that regulatory hurdle.”

Schiff claims he would have hired a thousand more people but for regulations.

“I had a huge plan to expand. I wanted to open up a lot of offices. I had some capital to do it. I had investors lined up. My business was doing really well. But unfortunately, because of the regulations in the securities industry, I was not able to hire.”

People don’t appreciate the number of regulations entrepreneurs face. Schiff pays ten people just to try to figure out if his company is obeying the rules.

“Even my brokers . . . find out that maybe 20 percent, 30 percent of their day is involved in compliance-related activity, activity that is inhibiting their productivity. . . . All around the country, people are complying with regulations instead of producing, instead of investing and growing the economy. They’re trying to survive the regulations,” he said.

This is no way to create jobs or wealth. Keynesian pundits and politicians can’t understand why businesses sit on cash rather than invest and hire unemployed workers. It’s really no mystery. Government is in the way.

 Read more and respond at The Freeman

Obamacare Abominations

John Stossel

People who are ignorant of economics are susceptible to all sorts of misunderstandings. Fortunately knowledge of even just the basics of sound economics is a powerful inoculant against many dangerous falsehoods and half-truths.

This fact, however, does not imply that exposure to more economics is necessarily good. The sad reality is that economists too often present their analyses of markets in ways that confuse not only unsuspecting non-economists but also—and too often—economists themselves.

A frequently encountered instance of this confusion is economists’ discussion of competition. What introductory economics textbooks describe as “perfect” (or “pure”) competition resembles nothing that occurs in the real world. In the world of the textbooks, firms don’t differentiate their products from those of their rivals. Firms never try to win more customers by improving the quality of their products. Also, firms don’t advertise. Indeed they don’t even cut prices because each “perfectly competitive” firm is a “price taker”: It’s too small to affect the market price and so can sell as much as it wishes at whatever price prevails in the market.

These and other problems with the model of “perfect competition” have been pointed out repeatedly, especially by economists steeped in the Austrian tradition—see, for example, Hayek’s essay “The Meaning of Competition.” Yet the typical economist still clings to the notion that “perfect competition” is perfect competition. This typical economist, it must be admitted, does understand that the conditions necessary for “perfect competition” to prevail in actual markets can never exist. But the model remains the ideal against which real-world markets are judged. The closer real-world markets appear to be to textbook “perfectly competitive” markets, the more competitive real-world markets are assumed to be.

And competition being a good thing, this typical economist presumes that policies advertised as moving real-world markets closer to the “perfectly competitive” ideal are desirable.

Assumed Conclusions

But such a presumption is unwarranted, in part because many of the conclusions of the analysis are snuck into the model’s initial assumptions.

Most important among this model’s foundational assumptions is that competitive forces play out only in the form of price cuts. Therefore anything that prevents prices from being cut (down to levels that the model specifies as appropriate) is regarded as an obstacle to competition—indeed, as an element of monopoly that prevents the economy from operating more efficiently.

To this day, many mainstream economists describe any firm that can raise, even modestly, the price it charges for its product without driving away all of its customers as possessing some monopoly power.

Note the confusion: A pest-control producer that aims to increase its sales by making a better mousetrap is regarded by this model as behaving monopolistically! Competing for customers by doing something other than simply cutting prices is, according to the model, not competitive.

You can’t make this stuff up.

Another example of how economists commonly confuse themselves (and others) involves the issue of “market failure.” That same introductory economics textbook that teaches the model of “perfect competition” explains a few chapters later that markets perform suboptimally whenever some groups of people act in ways that affect other groups of people without the consent of these third parties. The textbook then explains that, happily, economists know how to design taxes or regulations to fix the problem.

Externalities and Assumptions

Such situations—economists call them “externalities”—are indeed bad. If Smith pays Jones to hit me in the head with a hammer without my consent, I—the third party—am unquestionably made worse off. (A simple, and best, solution in this case is to give me an enforceable property right in my person: No one can hit me and get away with it without my consent.)

But the stories that economists typically tell of externalities—and of how to “solve” them—too loosely sneak in illegitimate assumptions.

Here’s an example: Smith pays Jones for pork chops whose production at Jones’s pig farm next door to where I live fills my house with obnoxious odors. The economist leaps to the conclusion that I am wronged. Perhaps I am. But suppose that I bought my house knowing that it was next door to a pig farm. Am I still wronged? No: The price I paid for my house was discounted because of its location within smelling distance of the farm. Not only have I consented to endure swinish odors in my home, I’ve been compensated for doing so (in the form of a lower price than that of a similar home located in a sweeter-smelling neighborhood).

Or suppose, alternatively, that the pig farm moves into my neighborhood by surprise, after I buy my house. Now am I harmed? The answer is unclear. If the location of my house is such that homebuyers should reasonably expect the possibility that farms might set up shop nearby, then when I bought my house there was an open question about whether or not home-owners have the right to odor-free air in the neighborhood. And because this question cannot be answered by economics alone, it’s illegitimate for an economist to conclude that the farm necessarily should be taxed or regulated for the purpose of cleansing the neighborhood air of stinky odors.

The Largest Externalities

Economists are correct to point out that externalities exist. But economists are far too frivolous in going about labeling this or that effect an “externality”—and, what is even worse, are far too glib in supposing that government can be trusted to “internalize” externalities in ways that improve the allocation of resources rather than making it worse.

Don’t forget what too many economists seem never to grasp: Collective decision-making itself—from citizens voting to politicians spending taxpayers’ money—is infected with what are perhaps the largest and most intractable externalities. Costs are imposed on third parties constantly.

Economics done properly would highlight the dangers of trying to cure externalities with a process that itself is deeply infected with externalities. Unfortunately economics is too often done improperly.

Read more and respond at The Freeman

Fearing Hayek - Sheldon Richman

Economics and business reporter David Warsh is getting much attentionfor suggesting that F. A. Hayek, far from being one of the two most prominent economists of the 1930s—the other being Keynes—is rather more like the woman who was thought to have won the Boston marathon in 1980 when in fact she had joined the race, mostly unnoticed, a half-mile from the finish line.

Hayek’s fans “have jumped a caricature out of the bushes late in the day and claim that their guy ran a great race,” Warsh writes.

“But the fact remains that Hayek just didn’t contribute very much to the development of technical economics,” he continues.

Warsh, whom we may judge by the fact that he calls The Road to Serfdom“an embarrassment,” nonetheless does have some positive things to say about the 1974 Nobel laureate: “With the publication of ‘The Use of Knowledge in Society’ in the American Economic Review in 1945, he essentially won on the ‘calculation debate,’ conducted with Ludwig von Mises and Oscar Lange, concerning the possibility of central planning.”

Considering how many respectable economists favored central planning—essentially the abolition of spontaneous competitive markets—until fairly recently, that would seem to be no mean feat. He also said that “Hayek himself may yet turn out to have been a very great economist after all” because of his work showing “that markets are fundamentally evolutionary mechanisms. . . .” Warsh even suggests that Hayek may be misjudged today because (quoting David Colander) he “was running a different race” from most other economists. We’ll get back to this point.

As McGill University professor Jacob T. Levy surmises, not everyone eager to dismiss Hayek as a lightweight read Warsh’s post to the end. Take Paul Krugman, ever ready to trash anyone who doubts that Keynes was the fount of all wisdom: “David Warsh finally says what someone needed to say: Friedrich Hayek is not an important figure in the history of macroeconomics. . . . [T]he Hayek thing is almost entirely about politics rather than economics. Without The Road To Serfdom—and the way that book was used by vested interests to oppose the welfare state—nobody would be talking about his business cycle ideas.”

The Hayekian wing of the blogosphere has responded in force, and properly so. A common theme is that Hayek furnished the grounds for a proper skepticism about macroeconomics, the branch of economics launched by Keynes that treats large statistical aggregates (demand, income, unemployment, and so on) as though they were concrete entities that interact with each other according to fixed quantitative rules rather than historical “summations” of individual purposeful actions in a particular institutional context. As Hayek wrote, “Mr. Keynes’ aggregates conceal the most fundamental mechanisms of change.” (See Steven Horwitz’s “Mr. Keynes’s Aggregates.”)

George Mason University (GMU) professor (and FEE trustee) Peter Boettke wrote at Coordination Problem:

Hayek’s influence in modern economics is ubiquitous, even if sadly modern economics is not as Hayekian as I would like it to be. Information economics, theories of dynamic competition, equilibrium theory of the business cycle, and complexity theory all owe a debt to Hayek’s economic contributions. The work on legal origins owes a debt to Hayek’s work on law and political-social philosophy as well. Hayek impacts the DNA of economics and political economy to such an extent that many are unaware of the pervasive influence. . . .

The final problem I have with both Krugman and Warsh is that they don’t actually consult the historical record and the accounts of those who were there in the 1930s when the battle was engaged or the direct citation evidence from post-WWII thinkers. . . . Instead they rely on impressionistic accounts from their education and discourse communities, and cherry-pick from recent journalistic histories of economics.

And there’s this from GMU professor Alex Tabarrok at Marginal Revolution:

 It is true that many of Hayek’s specific ideas about business cycles vanished from the mainstream discussion under the Keynesian juggernaut but what Krugman and Warsh miss is that Hayek’s vision of how to think about macroeconomics came back with a vengeance in the 1970s. . . .

Hayek was an important inspiration in the modern program to build macroeconomics on microfoundations.

GMU’s Russ Roberts responded this way at Café Hayek:

Was Hayek an important macroeconomist? I would argue that the macroeconomic skepticism of the later Hayek is more valuable than the macroeconomic theorizing of the early Hayek. But he wasn’t an important macroeconomist in the mainstream sense of the title. So what? That’s a badge of honor. He was merely a great economist, without any prefix.

There are others, but I will close with a post written by New York University’s Mario Rizzo, one of the most perceptive people I know, at ThinkMarkets. Remember the remark above that “It could have been that Hayek was running a different race”? That’s Rizzo’s take:

I think the real issue is this. Hayek’s approach attacks, root-and-branch, the macroeconomic way of thinking. It is not simply a challenge to a particular theory of the determinants of mass unemployment, inflation, business cycles and the like. Hayek is not accepting the rules of the game or the parameters of the sub-discipline of modern macroeconomics. . . .

In short, he does not want to focus on aggregate spending and aggregate consequences. Hayek’s approach says: Let us pierce the veil of aggregates and look at the distortive effects on relative prices and relative output produced by boom-time credit expansions. Let us look at the distortive effects that booms leave us as we work our way through a recession. . . .

Suffice it to say this greatly erodes the intellectual capital of a field of economics—although one not noted for its successes. It mocks the claim that Keynes was a true revolutionary in economic thought. It opens the possibility that he was muddled, inconsistent and unaware of the contributions to monetary and business cycle theory made by the “classical economists” on the eve of the General Theory.

Hayek is important politically for demonstrating the practical social necessity of individual freedom. But he is just as important for what he taught us about markets: They provide the only way for human beings to overcome their individual deficiencies in knowledge, which would otherwise keep them from flourishing through social cooperation and the division of labor.

Read more and respond at The Freeman